700 years of real interest rates

When I mentioned to my wife this morning that I’d been reading a fascinating post about 700 years of real interest rate data her response was that that was the single most nerdy thing I’d said in the 20 years we’ve known each other (and that there had been quite a lot of competition).   Personally, I probably give higher “nerd” marks to the day she actually asked for an explanation of how interest rate swaps worked.

The post in question was on the Bank of England’s staff blog Bank Underground, written by a visiting Harvard historian, and drawing on a staff working paper the same author has written on  bond bull markets and subsequent reversals.    It looks interesting, although I haven’t yet read it.

Here is the nominal bond rate series Schmelzing constructed back to 1311.

very long term nom int rates

And with a bit more effort, and no doubt some heroic assumptions at times, it leads to this real rate series.

very long-term real rates.png

Loosely speaking, on this measure, the trend decline has been underway for 450 years or so.   It rather puts the 1980s (high real global rates) in some sort of context.

In the blog post the series is described this way

We trace the use of the dominant risk-free [emphasis added] asset over time, starting with sovereign rates in the Italian city states in the 14th and 15th centuries, later switching to long-term rates in Spain, followed by the Province of Holland, since 1703 the UK, subsequently Germany, and finally the US.

In the working paper itself, “risk-free” (rather more correctly) appears in quote marks.  In fact, what he has done is construct a series of government bonds rates from the markets that were the leading financial centres of their days.     That might be a sensible base to work from in comparing returns on different assets –  perhaps constructing historical CAPM estimates –  but if US and West German government debt has been largely considered free of default risk in the last few decades, that certainly wasn’t true of many of the issuers in earlier centuries.  Spain accounts for a fair chunk of the series –  most of the 16th century  – but a recent academic book (very readable) bears the title Lending to the borrower from hell: Debt, taxes, and default in the age of Philip II.  Philip defaulted four times ‘yet he never lost access to capital markets and could borrow again within a year or two of each default’.  Risk was, and presumably is, priced.  Philip was hardly the only sovereign borrower to default.  Or –  which should matter more to the pricing of risk –  to pose a risk of default.

In just the last 100 years, Germany (by hyperinflation), the United Kingdom (on its war loans) and the United States (abrograting the gold convertibility clauses in bonds) have all in effect defaulted – the three most recent countries in the chart.  Perhaps one thing that is different about the last 30 or 40 years is the default has become beyond the conception of lenders.  Perhaps prolonged periods of peace –  or minor conflicts – help produce that sort of confidence, well-founded or not.

I’m not suggesting that real interest rates haven’t fallen.  They clearly have. But very very long-term levels comparisons of the sort in the charts above might well be concealing as much as they are revealing.    They certainly don’t capture –  say –  a centuries-long decline in productivity growth (productivity growth really only picked up from the 19th century) or changing demographics (again, rapid population growth was mostly a 19th and 20th century thing).  And interest rates meant something quite different in an economy where (for example) house mortgages weren’t pervasive –  or even enforceable – than they do today.

As for New Zealand, at the turn of the 20th century our government long-term bonds (30 years) were yielding about 3.5 per cent, in an era when there was no expected inflation.  Yesterday, according to the Reserve Bank, the longest maturity government bond (an inflation-indexed one) was yielding a real return of 2.13 per cent per annum.    Real governments yields have certainly fallen over that 100+ year period, but at the turn of the 20th century New Zealand was one of the most indebted countries on the planet  whereas these days we bask in the warm glow of some of the stronger government accounts anywhere.  Adjusted for changes in credit risk it is a bit surprising how small the compression in real New Zealand yields has been.

Why are NZ interest rates so persistently high (Part 2)?

In Friday’s post, I illustrated how persistent and large the gap between New Zealand long-term interest rates and those in other advanced countries has been (and remains).  The summary chart was this one

real NZ less G7

The gap is large and persistent whichever summary measure of other countries’ interest rates one looks at.

It is also there for short-term interest rates.  In this chart, I’ve shown average real short-term interest rates for the OECD monetary areas (17 countries with their own monetary policies, plus the euro-area) for the last 10 years, adjusting average nominal interest rates for average core inflation (the OECD reported measure of CPI inflation ex food and energy).

real short-term int rates oecd

Of the countries to the right of the chart, Iceland and Hungary have had full-blown IMF crisis programmes in the last decade, and Mexico and Poland had precautionary programmes.  That isn’t meant to suggest that New Zealand is crisis-prone, just to highlight how anomalous our interest rates look relative to those of the other more-established advanced economies.

In yesterday’s post I reviewed some of the arguments sometimes advanced to explain why New Zealand interest rates have been persistently higher than those in other advanced countries.   As I noted, these factors don’t look like a material, or compelling, part of the story:

  • size (of the country),
  • (lack of) economic diversification
  • market liquidity,
  • creditworthiness,
  • accumulated external indebtedness,
  • unusually rapid productivity growth

And, as I noted, none of those explanations has as a corollary a persistently strong real exchange rate.  A story that can make sense of New Zealand’s persistently high real interest rates needs to be able to make sense of the persistently strong exchange rate, and also of New Zealand’s persistently poor productivity performance.  As it is, in a country with a poor productivity performance and the disadvantages of remoteness, one might have expected to find persistently low interest rates and a persistently rather weak exchange rate.

