A Paper Economy

[BeFree]

The recent economic expansion is built upon a paper hill.

If I own a house and I sell it to you for $100,000 more than what I paid for it just two years ago, I now have an extra $100,000 to spend.

So now with that fresh 100G I go buy a new car, new furniture, clothes, eat at high priced restaurants, etc., etc. That's what fuels the current expansion.

But where did that 100G came from? It's nothing but paper. The guy who bought my house had the bank create a loan which is built upon that paper hill. A paper hill lacking a solid foundation, and without much protection from fire.

It could all be gone in a flash.

[ProfessorGAC]

1. No Cigar

The value of an item of commerce is intrinsic. The currency is much ado about nothing. You sound like Ron Paul on this one. (Edited here for a typo.)

The backing of an economy with hard assets (let's say gold) is no more valid, since the gold is only as valuable as we say it is. Hence, the amount of gold needed to buy that house from you is an arbitrary quantity that reflects ONLY the intrinsic value of the house to the buyer. Nothing has changed except for the fact that the promise that the money is worth something is one less layer of trust. With gold, you have to trust that the money is worth that amount in gold and then you have to trust that said amount of gold is equal to the intrinsic value of the house.

It's no more secure. Just less efficient.
The Professor

[Captain Angry]

3. I didn't get a gold feel from the original post.

With people deciding en masse that houses were worth 10%-25% more every year for 10 years, it created a fake flow of money.

That flow is stopping, and the construction work with it. No construction, no need for new appliances or curtains. No need for those, no need to build those stores or employ those people.

We didn't have the booming economy that Bush likes to say we did. Wages did not rise for most people, yet prices did on a great many items. It's nice to have a $50.00 DVD player, but when it costs you $10.00 to drive to and from the store to get it...

Intrinsic values of homes didn't really work for the last few years. Just because I feel a house is only worth $200,000, doesn't make it so. It just makes me not buy a home. The appraiser still gets their payoff for bringing the house in at a high price. That makes the seller happy, and it makes the local government happy as they will see higher property taxes.

I think we're heading back to an intrinsic value system, but for the last several years it's been artificial. At least in my experience.

[ProfessorGAC]

14. Sorry, If I Did

This sounds like the whole "they create money through inflation" argument. That is almost(!) always predicated on a gold standard reverie.

If i've minsinterpreted, then i admit it. However, there is no such thing as a system that is absent intrinsic value. Nobody, and i mean nobody, pays more than they think something is worth. Just because you or i think the price of such and such house is too high, the person who buys it doesn't. To them, the intrinsic value is extant.

So, there is no such thing as artificial value. It either has value or it doesn't.

The only absolute for intrinsic value, otherwise, would be the value of the raw materials. Even the work of tradesmen and women wouldn't count in the intrinsic value, if you were to be so absolute. It may be value-added, but not intrinsic.

The intrinsic value is always in the mind of the purchaser. If you or i aren't the people buying it, our opinion doesn't even matter! I agree that the prices are inflated, but our sense of intrinsic value is irrelevant if we're not the people putting down the money.

So, i think it's a problem of definitions, not agreement in principle.
The Professor

[BeFree]

17. The idea, Professor, is

That the seeming economic expansion is based on this self induced intrinsic value, and that intrinsic value is subject to change. Being that that value in housing is a mere bubble of expectations, it will pop. People can live in a cardboard box if they have too.

This false economy is being fueled by all that free money floating around that is printed on paper produced by peoples' desires being met by printing more paper, for mo' better housing. That will change.

[theboss]

32. You just described the stock market, the equities market, and every other kind of market

The value of my stock portfolio is based entirely on other's perceptions of it. It is - in your words - only paper. But that paper has a value to me and to someone else.

You may think my stock in oil companies is only worth x amount. But if I can find someone to pay 5x for it, you would be wrong.

[BeFree]

33. Well, of course

But the bushco expansion is predicated on the housing market. Take away that inflation and the consequential money flow the American economy would be trash(ed).

Just as the stock market has crashed and caused problems, this situation, as it comes to an end, will bring turmoil, and be the end, IMO, of the bushco bs.

