living dangerously in this year too

• This was supposed to be a stress-free year for the global economy. By January the financial crisis had faded and Europe’s sovereign-debt crisis seemed less acute. America’s economy was resurgent. Investors piled into equities and sold some of the government bonds they’d bought for troubled times. If there was a worry, it was that emerging economies would grow too quickly, inflating commodity prices.
• The year without crisis is not to be. First, Arabian upheaval put oil markets on edge. Then earthquake, tsunami and a nuclear accident clobbered the world’s third-largest economy. How much of a setback to growth do these twin crises represent? And how should economic policymakers react to them?
• Japan’s share of world output has been shrinking for decades, but at 9% it remains large enough for the hit to the country’s growth to subtract noticeably from global output. Then there are the ripple effects on the rest of the world. Japan is a large—in some cases the sole—supplier of intermediate goods to the world’s electronics and automotive industries, from the hardened glass on Apple’s iPad to gearboxes in Volkswagens. Many makers of such parts have had to slow or halt shipments because of damaged roads, power cuts or the loss of components from their own suppliers. The effects have spread well beyond Japan, causing shutdowns from South Korea to Spain. Still, the history of such disasters is that much of that lost production is eventually recovered and reconstruction delivers a fillip to subsequent growth.
• Pinpointing the impact of Arab political turmoil is complicated by the fact that oil prices were already rising thanks to a brighter global economic outlook. Nonetheless, a good portion of this year’s 25% increase seems due to worries over supplies. A rule of thumb holds that a 10% increase in the price of oil trims 0.2 percentage points from global growth. At the start of the year, the world looked likely to grow by 4-4.5%. A crude estimate is that the two crises will subtract between a quarter and half a percentage point from that.
• That may not capture the full effect. Crises by their nature generate clouds of uncertainty . Businesses postpone capital spending and hiring until the clouds clear. Investors seek the safety of bonds and lose their taste for equities.
• Economic policymakers can’t make peace between Arab rulers and their people or stabilise Japan’s nuclear reactors, but they can minimise the collateral damage. The greatest burden is on the Bank of Japan. Its efforts to cure deflation over the past 15 years have too often been timid. That could not be said of its rapid response to the tsunami. It poured cash into the banking system in a pre-emptive strike against panic hoarding. And it expanded its purchases of government and corporate debt and equities. Still more “quantitative easing” can keep bond yields from rising as the government borrows for reconstruction, and help the fight against deflation.
• What should the rest of the world do? In a show of sympathy the G7 joined the Bank of Japan in selling the yen after it spiked dramatically. Such actions should be limited, however. Japan is too dependent on exports and its priority should be stimulating domestic demand and ending deflation, not cheapening the yen. A better way for outsiders to help is to ensure that concerns over radiation in Japanese products do not become an excuse for protectionism.
• Other central banks face a more complicated task. Even as higher oil prices and hobbled Japanese production reduce growth they add to mounting inflation risks (Britain is now fretting over inflation of 4.4%). But most rich-world economies have ample economic slack, and in several countries fiscal tightening will tug at recovery. Britain’s coalition government has reaffirmed its commitment to austerity with this week’s budget , and America has begun to cut spending. Both the Bank of England and the Federal Reserve should resist the temptation to tighten soon.
• The European Central Bank seems intent on raising interest rates next month. That would be a mistake. In the euro zone underlying inflation and wage growth are both subdued and inflation expectations are under control. By raising rates the ECB would strengthen the euro and frustrate the efforts of countries like Greece, Ireland and—the next in line for bailing out—Portugal to grow their way out of their debts.
• There is only so much economic policymakers can do about crises that spring from war or nature. In this case, the priority should be not making matters worse.

