This is the original text of an article that appeared, after edits, in the Irish Times on 22nd June, 2018.
Economists regard the theory of ‘supply and demand’ as nothing less than a ‘law’ and “and as one of the fundamental principles governing ‘the economy’. Almost every economic event or phenomenon is considered the product of the interaction of the laws of supply and demand, argues The Concise Encyclopedia of Economics.Professor Ronan Lyons of Trinity College, Dublin, writing in February this year argues that:
“What the market is witnessing now – with increases in sale and rental prices of more than 75pc in some parts of Dublin – should surely be evidence enough that demand falls well short of supply. So the solution is more supply.”
Professor Ronan’s analysis and his conclusion is repeated often by other professional economists, and echoed regularly by grateful developers and estate agents. But the ‘law’ of supply and demand is a micro-economic concept and applicable only to the ‘economy’ of individuals, households and firms. The ‘economy’ of a globalized country such as Ireland is, in stark contrast, a macro-economic concept, the result of analyzing the aggregate activities of more than four million people operating within global marketsfor housing and other assets.
As evidence of the flawed nature of this “fundamental” micro-economic theory, I present Ireland’s housing market in 2006 – the year in which the market boomed before imploding catastrophically. Irish home construction peaked in that year. In a country of just 4 million people, more than 90,000 homes were built. (By contrast the housing stock increased by just 8,800between 2011 and 2016). And yet, despite this extraordinary increase in supply, and contrary to economic theory, prices in 2006 continued rising– by a whopping 11%. Further evidence can be found in the Irish housing market since 2006. One glance at the CSO’s 2016 censusof housing stock makes clear that Ireland’s surplus stock is higher than it was in 1991 – then at 9.1%.In 2016 the overall vacancy rate,including holiday homes, was 12.3 per cent. If holiday homes are excluded from the housing stock the vacancy rate drops to 9.4 per cent. In 1991 Dublin’s surpluswas 5.1% of the total. In 2016 it was 8.1%. If the CSO is right, there is no shortage of supply, as Professor Ronan argues.
To understand Ireland’s housing crisis, and to formulate sound policy to deal with it, requires a macro-economic approach. As Josh Ryan-Collins and Laurie McFarlane argue in Rethinking The Economics of Land and Housing – land isinelastic – a gift of nature. It cannot be created and converted into capital. It cannot be produced or reproduced, or ‘used up.’ Above all, land (and property) is confined by boundaries. It cannot be moved out of Ireland.
The supply of credit, by contrast, is elastic and with the help of global central banks and financial institutions, can be produced almost ad infinitum by both global but also Irish monetary and financial systems. And unlike land, credit and capital are not confined by boundaries. In our globalized world, capital is highly mobile and its unregulated flows unreliable and unstable.
To understand Ireland’s housing crisis we need to lift our eyes from the micro- to the global macro-economy. To follow “The Great Wall of Money” – $453 billion – aimed at global markets in real estate. Ireland is just one country whose finite and fixed stock of land and property is massively inflated by this onslaught of unregulated capital. Dublin as a major international financial centre attracted large volumes of unregulated, cross-border flows. Above all Dublin is host to valuable and scarce, assets – property. The global owners of capital are in a frantic search for safe, high-yielding assets in which to park their capital. At a time when Europe’s elites are committed to flawed economic ‘austerity’ policies, there is a shortage of the very safe publicassets preferred by global asset management funds or insurance companies: government debt (bonds or gilts). As a result, those responsible for investing vast sums aim their billions at property markets – which, while not as safe as government bonds, are nevertheless considered safer than other assets. That explains why, €4.47 billion was invested in Irish commercial property in 2016with total turnover 21% higher than in the previous year.
House prices have been blasted into the stratosphere, not because of a shortage of supply, but by the excess of a potent propellant – finance. House prices will fall when the propellant is withdrawn – and flows of finance decline. Indeed there are already signs that globally, capital flows are in retreat. Expect Irish house prices to follow suit.
In order to avoid a repetition of the crises of 2007, the Irish government and political class have to understand the fundamental cause of rising house prices: the mobile, potent propellant that is global finance. The economic establishment, both academic and professional, is not helpful in this regard. Indeed micro-economic reasoning has, to the relief of those profiting from the crisis, postponed and confused sound policy-making. To prevent another financial crisis caused by falling house prices, government must manage the mobile capital flow of funds owned by asset management companies, private equity firms, and vulture funds.
The Irish government purports to be committed to the security of its citizens. If so, then in a world of fixed land and mobile finance, politicians must ensure that capital flows are managed by public authority, not left to something beloved of neo-classical economics: the reckless ‘invisible hand’.