At an economywide level, interest rates are about balancing the availability of resources with the calls on those resources.  In principle, they have almost nothing to do with central banks –  we had interest rates millennia before we had central banks.  They also don’t have anything necesssarily to do with “money”, except to the extent that money represents claims on real resources.

In any economy with lots of exceptionally attractive and profitable opportunities, firms will be wanting to do a lot of investment.  Resources used for investment today might well generate really strong returns in the future, but those resources can’t also be used for consumption (or producing consumption goods) today.  Interest rates play the role prices typically do –  acting as “rationing device”.  Higher interest rates today make some people willing to consume a bit less now, and they also help ensure that the only the investment projects with the higher expected returns go ahead.    In other words, interest rates help reconcile savings and investment plans.  (If they couldn’t adjust that way, the price level would do the adjustment –  and that is where central banks these days come in, adjusting the actual short-term interest rate to reconcile savings and investment plans while keeping inflation in check).

Sometimes the strong desire to undertake investment projects will be based on genuinely great new technologies.    Sometimes it might be just based on a pipe-dream (credit-fuelled commercial property development booms are often like that).   Sometimes, it will be based on direct government interventions (one could think of the Think Bg energy projects).  And sometimes, it will simply be based on rapid population growth –  people in advanced economies need lots of investment (houses, roads, shops, offices, schools etc).

Various factors can influence the desire to save.   If firms in your country have developed genuinely great new technologies, it may seem reasonable to expect the future incomes will be a lot higher than those today.  If so, it might be quite rational to spend heavily now in anticipation of those income gains (consumption-smoothing).  Some governments tend towards the spendthrift, and others towards the cautious end of the spectrum.  Tax and welfare rules might affect desire and willingness to save (although my reading of the evidence is that they affect more the vehicles through which people choose to save).   Demographics matter, and compulsion may also play a part.    Culture probably matters, although economists are often hesitant about relying on it as an explanation.  Business saving is often forgotten in these discussions, but can be a significant part of total savings.

But if, for whatever reason, people, firms and governments don’t have a strong desire/willingness to save at “the world interest rate”, then (all else equal) interest rates in your country will tend to be a bit higher than those in other countries.   And if firms, households and governments have a strong desire to invest (building capital assets) at “the world interest rate”, then (all else equal) interest rates in your country will also tend to be a bit higher than those in other countries.      Quite how much higher might well depend on how interest-sensitive that investment spending is (in aggregate).

Of course, we don’t get to observe actual supply curves for savings, or demand curves for investment.  We don’t know how much New Zealanders (or people in other countries) would choose to save or invest at “the world interest rate”.  Instead, we have to reason from what we do see –  actual investment (and its components) and actual savings.

Take savings rate first (and by “savings” here I mean national accounts measure –  in effect, the share of current income not consumed).  Net national savings rates in New Zealand have been similar, over the decades, to the median for the other (culturally similar) Anglo countries, but lower typically than in advanced (OECD) countries more generally.  Savings rates are somewhat cyclical, but as this chart illustrates, for some decades now they’ve cycled around a fairly stable mean (through big changes in eg tax policy, retirement income policy, fiscal policy, financial liberalisation etc).

net national savings.png

All else equal, if tomorrow we woke up and found that somehow New Zealanders had a much stronger desire to save then our interest rates would fall relative to those in the rest of the world.   But that is an illustrative thought-experiment only, not a basis for direct policy interventions.  A relatively low but stable trend savings rate over a long period of time –  especially against a backdrop of moderate government debt –  suggests something more akin to a established feature of New Zealand that policy advisers need to take account of.   A different New Zealand economy might well feature a higher national savings rate –  more successful firms, wanting to invest more heavily over time to pursue great profit opportunities, retaining more profits to reinvest –  but that would be an outcome of a transformed economic environment, not an input governments could or should directly engineer.   Higher saving rates are not, automatically, in and of themselves, “a good thing”.

By the same token, if we all woke tomorrow and (collectively) wanted to build less physical capital (“invest less” in national accounts terminoloy), our interest rates would fall relative to those in the rest of the world.  Actually, that is roughly what happens in a recession: pressure on scarce resources eases and so do interest rates (central banks typically helping the process along).  But less (desired) investment is not, in and of itself, “a good thing”.   Nor, for that matter, is more investment automatically desirable – in the last 40 years, investment/GDP was at its highest in the Think Big construction phase.

Whether over the last 40 years, or just over the last decade, investment/GDP in New Zealand has been very close to that of the typical advanced country.  On IMF data, investment/GDP for 2007 to 2016 averaged 22.0 per cent in New Zealand, and the median advanced country had investment as a share of GDP of 22.1 per cent.

But these investment shares for New Zealand happened with (real) interest rates so much higher than those in the rest of the world.  As I noted earlier, we can’t directly observe how much investment firms, households and governments would want to have undertaken at the “world” real interest rate –  perhaps 150 basis points lower than we actually had.