china is now happy

• The pursuit of happiness, runs one of the most consequential sentences ever penned, is an unalienable right. That Jeffersonian sentiment seems to have influenced even China’s normally strait-laced, rubber-stamp legislature, the National People’s Congress (NPC), which has just wrapped up its annual session. Increasing happiness, officials now insist, is more important than increasing GDP. A new five-year plan adopted at the meeting has been hailed as a blueprint for a “happy China”. The prime minister, Wen Jiabao, however, appeared downright miserable as he described the challenges he faces.
• At the end of the ten-day meeting, Mr Wen told journalists that his remaining two years in office would be “no easier” than the preceding eight. Keeping the “tiger” of inflation in its cage would be hard enough, he said (the NPC approved a target of 4% this year, compared with inflation of nearly 5% in February). But corruption was the “greatest danger”. A few days before the session began, the railways minister, Liu Zhijun, had been dismissed in connection with a huge bribe-taking scandal.
• The five-year plan called for 7% annual average growth in GDP between now and 2015, compared with a far-exceeded target of 7.5% set in 2006-10. Mr Wen said lowering growth without raising unemployment would be an “extremely big test”. But, he said, China had to change its pattern of economic growth, because it was (using a hallmark phrase) “unbalanced, unco-ordinated and unsustainable”.
• The idea of promoting happiness spread over the country like a huge grin early this year when provincial governments began laying out their own five-year plans. Guangdong province declared it would become “happy Guangdong”. Beijing (which is a province-level administration) said it wanted its citizens to lead “happy and glorious lives”. Chongqing municipality, another province-level area, said it wanted its people to be among the happiest in the country. Officials now often talk of setting up “happiness indices” by which government performance should be judged.
• The word’s popularity among bureaucrats is more an attempt to please leaders in Beijing and show sympathy for the less well-off than a sign of any real determination to change their ways. Many lower-level governments have continued to set investment-driven GDP-growth targets that are far higher than Mr Wen’s. Some of his goals, such as building another 36m subsidised homes by 2015, will require the co-operation of local governments. They are adept at evading such tasks.
• Mr Wen does not see political freedom as having much to do with happiness. In August last year he raised hopes among some liberal-minded intellectuals when he made a flurry of statements about the importance of political reform. Since then, the repression of dissidents has been stepped up. Dozens have been rounded up or put under surveillance in order to prevent them from responding to anonymous internet-circulated calls for an Arab-style “jasmine revolution” in China. To deter any protests, police security during the NPC was even heavier than usual.
• At his press conference, Mr Wen repeated some of the language he had used last August on the need for political reform. This included a warning that China’s economic gains could be wiped out if the country failed to reform politically. He also said people needed to be able to “criticise and supervise” the government. But he offered no guide to how this should happen, and stressed the need for change to be “gradual”, “orderly” and “under the leadership of the party”. He said it would be wrong to draw comparison between the situations in the Middle East and north Africa and that of China.
• The NPC’s chairman, Wu Bangguo, went further, telling delegates that the country faced an “abyss of internal disorder” if it strayed from the “correct political orientation”. He also declared China had achieved its goal of setting up a “socialist legal system with Chinese characteristics”. The Communist Party said in 1997 that it would do this by 2010, but never made it clear how progress would be assessed. China’s struggling band of independent lawyers, who are often spurned by courts and harassed by police for trying to defend victims of official wrongdoing, are probably not celebrating.
• The government’s crackdown on dissent apparently includes a strengthening of China’s internet firewall to make it more difficult to use software to evade blocks on sensitive foreign websites. Some websites in China recently carried a report that 11% of respondents to an opinion poll believed national happiness is boosted when they express themselves freely on the internet. If only they could

