“Never believe anything in politics until it has been officially denied.”
-Otto von Bismarck
Chile’s Central Bank has issued a report on the status of the real estate sector here. From Chile’s newspaper, El Mercurio:
A study of the Central Bank concluded that the Chilean real estate sector does not indicate any risks of being in a bubble. The study said that the price of housing as a percentage of revenue has been stable, unlike in countries with problems, and local companies do not face deteriorating financial conditions.
The article goes on to outline the Central Bank study’s reasoning behind its conclusion, comparing overall housing prices in Chile to housing prices in Europe, and especially to the US in the lead-up to the sub-prime crisis. Undoubtedly, this report is meant to calm the nerves of anybody currently observing the skyrocketing costs of commercial property in Santiago and bare land in the periphery, not to mention the incredible increase in housing prices in the upper middle class and high-end real estate market since 2009.
The numbers cited in the El Mercurio article are generalized residential housing numbers for the entire country. They also assume that the economic growth is sustainable and discount the possibility of Chile being hit by a recession in the next 2-3 years. There are several reasons this approach is foolish.
- Chile is a country without a real middle class, and income disparity applies doubly to the growth of the past few years. This means that one must look at specific sub-sectors of the housing market, since most Chileans have not seen significantly improved income in recent years. In Vitacura, Lo Barnechea, and Las Condes, where the upper middle and upper class live, housing prices have doubled or tripled (depending on the particular neighborhood) since the financial crisis. Moreover, unimproved lot prices have gone up five-fold. In the budding suburb of Chicureo in the comuna of Colina, just north of Santiago, it has been even more pronounced, with speculators gobbling up every 5,000 square meter parcela in sight, in most cases on bank credit. If there is even the slightest damage to the economy due to any form of external shock, the aspiring middle classers that are moving into many of these neighborhoods (and who are already carrying high debt to income ratios in order to afford such houses) will in some cases be forced out of their houses or at least it will stem the tide of people moving into such neighborhoods. There are not enough borderlined upper class buyers to move down into that market to absorb such a surplus.
- Chile is not really one country, but two. Here there is Santiago and there are the Regions. They might as well be on different planets. To examine the entire Chilean market as a whole would be like generalizing Manhattan apartments with farmhouses in Nebraska. Santiago (and the mining region in the north) has been the greatest beneficiary of the recent economic boom here. As a result, Santiago has been disproportionately affected by rising real estate prices.
- Chilean GDP growth in the past 3 years has primarily been due to the massive rise in commodity prices in the global markets. As a country whose top exports are natural resources, agriculture, and pulp & paper, rising commodity prices alone account for 75% of the growth in the economy. Of course this is not the story that policymakers in the government are telling, especially as the embattled center-right government of Sebastian Pinera struggles for survival in the wake of massive student protests this year. As China goes through a period of growth contraction (if not contraction in absolute terms), and as US and European consumption are hit even harder by their debt crises, commodity prices will inevitably collapse (unless, of course, the US and Europe resort to inflation as a ‘solution’ to their problems). This will hurt Chile more than it will hurt most countries. In the long-run, it will be net positive, as it will force the country to innovate, become more efficient, and attract more diversified entrepreneurs from abroad (which it is already trying to do), but in the short-run, it will pop the commercial and upper middle class residential real estate bubble.
- Interbank lending in Chile is already facing illiquidity. The Central Bank of Chile itself this week reported this fact. When interbank lending is squeezed, it usually indicates that the banks do not trust the collateral of each other’s balance sheets. Given that the most significant components of bank balance sheets here are commercial paper and real estate, any minor downturn will cause the credit markets to freeze up (especially given the general aversion to inflation found in Chile and amongst its monetarist Central Bankers). This icy blast will wipe out speculators and bring prices down to earth.
I could be wrong about all of this, but I have witnessed it first-hand, from a private sector perspective. The problem in Chile isn’t that official data is objectively false like in China or Venezuela, but that given the country’s many different kinds of disparities, it is easy to manipulate statistical data to produce a desired outcome. It reminds me of the old joke…
A student wanted to know the answer to the question 2 + 2, but he wanted an explanation for the answer as well. First he went to his maths professor, who explained that 2 + 2 = 4, and provided a lengthy proof for it. Then he went to his philosophy professor, who explained the logical requirement that 2 + 2 = 4 in a priori terms. Finally, he went to his economics professor and said “What is 2 + 2?” to which the professor responded, “What do you want it to be?”