We might, however, reasonably assume that desired investment would have been quite a bit higher than actual investment.  Both because some investment –  whether by firms, households or (more weakly) government –  is interest rate sensitive, and because we’ve had much more rapid population growth than the typical advanced economy.   In the last 10 years, the median advanced country has had 6 per cent population growth, and we’ve had 13 per cent growth in population.   More people need more houses, shops, offices, road, machines, factories, schools etc.    All else equal, with that much faster population growth we’d have expected more investment here (as a share of current output) than in the typical advanced economy.  But all else isn’t equal, because our interest rates are so much higher.   That population-driven additional demand is one of the reasons why interest rates have been so much higher than those abroad.  Combine it with a modest desired savings rate, and you have pretty much the whole story.

As I noted earlier, some investment is more readily deterred by higher interest rates than others (“more interest-elastic” in the jargon).    Most of government capital expenditure isn’t –  government capex disciplines are pretty weak, and if (say) there are more kids, there will, soon enough, be more schools.  And more people will mean more roads.  A lot of household investment isn’t very interest-sensitive either: everyone needs a roof over their head and (by and large) they get it.    With a higher population growth rate than other countries, on average we devote a larger share of real resources to building houses than other advanced countries typically do (albeit less than might occur with well-functioning land markets).  Business investment is another matter altogether.  Businesses only invest if they expect to make a dollar (after cost of capital) from doing so.  All else equal, increase the interest rate and less investment will occur.  That won’t apply to all sectors, because in the domestically-oriented bits of the economy not only are interest rates higher, but the underlying demand is higher (more people).  And so non-tradables sector investment probably isn’t very materially affected.  But for the bits of the economy exposed to international competition (whether exporting, competing with imports, or supplying firms that do one of those) it is a quite different story.  An increased population here doesn’t materially increased demand, and a higher cost of capital makes it harder to justify investment in the sector.

And all that is before even mentioning the exchange rate.

In an open economy, the floating exchange rate system is what allows countries to have different (risk-adjusted) nominal interest rates.  Without a floating exchange rate, higher interest rates here would offer a “free lunch”, and the interest rate differences wouldn’t last.   With a floating exchange rate, one can have differences in interest rates across countries, but the exchange rate adjusts such that, overall, expected returns are more or less equal across markets.  Higher interest rates here are, roughly speaking, offset by an implicit expectation that one day our exchange rate will fall quite a lot.  It appreciates upfront, to create room for that future depreciation.

The exchange rate, of course, also serves as a “rationing device”.    Some of the high domestic demand spills over into imports.  And the higher exchange rate makes exporting less profitable, all else equal.  And so when we have domestic pressures (savings/investment imbalances at “world” interest rates) that put upward pressure on our interest rates, not only is business investment in general squeezed, but the squeeze falls particularly on potential investment in the tradables sector.  Firms in (or servicing) that sector face a double-whammy: a higher cost of capital, from the higher real New Zealand interest rates, and lower expected revenues as a result of the higher exchange rate.

We don’t have good data on investment broken down between tradables and non-tradables sectors. But we do know that overall business investment as a share of GDP has been towards the lower quartile among OECD countries (whether one looks back one, two, three or four decades), even though we’ve had faster population growth than most.  We also know that there has been no growth at all in tradables sector real per capita GDP since around 2000, and we know that the export share of GDP has been flat for decades (even though in successful economies it tends to be rising).   Those stylised facts are strongly suggestive of a situation in which:

  • lots of government investment takes place (market disciplines are weak),
  • lots of houses get built (even if not enough –  because people need a roof over their heads),
  • a fair amount of investment occurs in the non-tradables sectors, despite the high interest rates, but
  • a great deal of potential investment in the tradables (and tradables servicing) sectors has been squeezed out.

That is, roughly speaking, how we end up with rapid population growth and yet an investment share of GDP that is no different from that of a median advanced economy.  We know that population growth seems to adversely affect total business investment across the OECD (I ran this chart a few months ago)

Bus I % of GDP

And it is surely only commonsense to reason that tradables sector investment will have borne a lot more of the brunt than the non-tradables sectors.

I’m not getting into the details of immigration policy in this post.  Suffice to say that our immigration policy –  the number of non-citizens we allow to settle here –  is the single thing that has given New Zealand a population growth rate faster than that of the median OECD/advanced country in the last 25 years or so.  It is, solely, a policy choice.  Our birth rate is a little higher than that of the median advanced country, but we have a large trend/average outflow of New Zealanders.  So, on average, the choices of individual New Zealanders would have resulted in a below-average population growth rate (again, on average over several decades).  And that, in turn, would seem likely to have delivered us rather low real interest rates and a lower real exchange rate.  Real resources would have been less needed simply to meet the physical needs of a rising population, and more firms in the tradables sectors would have been able to have overcome the disadvantages of distance. And our productivity outcomes –  and material living standards – would, as a result, almost certainly have been better.

You can read about all this at greater length in a paper I did for a Reserve Bank and Treasury forum on the exchange rate and related issues back in 2013.

Why are NZ interest rates so persistently high (Part 1)?

On Friday, I illustrated (again) just how large and persistent the gap between New Zealand’s long-term interest rates and those in other advanced countries has been.   If anything, that gap has been larger in recent years (say, since 2009/10) than it was in the previous decade, but there has certainly been no sign of the gap shrinking.    It is at least as large now as it was 20 years ago.