metals, banks will boost sensex further

• Japan’s government kept its assessment of the economy unchanged in a monthly report on Friday but warned of increasing downside risks to growth such as the strong yen and slowing overseas growth.
• China’s imports leapt in August, boding well for a strengthening of domestic demand in an economy that has become a major driver of global growth.
• Stocks rose and bonds fell on Thursday after stronger-than-expected U.S. data on jobless benefits and trade, raising hopes the tepid economic recovery would accelerate.
• The Basel Committee of central bank and regulatory officials is likely to complete talks on new Basel III capital standards by Sunday or Monday, German Finance Minister Wolfgang Schaeuble said on Thursday.
• There are no signs of a slowdown in India’s industrial output growth, senior finance ministry adviser Kaushik Basu said on Thursday.
• India, the world’s top consumer of sugar, has asked millers to apply for exports of the sweetener against imports of raws in the past, trade and government officials said on Thursday.
• Japan and India agreed on a free trade deal on Thursday which Tokyo said would lead to a 10-fold jump in trade flows as it eyes the fast-growing economy as a low-cost production centre and a market for exports.
• High inflation in India is expected to ease in coming months, reducing pressure on the Reserve Bank of India (RBI) to raise interest rates further.
• India’s wholesale price index in August probably rose 9.6 percent from a year earlier, easing from a rise of 9.97 percent in July. Forecasts from 15 economists ranged from 9.36 percent to 9.84 percent.
• Equity funds posted the biggest weekly inflows in more than a month in early September, reflecting some comfort with the global economic outlook, though fresh cash allocations showed the limits of risk taking, EPFR Global data showed on Friday.
• Asian stocks rose to a four-month high on Friday as some investors were inspired by positive U.S. and Japanese economic data to pick out bargains, with the shift to riskier assets weighing on the yen.
• World stocks kicked off September on a stronger note on Wednesday as data showed a manufacturing rebound in China and stronger-than-expected growth in Australia, while the yen held near recent 15-year peaks against the dollar.
•  India’s tax department has jurisdiction over tax bills in cross-border mergers, a court ruled, dismissing a petition by Vodafone(VOD.L) and setting a precedent for foreign firms looking to buy into Indian companies.
• U.S. President Barack Obama stood firm on Thursday in opposition to a Republican push to extend Bush-era tax cuts for the rich but stopped short of threatening to veto such a measure if passed by Congress.
• Advice may be nice, but backing it up with balance sheet can be key to winning M&A business for investment banks in India.
• Switzerland remains the world’s most competitive economy, while India dropped two places to 51, according to the World Economic Forum’s annual rankings issued on Thursday.

America, the euro zone and the emerging world are heading in different directions

• THIS year has turned out to be a surprisingly good one for the world economy. Global output has probably risen by close to 5%, well above its trend rate and a lot faster than forecasters were expecting 12 months ago. Most of the dangers that frightened financial markets during the year have failed to materialise. China’s economy has not suffered a hard landing. America’s mid-year slowdown did not become a double-dip recession. Granted, the troubles of the euro area’s peripheral economies have proved all too real. Yet the euro zone as a whole has grown at a decent rate for an ageing continent, thanks to oomph from Germany, the fastest-growing big rich economy in 2010.
• The question now is whether 2011 will follow the same pattern. Many people seem to think so. Consumer and business confidence is rising in most parts of the world; global manufacturing is accelerating; and financial markets are buoyant. The MSCI index of global share prices has climbed by 20% since early July. Investors today are shrugging off news far more ominous than that which rattled them earlier this year, from the soaring debt yields in the euro zone’s periphery to news of rising inflation in China.
• Earlier this year investors were too pessimistic. Now their breezy confidence seems misplaced. To oversimplify a little, the performance of the world economy in 2011 depends on what happens in three places: the big emerging markets, the euro area and America. (Yes, Japan is still an economic heavyweight, but it is less likely to yield surprises.) These big three are heading in very different directions, with very different growth prospects and contradictory policy choices. Some of this divergence is inevitable: even to the casual observer, India’s economy has always been rather different from America’s. But new splits are opening up, especially in the rich world, and with them come ever more chances for friction.
  
• Begin with the big emerging markets, by far the biggest contributors to global growth this year. From Shenzhen to São Paulo these economies have been on a tear. Spare capacity has been used up. Where it can, foreign capital is pouring in. Isolated worries about asset bubbles have been replaced by a fear of broader overheating. China is the prime example but by no means alone. With Brazilian shops packed with shoppers, inflation there has surged above 5% and imports in November were 44% higher than the previous year.
  
• Cheap money is often the problem. Though the slump of 2009 is a distant memory, monetary conditions are still extraordinarily loose, thanks, in many places, to efforts to hold down currencies (again, China leads in this respect). This combination is unsustainable. To stop prices accelerating, most emerging economies will need tighter policies next year. If they do too much, their growth could slow sharply. If they do too little, they invite higher inflation and a bigger tightening later. Either way, the chances of a macroeconomic shock emanating from the emerging world are rising steeply.
  
