Austrian Economics vs Fed's Attempt to Revive Housing

Posted On: Thursday, April 12, 2012

The field of Economics is full of rules of thumb that have been developed from past historical relationships. One of the most basic is that lower interest rates can create an economic recovery by spurring consumers to borrow and spend. Since the ascendancy of Keynesian economics, this and federal deficit spending have been the “go to” monetary and fiscal policies to counter any economic downturn. However, the current recession is defying the old rules of thumb as mind-boggling fiscal deficits and record low interest rates fail to translate into a sustainable recovery. The question du jour is “What’s going on?”

As Gainesville Coins recently pointed out in “Is Keynesian Economic Flawed? Austrian Economics Examined” there could be a fundamental flaw with modern economic theory in that it accepts the notion that individual actions can be modeled. This idea is rejected by the Austrian School of Economics which sees individual tastes and decisions as too random to be modeled.

This basic distinction between Keynesian economics and the Austrian School of Economics certainly helps explain why the U.S. housing market continues to decline despite record monetary easing and fiscal policy spending. Some basic extrapolation is required to explain why potential homeowners remain on the sidelines. However, one thing is clear, the basic rule of thumb that decreasing mortgage rates will lift the housing market is broken.

Individuals Have Permanently Altered Their Views on Home Ownership

It has been a commonly held belief that home ownership was part of the “American Dream.” Since the depths of the Great Depression in the 1930’s, this notion has rewarded home owners as real estate prices rose year after year. Unfortunately, the housing bubble that burst in 2008 was preceded by some of the most extreme year over year gains in home prices ever. Backing this rise was a mountain of easy to obtain mortgage financing.

Four years have passed since the bubble burst. During this time, trillions of dollars in housing related debt have been written off, and over 25% of all mortgage holders owe more on their mortgage than their home is worth. This has series implications for housing, the banking sector, and the broader economy.

  1. Home owners who owe more than their property is worth have lower geographic mobility.
  2. Further declines in home prices will increase pressure on bank balance sheets.
  3. The lack of any housing recovery impedes any economic growth.

Potential home owners see the current housing situation, and realize that despite the rising affordability of owning a house, the outlook for housing remains dim. The possibility of purchasing a home with 20% down and 80% financing is no longer a sure bet to accumulate wealth, and given the exceptional measures by the Federal Reserve, could be a losing proposition if the Fed is wrong, and their rule of thumb proves ineffective.

Fed Actions Could Have Forever Forestalled a Sustainable Housing Recovery Indefinitely

Austrian economic thought would have seen the Federal Reserve’s response to the housing collapse as counter-productive (indeed, under Austrian economics, the housing market bubble likely would never had occurred). Instead of stepping in to prevent an inevitable correction, Austrian economic thought would have seen it necessary to let the many years of “malinvestment” to work itself out of the system. Had a true housing market bottom been found, those economic actors with the foresight to avoid the meltdown would be well placed to invest in housing. Unfortunately, the Federal Reserve would like the world to gloss over the massive “malinvestment” represented by the housing bubble. As the Austrian School of Economics points out, individuals can change their mind, and they clearly have with regards to housing, something the Federal Reserve and other Keynesian adherents don’t appreciate.

Some points that Keynesian “rule of thumbers” might not realize is that:

  1. Potential homeowners see the wave of foreclosures that have yet to hit the market and refuse to purchase.
  2. Potential homeowners understand that home affordability is currently artificially inflated thanks to monetary and fiscal policy.
  3. Perhaps less quantifiable, it is likely that the average potential homeowner is discouraged from taking a $100,000 - $150,000 mortgage as aversion to debt has increased in the wake of the 2008 meltdown.

From a Precious Metals Perspective

When looking at the current housing market, precious metal investors are no doubt shaking their head at the extraordinary measures being taken to prevent any further fall in the housing market. While the Federal Reserve continues to maintain that their monetary policy over the years had nothing to do with the housing bubble, they are clearly working hard to keep property prices elevated well above where they would be in a true “free market.”

The possibility that the Federal Reserve and the Federal Government will continue to rely on Keynesian economic theory to counter any economic blip is clearly a motivation for many to purchase “safe” hard assets, like gold and silver, that will stand up to the never ending money printing by officials in government. This strategy has worked well as gold has risen from just under $800 per ounce in the depths of the 2008 sell-off, to over $1,600 today. Silver has performed even better, rising from just under $10 per troy ounce in 2008, to over $32.00 per troy ounce today.

Take Advantage

Precious metals are seen as a hedge against easy monetary policy and government deficits and debt. Gainesville Coins is offering the 100 oz Silver Bar from Ohio Precious Metals at as low as $0.89 over spot silver. Gold bullion investors can purchase the 1 oz PAMP Suisse/Credit Suisse gold bar at as low as $21.99 over spot gold.

Disclaimer: Gainesville Coins "Market Updates and In the News Section" provide our readers with features and analysis of the financial markets, and some of the factors that may be affecting market direction. While the information is obtained from sources we believe to be reliable, we do not guarantee its accuracy or its completeness, and this information should not be considered investment advice. Gainesville Coins provides these articles for informational purposes only, and they do not constitute a recommendation by Gainesville Coins to hold, to purchase, or to sell any investment.