Previous posts have illustrated that the gap is large and persistent however one cuts the data.  It exists whether one looks just at the big advanced economies (my charts on Friday focused on G7 countries) or just at the small ones (places like Norway, Sweden, Switzerland, and Israel).  Short-term interest rates are more variable than long-term ones, but on average the gap exists in short rates as well as long rates.  (If you aren’t convinced of the relationship between short and long rates, here are the average short and long-term interest rates for the last decade for each of the 18 OECD monetary areas –  ie countries with their own monetary policies, plus the euro-area as a bloc).

short and long term rates OECD

(The country on the far right of the chart is Iceland.)

Today’s post and tomorrow’s are about why those large and persistent gaps exist.  They will repeat material I’ve covered in earlier posts over the years, but readers come and go, old posts can be hard to find, and the issue hasn’t shown any signs of going away.   Much of today’s post is about a process of elimination: clearing away various possible explanations that, on my reading of the evidence, don’t take us very far.

10 years ago, the Reserve Bank wrote a short paper on exactly this issue.  It was part of our submission to the inquiry being undertaken into monetary policy by Parliament’s Finance and Expenditure Committee.   I wrote the paper, but it was of course signed out by the powers that be, including the then Governor Alan Bollard and his deputy Grant Spencer.  Rereading it this morning, I don’t now agree with every word of that earlier document –  partly because my own thinking has gone beyond where we had got to then – but it still does a good job of laying the foundations.  I’d be surprised if today’s Reserve Bank sees any reason to disavow that 2007 interpretation.

In writing the earlier paper, one of our main concerns was to distinguish between things the Reserve Bank could sensibly be held responsible for and things that really had little or nothing to do with us.   In particular, so we argued, the Reserve Bank sets the OCR, and expectations about the future OCR affect longer-term interest rates, but that does not mean that over prolonged periods of time the Reserve Bank gets to decide the average level of real interest rates in New Zealand.

In a mechanical sense, then, if short-term interest rates are persistently higher than those in other countries it is because the Bank put them there. However, the OCR is not set arbitrarily. Rather, the Bank looks at actual inflation outcomes, and at all the data on the outlook for inflation, before setting the OCR with the aim of keeping inflation comfortably inside the target range over the medium-term. If the Reserve Bank was consistently setting the OCR too high, we would expect over time to see inflation averaging towards the bottom end, or perhaps below the bottom, of the target range. In fact, inflation has consistently averaged in the upper half of successive target ranges – this decade, for example, inflation has averaged 2.6 percent. If monetary policy had been set consistently too tight, the solution would be easy. But there is no sign of that.

It has, at times, been argued that New Zealand’s inflation target was too ambitious and that this might explain why New Zealand’s interest rates have been persistently higher than those in other countries. In the early years of inflation targeting, our inflation target was lower than those in other countries, but …… our target (midpoint at 2 percent) has been firmly in the international mainstream. The most common developed country inflation target (actual or implicit) is around 2 percent. ……there is no convincing reason why achieving an inflation target of around 2 percent should, over time, be any more demanding in New Zealand than it is in other developed countries.

One thing has changed since then.  (Core) inflation has been averaging a bit below the target midpoint, but even so the average inflation rate here over the last five or ten years has been very similar to that in the typical (median) advanced economy.    Monetary policy settings that have been a bit tighter than necessary can, at most, explain only a small part of the average gap between New Zealand and international interest rates (nominal and real).

As we pointed out 10 years ago, credit risk wasn’t a compelling explanation either.    That story feels even more robust today than it did then.    Our government finances aren’t the very strongest in the entire OECD, but they are among the best.   And the negative net NIIP position (the net indebtedness of all New Zealand entities to the rest of the world) is smaller, as a share of GDP, than it was 10 years ago.  Plenty of observers worry about high levels of private sector credit but (a) as a share of GDP it isn’t much different now than it was 10 years ago, and (b) the crisis literature tends to worry more about quick increases in debt ratios at least as much as high levels.

(Small) size isn’t really much of an explanation either.   There are a couple of possible strands to a story about size.  The first would be something about secondary market liquidity.  The New Zealand government bond market is tiny in comparison to those of, say, the United States, Japan, France, Italy, or even Germany.   That makes it difficult, or expensive, to offload a very large position, and might (in principle) given rise to an additional “illiquidity premium” in our long-term interest rates.

In practice, it doesn’t seem likely to be a material part of the explanation.  Over the last decade, for example, our real interest rates have been about as much above those of the small well-managed OECD countries as they have been above those of the G7 countries.   And the “illiquidity premium” is a story that should apply to bond rates more than to overnight rates and yet over the last few decades our short-term rates have been higher relative to our long-term rates than has been the experience of most other advanced countries.  Over the last decade, interpreting that relationship has been made more difficult as many other countries had short-term rates near-zero and felt unable to take them any lower even if they’d wanted to.    But even over the last decade, there has been no sign that New Zealand’s long-term interest rates have been surprisingly high, given where short-term rates were.

