mánudagur, janúar 05, 2009

reinhart and rogoff

Two American economists have a new paper out that looks at the aftermath of 21 financial crises around the world, a paper that I alluded to in my last post. (Thanks to John Mauldin and his excellent newsletter for keeping me updated on matters macroeconomic.) Their analysis has a direct bearing on the situation in Iceland today, and in fact Iceland today also stars in the paper as one of the analyzed crises.

What struck me most was the length of time it takes to recover from crises of this nature. Housing prices decline for six years on average, topping out at an average 35% loss in real value. Equity markets fall for three and a half years on average, with a 55% loss in value. Unemployment continues to rise for four years on average, and output (GDP) falls for two years on average.

During the down period, governments take on massive amounts of debt, growing that debt by an average 86% over the pre-crisis level. This is mainly due to big losses in tax revenues as income and consumption taxes fall off with the downturn in economic activity.

Iceland does play a starring role, unfortunately, as the equity markets here have lost more than 90% of their value since the downturn began in 2007. The authors single out Iceland for special mention, as this equity market loss here is the largest in any of the crises they have studied. This is due to the fact that more than 80% of the benchmark equity index was composed of the shares of the banks Kaupþing, Landsbanki, and Glitnir, all of which have been nationalized, rendering their equity shares worthless.

Iceland's loss of between 10 and 20% in real home values puts it on the milder end of the scale, until one reflects that the downturn is relatively young here and also that the housing market has almost completely shut down and so prices are static. Most of that loss in home prices is due to high inflation in the last year eating away at the real value of the properties. My guess is that when homes begin trading again, both oversupply and tight credit will lead to lower nominal prices, dragging the overall loss down further.

This paper is a good, quick read that helps put the Icelandic crisis in perspective and set expectations for how long it might take the country to recover.

5 Comments:

Anonymous Sigvaldi Eggertsson said...

Hi, Jared.
The main reason for the loss in "Kauphöll" is that all the companies were seriously overvalued by 2007, if you use another year as a benchmark the difference is not quite as serious.
As for the housing market, if Icelanders do not start to emigrate in large numbers then there will soon be a housing shortage rather than oversupply.

Sigvaldi

5.1.09  
Blogger JB said...

Hi Sigvaldi,

The ICEX-15 Index, now called OMXI-15 (i. úrvalsvísitalan), is weighted by free-float market capitalization. The largest market caps, by far, belonged to the three banks, which made up more than 80% of the index (and had been similarly large by weight since at least 2004 when I moved here). These three banks went bankrupt and the value of their equity went to 0 overnight. Thus the index lost most of its value.

It wouldn't matter which recent year you chose, if the banks had gone bust earlier, the effect on the index would have been the same.

As for housing, can you point to some data to back up your claims? This isn't a point I have heard at all before, and would be curious to learn more. My reasons for believing there to be a gross oversupply at present are based on anecdotal and visual evidence of the ghost neighborhoods that ring the city.

Jared

5.1.09  
Anonymous Sigvaldi Eggertsson said...

Hi.
If you look at the Hagstofa web (www.statice.is) you see that the population of Iceland grew by 7000 people during 2008, despite the emigration of a large part of the foreign workforce. That and (among other things) this report (http://www.mbl.is/mm/frettir/innlent/2008/12/11/segja_fjolda_nybygginga_yktan/) that states that recent stories by real-estate agents , amongst others, of a large oversupply in housing are greatly exaggerated, leads me to belive that things are nut quite the way they are made to look in the press.

6.1.09  
Blogger Hulda B said...

Interesting point there you are making Sigvaldi but most, if not all, of those 7000 are newborns and I doubt that they will be merging into the housing market any time soon. Of course larger families need larger houses but for the time being people aren't or can't move and there is still plenty of empty apartments for sale. I wonder if you have driven through 203 (Kóp) lately because I have and it was scary to say the least how many apartments were evidently empty, not to mention all the half finished apartment buildings (blokkir). The oversupply has for months now been quite apparent and that will not change in the next year or two.
This is my opinion and there you have it :-)

6.1.09  
Blogger carmen said...

Okay, I'll confess up front that I didn't read the fancypants paper yet, but speaking of how long it could take for US housing prices to recover, I'll see your UMd/Harvard economists and raise you a USA Today:

http://www.usatoday.com/money/economy/housing/2008-12-12-homeprices_N.htm

In the spirit of USA Today journalism, I'll sum up the article in one line:
When adjusted for inflation, US home values will not recover in our lifetime.

8.1.09  

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