Jerusalem construction 521.
(photo credit: Marc Israel Sellem)
When you look at the wreckage wrought by the property bubble in the US – and
even more so in Ireland and Britain – it’s not hard to worry about
That is especially the case if you are a central banker as
worldly in outlook as Stanley Fischer. The fear is not just the extent of the
damage from plunging property prices, bailed-out banks and accumulated debt, but
the fact that so many of the best economists, experienced regulators and savvy
bankers didn’t see it coming. The property boom and the easy money that
enabled them created a veneer of prosperity that fooled almost
Take Ireland – which, as a small hi-tech economy, mirrors
Israel more than the US does – to experience the fear factor. Ireland is crushed
under debt that may reach over 200 billion euros in the next five years, a sum
that would be unpayable without significant aid (and, in all likelihood, even
with the aid it has received so far). Six years of economic growth have gone
down the drain, and a generation of Irish has little hope of ever regaining the
standard of living they once enjoyed.
Israel famously avoided the
pre-2008 bubble by a combination of good policy and dumb luck. The good policy
was not to let the banks run amok in an orgy of faith that the financial markets
could police themselves. The dumb luck was that Israel’s property market is
essentially a government monopoly that limits the supply of land and effectively
prevents builders (who are no wiser than bankers when the money is easy) from
erecting homes that no one but speculators needs. Property prices in
Israel actually went down in the boom years. Builders like Lev Leviev and
Yitzhak Tshuva couldn’t make money at home and went abroad, where they lost big
when the real-estate markets went bust.
While the American and Irish were
speculating in real estate and then licking their wounds, Israel has been
growing the oldfashioned way, by producing products and services that were
actually needed and increasing its competitiveness. The question for Fischer –
not to mention bankers and home buyers – is whether this real economy is being
overtaken by the froth of record low interest rates that encourage needless
building, property speculation and excessive risk.
Israel isn't alone in
asking this question. China – a somewhat bigger economy, but like Israel,
one that avoided property blow-out – faces much the same dilemma. Just like
ersatz economic growth, real economic growth produces prosperity that encourages
people to buy ever-bigger homes and luxury cars, and hire pet psychologists. How
do you tell the two apart? It’s not necessarily that easy.
A lot of the
data coming out of Israel certainly make the case that the frothy stage has
arrived. Home prices have risen more than 40 percent since the start of 2008
after inflation. The value of new mortgages has risen at an accelerating,
double-digit pace, so that home loans now make up more than a quarter of the
banks’ loan portfolio.
Macroeconomic data suggest much the same. The
overall economy continues to grow very strongly, and exports rose 28% on an
annualized basis in February-April. But the unemployment rate is falling and the
economy is likely approaching full capacity. Even if domestic conditions remain
solid, Israel is vulnerable to the continued financial crisis in Europe and
instability in the Middle East.
Bankers insist that they have their
mortgage risk under control, which might have been a more believable claim
pre-global financial crisis, when bankers and the market were considered
infallible. But the mortgage business is highly competitive, and most banks are
making so little money on home loans that the Bank of Israel estimates that if
just 0.5% of mortgages default, the banks will be in the red. A lot of these
loans are adjustable or linked to the prime rate of interest, which means if
interest rates go up, so will the cost of repaying these mortgages and the rate
of default. It’s this segment of the market the Bank of Israel is
Politicians, particularly haredi politicians, insist that any
clampdown will come at the expense of struggling young couples trying to buy
their first homes. The problem is that in the current cheaploan
environment, yes, they can afford it, but in five years they may well not be
able to. The idea that everyone who wants to own a home should be able to buy
one is a nice idea that proved horrendously wrong when America tried it. From a
strictly financial point of view, haredim are the first people who should be
escorted out of any bank loan department.
In spite of Fischer’s concerns,
Israel does, in fact, suffer a housing shortage and is miles away from
American-style overbuilding. Israel invests about 5% of its gross
domestic product in residential construction, about the mid-range over the long
term and certainly a reasonable level considering the long stretch that preceded
when there was under-investment. By comparison, the US – a country with no
housing shortage – was putting 6.5% of GDP into building houses at the peak in
2007. The fact that new-home construction in Israel has risen by 23% in the last
three years is addressing a real need, not creating fodder for real estate
speculation. Rising home prices reflect a real imbalance of supply and
In sum, Israel faces a very different situation than the US or
Ireland on the eve of the bubble. We may not be experiencing a realestate
bubble, but we do face a very real risk to the banking system. But if there is
one and it bursts, the tsunami of red ink that ensued could be a disaster that
Israel can’t afford.
Fischer is in the unenviable position of many a
policymaker taking preemptive measures – he gets blamed for the pain he is
causing now, and will get no credit for preventing a crisis that, thanks to him,
will likely never come.
The writer is executive business editor at The
Media Line. His book Israel: The Knowledge Economy and Its Costs will be
published by Palgrave Macmillan in 2012.