I covered off another possible small country story in a post last November

There is another possible story which hasn’t really entered the mainstream of the New Zealand debate, but should be covered off for completeness.  It notes that New Zealand is a small country, with quite a volatile terms of trade, and that the currencies of such countries offer less-good diversification opportunities, suggesting that anyone investing here would require a higher return than elsewhere.  It sounds initially plausible, but it has a number of problems.  The first is that our interest rates have been persistently higher than those in other not-large countries with their own currencies ……  And the second is that if this were an important channel, it would suggest that small countries face a higher cost of capital than large ones, which would limit the growth prospects of small countries.  But (badly as New Zealand specifically has done) there is no real sign that small countries typically grow (per capita, or per hour worked) more slowly than large ones.  At present, I don’t think it is a particularly strong candidate to explain New Zealand’s persistently high interest rates.  Apart from anything else, if this were the story, why would New Zealand have accumulated –  and maintained – such a large negative net international investment position (NIIP) (still among the largest of the OECD countries)?

Monetary policy doesn’t explain the gaps, and neither do size or credit risks considerations.  Here was the Reserve Bank summary a decade ago

Standing back, it seems unlikely that factors such as credit risk, size and market liquidity help very much at all in explaining the persistent gap between our real interest rates and those in other developed countries. Apart from anything else, if these factors were (collectively) an important influence, we would expect to see New Zealand firms and household taking on less debt than those in other countries. In fact, of course, one of the well-recognised facts about New Zealand is that our households are highly indebted by international standards, and that the nation as a whole has been unusually willing to borrow, and raise equity capital, from abroad.

Productivity growth doesn’t help as an explanation either.

If a country had very strong persistent productivity growth it would, all else equal, tend to have higher interest rates than would be seen in other countries.  There would be lots of profitable investment opportunities in that high productivity growth country, lots of (expected) income growth that people might be consuming in anticipation of, and so on.  And over time, that high-productivity growth country could expect to see its real exchange rate rise.  Unfortunately, high productivity growth isn’t the story of New Zealand in the last few decades.  Indeed, more often rather the reverse.  Over the last five years, we’ve recorded no labour productivity growth at all.  Over the last 10 years, at best we’ve only been around a middling OECD country for productivity growth, and over longer-terms still we’ve had one of the worst records anywhere.      I illustrated a few months ago, the depressing comparisons of productivity growth between New Zealand and the emerging economies of central and eastern Europe.

A more prominent explanation for New Zealand’s persistently high interest rates points to the large negative NIIP position and asserts that the explanation for high interest rates is pretty straightforward: lots of debt means lots of risk, and hence the need for a substantial risk premium on New Zealand interest rates.  Taken in isolation –  if someone told you only that a country had a large negative NIIP position this year –  it might sound plausible.  Once you think a bit more richly about the New Zealand experience it no longer works as a story.

Here was the Reserve Bank commentary on this possible story a decade ago.

But the fact that this correlation exists between net international positions and local interest rates does not explain very much at all. In particular, it does nothing to explain what leads countries such as New Zealand to take on such large amounts of foreign capital in the first place. More specifically (and given that the Crown now has no net debt), what motivates New Zealand firms and households to take the actions that lead to this accumulation of foreign capital? And having accumulated the foreign liabilities (and New Zealand’s, as a share of GDP, have not changed much in a decade), what makes higher interest rates sustainable here for prolonged periods?

First, our NIIP has been large (and negative) for a very long time now –  for at least the last 25 years, and over that time there has been no persistent tendency for the NIIP position to get better or worse for long.  By contrast, 20 years earlier than that New Zealand had almost no net foreign debt.  The heavy government borrowing undertaken in the 70s and 80s had markedly worsened the position.  It is quite plausible that foreign lenders might then have got very nervous and wanted a premium ex ante return to cover the risk. In fact, we know some (agents of) foreign investors got very nervous –  there was the threat of a double credit rating downgrade in early 1991.  But when lenders get very nervous, borrowers tend to change their behavior, voluntarily or otherwise, working off the debt and restoring their creditworthiness.   And in New Zealand, the government did exactly that –  running more than a decade of surpluses and restoring a pretty respectable government balance sheet.  But the large interest rate differential has persisted –  in a way that it did in no other advanced country (including those that went through much worse crises and threats or crises than anything New Zealand has seen in the last 25 years).

As I’ve already touched on, short-term interest rates are set by the Reserve Bank, in response to domestic inflation pressures. But long-term interest rates are set in the markets.  If investors had really been persistently uneasy about New Zealand’s NIIP position, we might not have seen it much in short-term interest rates, but should certainly have expected to see it in the longer-term interest rates. (That, after all, is what we see in various euro countries that have lapsed in and out of near-crisis conditions).   But in one obvious place one might look for direct evidence of such a risk premium, it just isn’t there.

And remember that when risk concerns about a country/currency rise, one of the first things one typically sees –  at least in a floating exchange rate country –  is a fall in the exchange rate.  It is a bit like how things work in equity markets.  When investors get uneasy about a company, or indeed a whole market, they only rarely succeed in getting higher dividends out of the company(ies) concerned.  If the companies were sufficiently profitable to support higher dividends the concerns probably wouldn’t have arisen in the first place.  Instead, what tends to happen is that share prices fall –  and they fall to the point where expected dividends, and the expected future price appreciations of the share(s) concerned, in combination leave investors happy to hold those shares. In that process, an increased equity risk premium is built into the pricing.