[RaleighNCDUer]

4. I'm not an economist, but what it sound like to me is that the value

of the house is predicated upon the promise of repayment of the loan, not on the intrinsic value of the house itself - that's the problem with this housing bubble. Part of the value is real - the land, the materials and labor of the construction - but a huge part is vapor - the speculation. It's not the value of the currency that is at issue, it's the cost of speculation.

On Edit : Perhaps instead of "paper economy" (based on promisary notes, loans, etc.) it should be "vapor economy".

[rfranklin]

5. The value is predicated on the ability of the purchaser to repay...

with increased earnings in the future. And it is a circular model. If someone breaks the chain by not repaying, confidence goes down, prices go down and recession ensues.

[ProfessorGAC]

15. But, That Happens Under Any System, On Any Good Or Service

No matter the backing or supportive system, no matter the commodity or service, any purchase of financial consequence carries with it that same circular model.

I don't see how using housing as the example changes anything. Is that what you're suggesting, or did i misread?
The Professor

[Yavin4]

2. Where Did That $100,000 Come From? Try China and Saudi Arabia

As these nations continue to buy our long term debt, interest rates on that debt will be low. Thus, we can keep our short term interest rates lower as a result. (Google "Yield Curve"). Hence, with long term rates low, consumers with decent credit can easily buy that house for $100,000 because the interest that they will have to pay will also be low.

Think of our economy as a casino. As long as the house keeps extending our credit, we can keep gambling forever.

[Squatch]

6. Well, not really

So you sell your house for $100K over what you paid for it.

Take out the 7% Prudential realtor's commission, the $19,000 you owe on that home equity loan (that you used to install a new floor and windows), the $5000 for repairs you have to undetrake before title conveyance, the $10000 you owe on that credit card, and you're down to about $53K (assuming a $250000 home).

[BeFree]

8. So, you never heard about

Flipping a house?

Anyway, so now I've got $53K. Baby, I am out spending that loot, fueling the engine that drives this *great* expansion. All part of the new *ownership* society bushco has foisted upon America.

Well, where did that $53K come from. It's all paper. Nothing more than paper.

[Squatch]

9. Hell, if you're so bent out of shape for having $53K, I'll take it off your hands

[BeFree]

12. Eh?

You'll get your piece, I'm spreading it all over the place. But I understand your anguish, pretty soon I'll be broke and then the economic expansion will come to a screeching halt.

[Squatch]

13. Misery loves company!

[Name removed]

7. Deleted message

Message removed by moderator. Click here to review the message board rules.

[BeFree]

11. Thank you

Arificial is the keyword. That $100G (or $53K) is creating an artificial expansion of the economy. And that is why we see any success whatsoever.

[Selatius]

10. The 100,000 came from DEMAND.

If somebody has 100,000 to burn and wants your house, that's where your money comes from.

If you were writing a critique on the idea of fractional reserve banking (which is pretty much now the dominant system in the world), you might have a point, but you're confusing two fundamental aspects of the economy: a) how banks create money and b) the forces of supply and demand and its effect on prices.

If you want to make your point clearer, exclude b) and simply talk about a).

[Parisle]

18. The original poster's complaint still has merit

--- Once upon a time, houses were purchased with a one-third down payment. People were encouraged to work hard, save, sacrifice, etc,.... all the things that engender a really sound economy. But debt can be seductive to both the lender AND the borrower, though for different reasons. That one-third down became 20%,... then 10%,..then 5%. Credit cards came along. No need to save, eh? Have everything you want RIGHT NOW! The original inherent strength of the American economy has been largely degraded by the marketing appeal of instant gratification.

[BeFree]

19. Not really

What I am attempting to do is describe the basic reason the economy is seemingly expanding, and the foundation upon which that bushco expansion is built.

[camero]

30. Not really

There has been recent activity from speculators at the height of the housing boom who get rid of those properties almost as fast as they get them.

[theboss]

16. I think you just described every economy in human history

I mean, even a manufacturing economy is built on the idea that someone will buy all the cars we produce for more than we produce them for.

