'Bubble caused by Singapore, China, Gulf money'

Singapore was one of the principal contributors to the US housing bubble that burst, resulting in the global downturn, according to the Foreign Affairs magazine.

China was another major contributor -- and is the biggest gainer. Though hurt by the downturn, China has emerged as the world’s most cash-rich nation, with $2 trillion in foreign reserves, and looks set to dominate the global economy.

The Middle Eastern oil producers were the third major group a free flow of whose money into the US inflated the bubble until it burst.

Wipeout

In The Great Crash, 2008 – A Geopolitical Setback for the West, Roger C Altman writes:

The damage is most visible at the household level. Americans have lost one-quarter of their net worth in just a year and a half, since June 30, 2007, and the trend continues. Americans' largest single asset is the equity in their homes. Total home equity in the United States, which was valued at $13 trillion at its peak in 2006, had dropped to $8.8 trillion by mid-2008 and was still falling in late 2008.

Total retirement assets, Americans' second-largest household asset, dropped by 22 percent, from $10.3 trillion in 2006 to $8 trillion in mid-2008.

During the same period, savings and investment assets (apart from retirement savings) lost $1.2 trillion and pension assets lost $1.3 trillion. Taken together, these losses total a staggering $8.3 trillion.

Flood of foreign money

Altman blames the US government and inflow of foreign money for the crisis. He writes:

Conventional wisdom attributes the crisis to the collapse of housing prices and the subprime mortgage market in the United States. This is not correct; these were themselves the consequence of another problem. The crisis' underlying cause was the (invariably lethal) combination of very low interest rates and unprecedented levels of liquidity. The low interest rates reflected the U.S. government's overly accommodating monetary policy after 9/11. (The U.S. Federal Reserve lowered the federal funds rate to nearly one percent in late 2001 and maintained it near that very low level for three years.)

The liquidity reflected, among other factors, what Federal Reserve Chair Ben Bernanke has called "the global savings glut": the enormous financial surpluses realized by certain countries, particularly China, Singapore, and the oil-producing states of the Persian Gulf. Until the mid-1990s, most emerging economies ran balance-of-payments deficits as they imported capital to finance their growth. But the Asian financial crisis of 1997-98, among other things, changed this in much of Asia. After that, surpluses grew throughout the region and then were consistently recycled back to the West in the form of portfolio investments.

The bubble

Facing low yields, this mountain of liquidity naturally sought higher ones… Huge amounts of capital thus flowed into the subprime mortgage sector and toward weak borrowers of all types in the United States, in Europe, and, to a lesser extent, around the world. For example, the annual volume of U.S. subprime and other securitized mortgages rose from a long-term average of approximately $100 billion to over $600 billion in 2005 and 2006…

This flood of mortgage money caused residential and commercial real estate prices to rise at unprecedented rates. Whereas the average U.S. home had appreciated at 1.4 percent annually over the 30 years before 2000, the appreciation rate roared forward at 7.6 percent annually from 2000 through mid-2006. From mid-2005 to mid-2006, amid rampant speculation in the housing market, it was 11 percent.

The bust

But like most spikes in commodity prices, this one eventually reversed itself -- and with a vengeance. Housing prices have been falling sharply for over two years, and so far there is no sign that they will bottom out.

Comments

[mumbaikar]

It is interesting to know how events in the distant past have parallels to what we have going on. For example, did you know of the link between the American Civil War and Mumbai's rise to industrial age. There was a cotton bubble going on at that time in Mumbai.

[Abhijit]

Thank you for letting me know. I didn't know that. Would like to know more when I am online again in the second week of January. A merry Christmas and a happy New Year.