At an economywide level,  if investors had had such concerns about the New Zealand economy and the accumulated net debt position, the most natural places to have seen it would have been in (a) higher long-term bond yields, and (b) a fall in the exchange rate (and perhaps a persistence of a surprisingly weak exchange rate). But we’ve seen neither in New Zealand.  Had we done so, presumably domestic demand would have weakened, and net exports would have increased.  The combined effects of those two shifts would have been to have reduced the negative NIIP position, and reduced whatever basis there had been for investors’ concerns.  Nothing in the New Zealand experience over the last 20 years or more squares with that sort of story.

And that is the really the problem with the most common stories used to explain New Zealand’s persistently high interest rates. They simply cannot explain the co-existence of high interest rates and a high exchange rate over long periods.

My story attempts to.  More on that tomorrow.

NZ interest rates are still remarkably high

By international standards that is.   And that gap, between our interest rates and those abroad, is nothing much to do with monetary policy.

If the new government is serious about addressing New Zealand’s dismal long-term productivity growth record –  which has been particularly poor in the last five years – it needs get serious about recognising that one of the key symptoms of our structurally unbalanced economy is that persistent gap between real interest rates in New Zealand and those almost anywhere else in the world.

Of course, the big story about interest rates over the last 25 years or more has been the persistent downward trend in the level of nominal and real interest rates.  In this chart, I’ve illustrated that for New Zealand and the median of the G7 advanced economies, using the OECD’s series of long-term interest rates (usually a 10 year government bond).  To stress, these aren’t central bank policy rates, but market-determined long-term yields.

long-term bond yields Nov 17

Once upon a time, very briefly, our long-term interest rates actually touched those (median) foreign rates.   But the dominant story in both series is the downward trend.  In fact, there is no real sign that the trend has yet ended –  each peak, for example, still looks a little lower than the previous one.

Inflation was falling a lot in many countries in the 80s and early 90s, but for the last 20 years or so core inflation has been pretty low and stable in the core advanced economies. In other words, the falls in international interest rates in the last 20 years or so have almost entirely been falls in real interest rates too.

core inflation G7

What about the gap between New Zealand and world interest rates?   Here is the gap between the two series shown in the first chart above.

gap between NZ and world int rates

The gap collapsed, briefly, in the early 1990s as we got on top of inflation, actual and expected short-term interest rates came down, and NZD assets became very attractive globally.  But the compression didn’t last.  Since around 2004 the gap between New Zealand bond yields and this measure of global rates has fluctuated around 200 basis points, with no obvious trend.   (The gap is smaller than that, typically, relative to the United States, and much larger relative to Japan and Germany.)

(I should stress that there is no single right way to summarily aggregate the various overseas long-term interest rates.   Whichever median of some of all OECD countries I used, the broad pattern was much the same, although the absolute size of the gap differs.)

What about real interest rates.   In this chart, I’ve adjusted the median G7 nominal interest rates using the median CPI inflation ex food and energy (the core inflation measure the OECD reports) for the G7 countries, and adjusted the New Zealand interest rates by the Reserve Bank’s preferred sectoral factor model measure.  The sectoral factor model data starts only in September 1993, so that is when I start this chart.   In principle, one might want to do the adjustment using measures of inflation expectations, but there are no consistent long-term measures available across countries.  Core inflation can be thought of as a proxy for inflation expectations.

real NZ less G7

Not only has there been no sign of the gap between New Zealand and “world” real interest rates closing, but if anything the gap has been wider since around 2009/10 than we’d seen previously.  On this measure, the gap has averaged 190 basis points over the past 8 years.

These are really large gaps.  On this measure, over the life of a 10 year bond they make for a 20 per cent difference in total returns.  That makes it a lot harder for a potential investment project evaluated in New Zealand to stack up than it would be for an equivalent project in other countries.

It is also tends to be reflected in big differences in exchange rates.   Those higher yields in New Zealand, if expected to persist, will look very attractive to overseas investors.  It might even look like a “free lunch”.  What takes away the “free lunch” dimension is an appreciation in the real exchange rate now, such that over the following 10 years the exchange rate is expected to depreciate just enough to leave the investor indifferent between holding NZD assets and those in other currencies.   That isn’t a mechanical relationship, but it is a pretty strong tendency.  It is the bigger-picture of the sort of modest jump (fall) in the exchange rate we often see when a Reserve Bank OCR announcement is surprisingly hawkish (dovish).    Comparing 10 year rates, it could account for a 20 per cent ‘overvaluation’ of the exchange rate.  On even longer-term rates the cumulative differences are even larger.  No wonder we don’t see much new investment in the tradables sector in New Zealand.

Perhaps you still doubt that the real interest rates gaps can really be as large as these summary series suggest.   We can check the sotry by looking directly at yields on inflation-indexed bonds issued by governments in various advanced countries.     Getting time series data for some of these countries can be a pain (unless one is setting in front of a Bloomberg terminal), but these are some of the current interest rates I tracked down a few days ago.