• The euro area is another obvious source of stress, this time financial as well as macroeconomic. In the short term growth will surely slow, if only because of government spending cuts. In core countries, notably Germany, this fiscal consolidation is voluntary, even masochistic. The embattled economies on the periphery, such as Ireland, Portugal and Greece, have less choice and a grim future. Empirical evidence suggests that countries in a currency union are unlikely to be able to improve their competitiveness quickly by screwing down wages and prices. Worse, the financial consequences of a shift to a world where a euro-area country can go bust are only just becoming clear. Not only do too many euro-zone governments owe too much, but Europe’s entire banking model, which is based on thorough integration across borders, may need revisiting . These difficulties would tax the most enlightened policymakers. The euro zone’s political leaders, alas, are a fractious and underwhelming lot. An even bigger mess seems all but certain in 2011.
• America’s economy, too, will shift, but in a different direction. Unlike Europe’s, America’s macroeconomic policy mix has just moved decisively away from austerity. The tax-cut agreement reached on December 7th by Barack Obama and congressional Republicans was far bigger than expected. Not only did it extend George Bush’s expiring tax breaks for two years, but it also added more than 2% of GDP in new breaks for 2011. When this is coupled with the continued bond-buying of the Federal Reserve, America is injecting itself with another dose of stimulus steroids just when Europe is checking into rehab and enduring cold turkey.
• The result of this could be that American output grows by as much as 4% next year. That is nicely above trend and enough to reduce unemployment, although not quickly. But America’s politicians are taking a risk, too. Even though their country’s long-term budget outlook is famously dire, Mr Obama and the Republicans did not even try to find an agreement on medium-term fiscal consolidation this week. Various proposals to fix the deficit look set to gather dust . Bondholders, who have been very forgiving of the printer of the world’s chief reserve currency, greeted the tax deal by selling Treasuries. Some investors, no doubt, see faster growth on the way; but a growing number are worried about the size of America’s fiscal hole. If those worries take hold, the United States could even see a bond-market bust in 2011.
• How much does this parting of the ways matter? The divergence between the world’s big three will compound the risks in each one. America’s loose monetary policy and concerns about sovereign defaults in the euro zone will encourage capital to flow to emerging economies, making the latter’s central banks reluctant to raise interest rates and dampen down inflation. Over the next five years emerging economies are expected to account for over 50% of global growth but only 13% of the increase in net global public debt. Rather than rebalancing, the world economy in the immediate future will skew even more between a debt-ridden West and thrifty East.
• The West avoided depression in part because Europe and America worked together and shared a similar economic philosophy. Now both are obsessed with internal problems and have adopted wholly opposite strategies for dealing with them. That bodes ill for international co-operation. Policymakers in Brussels will hardly focus on another trade round when a euro member is about to go bust. And it bodes ill for financial markets, since neither Europe’s sticking-plaster approach to the euro nor America’s “jam today, God knows what tomorrow” tactic with the deficit are sustainable.
  
• Of course, it does not have to be this way. Now they have splurged the cash, Mr Obama and Congress could move on to a medium-term plan to reduce the deficit. Europe’s feuding leaders could hash out a deal to put the single currency and the zone’s banking system on a sustainable footing. And the big emerging economies could allow their currencies to rise. But don’t bet on it. A more divided world economy could make 2011 a year of damaging shocks.

How the euro-zone outs are fighting to retain influence in the European Union?

