Housing bubbles around the world: looks pretty bad

Saturday, May 16, 2009

Housing bubbles around the world (click to enlarge):

The chart illustrates price-rent ratios for some of the most notorious housing bubbles - Ireland, Spain, the UK, and the US - indexed to 1997. The price-rent ratio can be compared to a price-earnings, or even better a price-dividend, ratio in finance. It measures the relative value of the asset: the price of the asset (purchase price of a home) divided by its flow of fundamental value (rental income earned or the value of having a roof over your head). As the price-rent ratio grows, the market value moves away from its fundamental value.

The bubbles have been extreme, and there is probably still some downward price momentum left in the pipeline for many of these markets. Ireland's housing market, while having experienced the biggest relative bubble, has seen its price-rent ratio rise since Q3 2008. Crashing economic fundamentals have driven down rents (the denominator), and likewise the relative value of owning a home.

I included the German price-rent ratio to show that housing bubbles are not uniformly the root cause of economic decline. The German housing market saw a bump early during the reunification years; but currently, it's falling exports brought on by anemic global demand (US demand to be sure) that caused the German economy to contract by 3.8% in Q1 2009. And for those of you who think in annualized terms (the European Commission releases the quarter on quarter growth rates), that's a 14.3% decline. Ouch!

Rebecca Wilder


Charles Longfellow May 16, 2009 at 1:52 PM  

Well done! A useful comparison for real world analysis of rental costs vs housing prices. Probably tricky to confirm rental costs across the range of accommodations, from slum to high end, but such comparison is revealing of changing social issues.
Consider squatters in new homes in California.

Rebecca Wilder May 16, 2009 at 6:14 PM  

Hi Charles,

The term “rent” is slightly misleading – it is actually the “rental equivalent” cost of home ownership, but as you suggest, each country uses varying measures of home ownsership costs…like mortgage interest payments (UK), owner-occupied rents (US), or I believe foregone income in your neck of the woods (Canada). In all cases, the “rent” is measured as part of the CPI.

Have a nice day! And thanks for the comment, Rebecca

MintMe May 18, 2009 at 7:19 AM  

Impressive differences in magnitude and timing!
I would suggest another graph plotting the impact between countries. More precisely, Germans and, to a lesser extend, Britons fuelled the housing boom in Spain. Roughly half the new builds on record years (a total 800.000 new houses per year 2006-2008) were built for them. The price of half the market was then growing at two speeds: the ratio for foreign retirees decoupled from the local market.

Paul May 18, 2009 at 9:48 AM  

I note Irish data starts in 1997, hence the numeraire.

But U wibder how pre-1997 data might add further information. Would Ireland look even more like an outlier (i.e. would that green line move of in a negative direction pre-1997?). I reckon it might just.

Richard May 18, 2009 at 10:07 AM  

Rebecca - is there a reason you chose not to include French, Belgian and Dutch home prices in your charts?

I understand that little is written about them, but according to the ECBs latest housing report they appear to have witnessed close to 10% CAGR growth from 1999 to 2008... which surely puts them in a vulnerable position.

Rebecca Wilder May 18, 2009 at 5:02 PM  


"is there a reason you chose not to include French, Belgian and Dutch home prices in your charts?"

Perhaps I will amend the chart when I have a little time. It would be interesting to do a more thorough analysis of bubbles. Thanks for the thought.


Anonymous May 19, 2009 at 1:45 PM  

Would be interested in seeing Canada laid on the graph as well. It seems that Canada is a couple years behind the US in terms of housing.

Anonymous May 23, 2009 at 7:29 AM  

What explains the "bounce" in the Irish ratio in Q1 of 2009 (I understood prices were still falling ... or are rents falling faster?)

Anonymous May 26, 2009 at 4:42 PM  

Nice graph, but how was it calculated?

According to wikipedia, the p/r ratio is calculated by dividing the value of the house by the annual rent. If that reached a high of 2.8, then if the average house was 280,000 then the average rent was 100,000 a year!

I assume I've gotten the calculations wrong....

Rebecca Wilder May 27, 2009 at 7:10 AM  

Hi Anonymous,

You say: Nice graph, but how was it calculated?

In the graph, the pice to rent ratio = price house / owner-equivalent rent (usually an index of the CPI), and then indexed to 1997.

So the 2.8 represents the growth in the price to rent ratio above its normalized level in 1997 (the ratio is indexed to 1997), rather than the actual price to rent in that year.


Anonymous September 9, 2009 at 2:48 PM  

I think listing the ratios relative to 1997 isn't the best way to show the data. It's good for comparing several countries to one another, but the absolute values (vs. relative values) would be more useful. I want to know if the price-to-rent ratio in my area is 12 or 18 or 23, not what it is compared to 1997.

Even if the relative price-to-rent vs 1997 is 0.9 (which means it's 10% lower than it was in 1997), maybe in 1997 the ratio was 22. Then that means it's 19.8 now, which means it's not economically feasible to buy a house.

Renting will always be cheaper than owning until price-to-rent ratios fall back to 10 or 12.

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Anonymous September 15, 2010 at 6:55 PM  


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