Our longest maturity inflation indexed bond matures in September 2040 (23 years away).  On Monday the Reserve Bank was reporting a real yield of 2.22 per cent on that bond.

The Australian government issues an indexed bond maturing on exactly the same date. The real interest rate on that bond, again on Monday, was (so the RBA reports) 1.18 per cent.

So even relative to Australia –  which also has quite high interest rates by advanced standards –  our very long-term real interest rates are very high.

What about some other countries?

The United States has an inflation indexed bond maturing in February 2040.  According to the Wall St Journal tables that bond opened the week yielding 0.89 per cent, roughly 130 basis points lower than the New Zealand 2040 bond.

Canada has a 2044 indexed bond, which was yielding about 0.75 per cent.

I could only find data for a 10 year Japanese inflation indexed bond, which appeared to be yielding about -0.4 per cent.

And Germany offers a range of maturities for its government inflation indexed bonds.   A few days ago, the 2030 bond was yielding -0.67 per cent, and the 2046 bond –  almost 30 years to maturity –  was yielding -0.34 per cent.

(UK indexed bond yields are not directly comparable because the tax treatment of the inflation adjustment is materially different).

There is certainly a range of real long-term yields across countries.    But ours are extremely high relative to those in other core advanced economies.

A year ago, I wrote a post along similar lines (although looking at the data in slightly different ways).  In that post I concluded

…our interest rates (a) are and have been higher than those abroad, (b) this is so for short and long term interest rates, (c) is true even if we look just at small countries, and (d) is true in nominal or real interest rate terms.  And the gap(s) shows no sign of closing.

All that is as true today as it was then.  It should be worrying anyone seriously interested in lifting New Zealand productivity and long-term per capita income performance.  On Monday, I will review some of the possible explanations for the gap –  partly to back the claim that it is a symptom that we should be worrying about, and partly to point in the direction of possible, and sensible, remedies.

 

 

Interest rates: all the fuss for 1 basis point?

I watched the TVNZ Q&A interview with the Prime Minister yesterday.  Apparently, the National Party has a widely-distributed brochure suggesting that interest rates are set to rise if the Labour Party takes office after the election.   I haven’t seen the brochure, but the Prime Minister seemed determined to defend the claim, even as he had to concede that –  of course –  he couldn’t guarantee that interest rates would not rise over the next three years if his own party was re-elected.     When pushed, his claim seemed to reduce to the proposition that interest rates were more likely to rise, and perhaps might rise more, if Labour was in office.

I know that a lot of people now have a lot of debt, and most New Zealand loans reprice pretty frequently (floating rate or short-term fix).  But no serious person will argue that interest rates are quite low at present because the economy is doing well.  Market interest rates around the advanced world (and central bank policy rates) have been very low for some years now, despite all the public and private debt, because demand (real economic demand) at any given interest rate isn’t what it was.  Population growth has slowed in most countries (not New Zealand of course), productivity growth has slowed, and there just don’t seem to be the number of profitable investment opportunities there were. Globally, higher interest rates would, most likely, result from some improvement in the medium-term health of the economy.      That would be true here as well  (with the caveat that ideally one day some government would make the sorts of policy changes that would allow the persistent gap between New Zealand and “world” interest rates to close.)

But the Prime Minister’s claims about interest rates were also odd because:

  • actual retail interest rates (those ordinary people pay and receive) have been rising over the last year, and
  • both the Reserve Bank and The Treasury have official published projections showing policy interest rates rising over the next three years.

The increases in actual interest rates over the last year havn’t been large (about 25 basis points for floating rates, and something less for deposit and business overdraft rates).  But as we’ll see, those are large changes compared to the sorts of effect the Prime Minister seemed to be talking about.

And what about the next few years, on current policies (monetary and fiscal)?  These are the projections from the latest Reserve Bank Monetary Policy Statement and from The Treasury’s PREFU.

int rate projections

The Reserve Bank doesn’t expect much of an increase in the OCR over the next three years, but it is an increase nonetheless.  The Treasury seems quite gung-ho –  by the time of the next election, they expect we’ll have seen 150 basis points of interest rate increases.   I suspect that Treasury’s numbers are too high, but both sets of projections are (a) upwards, and (b) well within the historical margins of uncertainty.    Neither agency gives enough weight, at least in what they are saying in public, to the possibility – again well within historical bands of uncertainty – of materially lower interest rates.  It seems unlikely that the Prime Minister would welcome a world in which such interest rate cuts were required.

The Prime Minister’s specific claim seemed to be that the Labour Party’s fiscal policy would result in higher interest rates than the fiscal policy adopted by the National Party.  He attempted to muddy the water with talk of what any Labour coalition parties might demand, but of course on current polling it seems likely that any National-led government would also have to face coalition party demands.  So, for now, lets just focus on actual main party plans –  National’s as per the PREFU, and Labour’s as per their published fiscal plan.