• One fear of European Union members outside the euro, either by choice or because they are not ready to join it, has been that they will be cut out of the big decisions being taken in Brussels. One hope of many of the euro’s founder members was the obverse: that the club would become more politically and economically integrated. That original tension between wide consultation and tight integration is now bubbling over in arguments over whether the euro-zone heads of government should have regular summits.
• Poland, a leading euro “out”, was horrified when a leak revealed internal German correspondence on the “competitiveness pact” proposed by Chancellor Angela Merkel and the French president, Nicolas Sarkozy. This confirmed the danger of a two-speed Europe that locked out non-euro countries and sidelined the European Commission. Yet Poland sees Germany as its best friend in the EU.
• The Polish prime minister, Donald Tusk, made his dismay thunderingly clear. He has got somewhere as a result. “At the European Council, Tusk never gets angry; he’s trusted and a credible negotiator,” says Piotr Kaczynski of the Centre for European Policy Studies in Brussels. “So on the occasion when Tusk does shout, Brussels stops.” The compromise “pact for the euro” makes concessions, including a role for the commission.
• The Poles will continue to fight plans to move decision-making from the 27 to the 17, accepting the smaller group only for matters directly related to the euro. But they like the competitiveness pact’s structural reforms, such as reforming wage indexation. Jacek Rostowski, the finance minister, says “it’s good if all Europe wants it, not just something for emerging economies.” And there is some scepticism about the ability of 17 very different euro-zone countries to agree on new policies.
• Poland plans in principle to join the euro. The fear of isolation is keener in Denmark and Sweden, which want more say but are unlikely to join the single currency for a while. The adoption of the euro by such new members as Slovenia, Slovakia and now Estonia was a reminder of their dwindling influence. “It really rankles that they can’t get into important policy meetings,” says an Estonian diplomat.
• In fact the centre-right coalitions of Sweden and Denmark, unlike their counterpart in Britain, are eager to adopt the euro. But their voters are not persuaded. The Danes have twice voted against joining, once in a referendum on the Maastricht treaty in 1992 and again when they were asked to reconsider in 2000. Swedish voters similarly rejected the euro in a 2003 referendum. Now the risk of a two-speed EU, with Sweden and Denmark in the outer lane, has led to speculation about fresh referendums in both countries.
• The Danish prime minister, Lars Lokke Rasmussen, floated the possibility earlier this month, arguing that Denmark should ratchet up its European commitment before it takes over the EU’s rotating presidency next January. But the timing could hardly be worse. One opinion poll in February suggested that voters might agree to scrap their opt-outs (from judicial and security co-operation as well as the euro) only if all three were dealt with in a single referendum. And this was a rare positive blip in an anti-euro trend. A December poll by Denmark’s Danske Bank found fully 43.5% were definite noes and only 25.5% certain yeses—an 18-point lead. “I don’t believe the prime minister will call a referendum; the risk of a no is too high,” says Steen Bocian, the bank’s chief economist. Another complication is that Denmark must hold a general election by November—and Mr Lokke Rasmussen is trailing in the polls.
• The travails of the single currency have hardened anti-euro sentiment in Sweden too. Danes fear that without the krone they might have sunk into an Irish quagmire. Swedes are proud that their economy has thrived on the outside. Far from being in the slow lane, in the fourth quarter of 2010 it was the fastest-growing in the EU. For now, Sweden and Denmark will remain out. Their governments will back Poland in resisting a bigger role for the euro group.
• On the face of it, the prospect of regular euro-zone summits is a setback also for Germany. Economic government was a French idea, loaded with dirigiste menace and peril for the independence of the European Central Bank. Mrs Merkel has always been the sworn enemy of class distinctions within the EU. In 2008 she rejected calls for a two-speed Europe when Irish voters rejected the Lisbon treaty. “The unity of Europe is not something we want just for its own sake,” she declared. “It is a great good.” Moves in the direction of a euro-zone economic government look like a climbdown.Mrs Merkel would deny this. No new club is being formed, and any arrangement cooked up by the 17 will be open to the ten non-euro members as well. Far from opening a dangerous new division within the EU, the Germans think they are closing one: between competitive economies and the laggards that threaten the survival of the euro. If they have their way, this euro-zone summit may be the last.
• From Mrs Merkel’s point of view, the alternative was worse. Germany may have as much as €200 billion ($280 billion) of exposure to rescue schemes for wobbly euro members and that figure could climb. So will resistance from voters and some members of Mrs Merkel’s coalition. The euro has become the top political issue, says Frank Schäffler, a hawkish Bundestag member from the liberal coalition party, the Free Democrats. The pact for the euro is supposed to help by breaking euro countries of the bad economic habits that got them into trouble in the first place. “She needs something to take to her increasingly sceptical coalition,” observes Daniela Schwarzer of the German Institute for International and Security Affairs. Not all are reassured. Mr Schäffler sees the pact as a “placebo to quiet the people.” European countries should compete rather than being forced to reform by a central authority, he thinks. Hans-Werner Sinn, a liberal economist, fears that France may use a euro-zone government to force Germany to raise wages.
• Mrs Merkel’s allies are awkwardly positioned between backing her diplomacy and setting limits on German concessions. On February 23rd the three coalition parties laid down conditions for approving a treaty change to set up a permanent euro-zone bail-out fund. One was more economic co-ordination within the zone—in other words, a version of the competitiveness pact and its embryonic economic government. Mrs Merkel may have long opposed a two-speed Europe, but pressure from voters, her coalition partners and other euro-zone countries seems to be pushing her into tolerating it.