[RaleighNCDUer]

26. But generally, in the past, the buyer actually has the money with

which he makes the purchase. Or lacking that money, he has other assets to put up as collateral.

With this housing market, the collateral has been the missing ingredient. I am reminded of the speculation that preceeded the crash of '29.

[theboss]

28. Mortgages have never been designed that way

No one ever bought a $100,000.00 house with $100,000 in assets. The house was worth $100,000.00.

That is what is slightly different about this housing market, but I don't think it's the dramatic percentage you do.

[RaleighNCDUer]

34. Of course not, but you did put up 25-30% down, and had a solid

income what made the payments possible -- now, it's 0% down, variable APR that explodes after 3 years and if you don't flip the property you wind up paying half-again or more what the original payments were, possibly putting the payments out of the payer's capability of paying.

It's a market that was designed by speculators for speculators, not for people who really want to buy a family home. And while the family goes bust, and the home is foreclosed, the speculators walk away with their profits.

This is not a 'slight difference'. This is an unsustainable market that will hurt tens or even hundreds of thousands when it collapses. It may not look that way in Ottumwa, but on the coasts and in high growth parts of the south and southwest, it is a disaster in the making.

[gravity]

20. That $100,000 comes from someone else

who gave up the opportunity to buy cars, clothes, furniture etc and decided that the house was better use of their money.

[BeFree]

21. Thing is

They borrowed that money to buy my house. Now, had they saved it and then spent it, merely transfering real cash from their account to mine, it would be an equal transfer and if I spent it, would be a real fuel for expansion.

Since it is borrowed, it is like saying I will gladly pay you on Sunday for a hamburger today. This expansion is fueled by expectations and not much else, and that is no solid foundation.

[gravity]

22. They could have borrowed the money for anything

they just thought that a house would be the best use of their money. They could have bought a car, yacht, or started their oen business if they wanted to.

Investments are always based on future expectations. It is the driving force of all economies. If you produce a good, you are investing in the fact that someone will pay you for it in the future. If you take out a loan, you are expected to pay it back in the future.

[BeFree]

23. Of course

And since the house purchase has become an investment instead of mere shelter, then the price of the house had damn sure better rise and continue to rise, right? Otherwise, you are losing money.

Can you pay for 30 years on a losing investment? How long can you pay before you go bankrupt?

My point is that this bushco economic expansion is being fueled by the paper inherent in what has historically been subject too a boom and bust economic cycle. We've lived through the boom, what's coming now?

[theboss]

29. At the end of the day, though, you still have a house

Unless you are the part of the market that was trying to flip homes, it's not like you don't have "something" at the end of the day. You have a house. It may be worth 15 percent less than what you paid for it, but you still can live there.

And there is simply no way that housese are going to lose value for 30 years. In the past fifty years, I think there have been five years where housing costs have decreased.

[BeFree]

31. I agree

Real estate will continue to be a good investment as long as you live with the maxim: Buy low, sell high.

But my point is that the bushco economic *success* is based upon this exchange of paper money for overvalued real estate and we might be about to experience the end of the recent economic *success*.

[On the Road]

24. That Much is Correct

However --

The new car, furniture, clothes, and restaurant meals purchased for that 100G involve real economic expansion.

The growth is good. Asset values increase over time. It's a question of getting a sustainable rate of growth. That's what has resulted in such a long boom with a couple of minor interruptions.

The Fed got much better under Greenspan at pulling the levers. I hope they can keep it up. There's nothing inevitable about an economic crash.

No matter what economic system you subscribe to, there is no solid foundation. There is a self-sustaining chain of events.

[BeFree]

25. Asset values

For years the asset value of housing has increased. In the last 5 years, however, that value has been, IMO, inflated beyond reason.

And yes, my spending that 100G is fueling expansion.

But since that 100G is based on nothing more than the asset value of housing increasing at the same rates as the last five years..... surely you see the problem looming?

[Squatch]

27. Are you talking value or cost?

I think value and costs of goods in the secondary markets have been divergent. In other words, the cost of buying a used house is far outstripping the actual value of the house.

Eh...didn't do so hot in econ, so what do I know.