inside china

• China has not seen a surge in “ hot money“  ( Money that flows regularly between financial markets as investors attempt to ensure they get the highest short-term interest rates possible. Hot money will flow from low interest rate yielding countries into higher interest rates countries by investors looking to make the highest return. These financial transfers could affect the exchange rate if the sum is high enough and can therefore impact the balance of payments),
  coming into the country, the country’s foreign exchange regulator said on Thursday, despite the loose monetary policy in the US that Beijing has sometimes blamed for causing destablising capital inflows.
  
• A net $35.5bn of hot money, illegal speculative capital, entered the country last year, which was “ant-like” in comparison to the size of the economy, the   State Administration of Foreign Exchange said.
• The massive build-up in China’s foreign exchange reserves over the last five years, which are now by far the world’s largest at $2,850bn, has encouraged many analysts to speculate that large flows of overseas money were evading the country’s strict capital controls and finding their way into the local property and stock markets.
• As a result, a detailed research conducted to try and calculate the real level of hot money and found that it was relatively limited. “We have not found evidence of any large-scale capital inflows co-ordinated by any established financial institution,” the regulator said.
• On average over the last decade, hot money inflows were $28.9bn a year, equivalent to around 9 per cent of the increase in the country’s foreign exchange reserves. This compares to an economy now with nominal GDP of around $5,700bn and where new loans created last year reached Rmb 8,000bn.
• “The argument that cross-border capital flows are driving domestic stock market performance lacks evidence in the data,” said in a report.
• Given that Safe is the body charged with policing the country’s capital controls, it has a vested interest in showing that they are not being easily evaded by investors.
• However, the figures from the regulator will make it harder for Beijing to suggest that the  inflationary pressures in the chinese economy are the result of the build-up in liquidity in the international financial system caused by the US Federal Reserve policy of quantitative easing.
• In the run-up to the G20 summit in South Korea last November, when it looked that China might come under attack for artificially depressing the value of the renminbi, Beijing joined several other governments in accusing the US Fed of causing huge capital flows and inflation in the developing world.
• Zhu Guangyao, a deputy finance minister, said that the Fed “did not think about the impact of excessive liquidity on emerging markets by having launched a second round of quantitative easing at this time”.
• “If you look at the global economy, there are many issues that merit more attention – for example, the question of quantitative easing,” said deputy foreign minister Cui Tiankai, when asked about US proposals to limit current account surpluses.
• Inflation in China increased to 4.9 per cent last month, which was not as large a rise as had been expected, but was still well over the 4 per cent target the government has set for this year. While some economists believe the current bout of inflation is the result of short-term problems in food production, some others believe it has been caused by the huge expansion in credit that the Chinese authorities have engineered over the last two years to help the economy ride out the global financial crisis.

Financial crises and property busts go together

• Property’s grip on people is unrelenting. After the worst housing crash in memory, almost two-thirds of Americans still think that property is a safe investment. In Britain ministers hold summits to work out how to get first-time buyers into a market where prices are falling. In China anxious buyers queue to snaffle yet-to-be-built apartments. The world of commercial property is saner, but not by much. A bounceback in office values in London has prompted fears of a new bubble. Cranes dot the Chinese skyline, where more than 40% of the skyscrapers to be built over the next six years will be sited.
• Property is more than just a place to live and work. For many people, it is the biggest financial bet they will ever make. That bet has been disastrous for plenty of homeowners. Over a quarter of mortgage-holders in America owe more on their loans than their homes are worth. House prices there have fallen back to 2003 levels and are still declining—by 2.4% year-on-year in December. A huge pipeline of foreclosed homes is still on its way to market: distressed transactions account for 66% of sales in California. Prices will probably fall again this year, sapping confidence and preventing people from moving to find work. Programmes to modify mortgage payments have been disappointing: for some underwater borrowers it may make more sense for the state to help reduce the principal.
• At least prices in America are back to their long-run average compared with rents. For those with cash, homes are more affordable than they have been for years. In many parts of Europe, prices still have a long way to fall to revert to that sort of value and there is lots of downward pressure. Oversupply weighs on the market in places like Spain, where a construction boom turned to bust. Credit is constrained (a big worry for commercial property, too, given the amount of debt that needs to be refinanced). The threat of rising interest rates looms over the many borrowers with adjustable mortgages.
• In emerging markets policymakers have a different problem: holding prices down. A property bubble, many reckon, is the biggest threat to China’s economy. A succession of measures have been introduced to subdue speculative buying and force developers to increase the supply of homes. There are sound reasons for prices to rise in China, given income growth and huge pent-up demand for decent housing. But policymakers are having to fight to keep things under control.
• The irony is that property’s appeal is founded on its supposed solidity. It is no coincidence that the housing bubble started in the aftermath of the dotcom bust. Out went fantasy business plans; in came a real asset with a proven record. But , property has dangerous qualities.
• One is its size. American households have more of their wealth in real estate than any other asset; it is a similar story elsewhere. So when things go wrong, the consequences are more serious than if there is a slump in equities, say. Worse, property is a magnet for debt. Lenders have to set aside less capital for loans against property because of its security as collateral. Individuals have no other opportunity to take on so much leverage. As prices go up, a deadly feedback loop forms: rising collateral values enable banks to extend more credit, which means prices can be chased higher. Things can spiral very quickly: there was a doubling of mortgage debt in America between 2001 and 2007. It is leverage that explains why property busts have a habit of causing financial crises.
• Property is also an inefficient asset class. It is lumpy: you can offload parts of your share portfolio, but you cannot sell off the kitchen. It is illiquid, which can strand people in their homes even if they are not in negative equity. And it is inefficiently priced, not least because as an asset class it is hard to short: you can’t hedge your exposure.
• So governments should be neutral about home-ownership, whose benefits have been oversold. People will always want to buy houses: they do not need a shove from subsidies. In America plans to wind down Fannie Mae and Freddie Mac, which buy and guarantee mortgages on the government’s account, are welcome. Tax deductions on mortgage interest should go. So should distorting exemptions on capital-gains taxes; it is better to cut the transaction taxes that make it expensive for people to move.
• Politicians will be loth to cut the value of their electorate’s biggest asset, however. Which is why lots of people are now looking to central banks to intervene when property booms get going. That already happens a lot in Asia; Western central banks are also moving in this direction. The Swedes last year imposed a maximum loan-to-value ratio of 85% on mortgages, for instance. Good. Standing idly by is not much of a policy. And central banks have tools at their disposal, including interest rates, that can dampen things down.
• Regulators have failed to spot bubbles in the past, however. And booms can be hard to stop when they get going: just ask the Chinese authorities. Discretionary interventions should be on top of standing rules, not instead of them. There should be no room for the wildest mortgage products—those that do not seek verification of income, say. But the systemic issue is the amount of debt that borrowers take on. Property busts are at their most destructive when borrowers fall quickly into negative equity (one reason to worry less about China is the small amount of debt that homebuyers have). A cushion of equity—10-15% of the property’s value, say—should be required of new borrowers as a matter of course.
• This should be phased in gradually. Unlike getting rid of mortgage interest relief, which is relatively painless when interest rates are already low, a minimum equity provision would hurt the economic recovery (especially in America, where the government is guaranteeing loans with tiny down-payments). And there is also a risk of excluding creditworthy borrowers, particularly first-time buyers and the self-employed. But it cannot wait too long. Asking people to save up for longer is a reasonable price to pay for a safer system.