There would seem to be two plausible channels through which fiscal differences might mean different interest rates.   The first would be if Labour was to run materially lower surpluses, or even deficits.  The increased demand that would flow from those annual spending or revenue choices might, all else equal, lead the Reserve Bank to raise the OCR.  But here (as I’ve shown before) are the two surplus tracks.

labour surplus

They are all but identical, especially when one bears in mind that the Reserve Bank is typically looking a couple of years ahead in setting interest rates.   If Labour does take office, no Reserve Bank Governor –  acting or otherwise –  is going to be looking at that track, with a slight difference in 2018/19 and none beyond that –  and altering his or her interest rate projections.

The other channel is through a stock effect; the effect of a higher accumulated stock of debt.   The Minister of Finance has attempted to highlight that Labour’s plans involve around $7 billion more of net core Crown debt in 2020/21.    Sounds like a lot of money.   In fact, the difference is 2.2 per cent of GDP.  And around half that difference doesn’t show up in a true net debt series (such as that reported by the OECD) at all:  it is the additional $3 billion of contributions to the NZ Superannuation Fund.  I don’t happen to think that resuming those contributions is particularly sensible, but both main parties do –  their only difference is timing –  and if contributions to the NZSF add a bit more risk (variability) to the Crown balance sheet, they don’t make us poorer.  It is very very unlikely that raising a little more gross debt to put money in an investment fund like the NZSF will have any effect at all on New Zealand retail interest rates.

But what does the research show?   Disentangling the determinants of New Zealand interest rates isn’t easy, and I’m not aware of (m)any new studies over the last decade or so.  But a couple of prominent New Zealand economists did some interesting modelling work on the issue back in 2002, for Westpac.  Adrian Orr is now head of the NZSF –  and perhaps a contender for being the next Governor –  and Paul Conway is head of research for the Productivity Commission.     They looked at the impact of net government debt (not idiosyncratic national definitions, but drawing from international databases), and this is what they found

Table 2 shows the marginal and total impact of government debt on real bond rates. Moving from a net debt level of 10% of GDP to 20% of GDP adds only 3bps to real rates and the total contribution of debt to the risk premium is only 6.5bps.

As one might expect, the effects were quite a bit larger when debt levels were a lot higher than they are in New Zealand.

On these internationally comparable net debt measures, current net government debt in New Zealand is about 9 per cent of GDP, and on both National’s plans and Labour’s will fall from here.   Labour reduces public debt a bit less than National does over the next few years, but recall that by 2020 even on the Treasury measure of net debt the difference was 2.2 per cent of GDP.  Applying the Orr/Conway model results (that 6.5bps for 10 percentage point change in debt), and even that increase will produce only around a 1 basis point change in interest rates (with significant margins of uncertainty around those estimates).   And these are long-term government bond rates they were modelling.  Any effect on short-term retail rates –  probably zero –  would be indiscernible.

Are they other possible differences in interest rates that might show up depending on who wins the election?  These ones occurred to me:

  • both parties, but perhaps particularly Labour, look likely to have some difficulty keeping to their announced spending plans in the next few years, given baseline cost and population pressures and the recent electoral auction.  Whether that would result in smaller surpluses depends on what other offsetting actions respective governments might take (and, of course, what happens to revenue flows).
  • one reason why Labour’s net debt numbers are a bit higher than National’s is Kiwibuild.  In the Labour fiscal plan, they allow $2 billion of new and additional debt to get the Kiwibuild programme going (intending to roll that forward as new houses are built and sold).  I suspect that much of the Kiwibuild activity will displace private sector construction, but if it doesn’t –  and it actually adds to total construction activity –  that would put more pressure on available resources and –  all else equal –  increase the chances of OCR increases in the next few years.   But since both sides agree that more houses need to be built, it is hard to see how either could describe any such increase in the OCR as a bad thing –  if anything, in their own terms, it would be a mark of success.
  • Labour is talking about reducing net immigration inflows.  I’m a bit sceptical as to whether they would carrry through on that, given the evident decision to downplay the issue since Ardern took over. But if they do follow through, there would be a reasonably material reduction in overall demand and resource pressures over the next 12-18 months (especially as their proposed cuts are focused on the student sector).  All else equal, that would reduce the chances of OCR increases in the next couple of years.
  • Labour is promising Reserve Bank reforms.  Much is likely to depend on the key individuals they appoint, but –  all else equal –  their proposal to add an unemployment objective would be likely to reduce the chances of near-term OCR increases.  (In the longer-term there is a risk, that would have to be managed, that such a reform could slightly increase longer-term inflation expectations, and thus the level of nominal interest rates.)

In the end, this is fairly silly debate.  The differences in fiscal policy are small, and the track record of the two main parties over 30 years now is of pretty responsible fiscal management.  Debt levels are low and, absent a severe crisis, near-certain to remain so.

And interest rates do move around.  In well-managed countries they most often rise when economies have been doing pretty well, and they fall when something bad happens.   What will determine what happens to interest rates –  market and official –  over the next three years?  It won’t (overwhelmingly) be our choice of Prime Minister, but –  in the famous phrase of Harold MacMillan, former British Prime Minister –  “events, dear boy, events”.

And we, they (politicians) and the Reserve Bank should fear the sort of events that could yet take our interest rates quite a bit lower than they already are.

LVRs, interest rates and so on

I was recording an interview earlier this afternoon, in which the focus of the questioning was the Real Estate Institute’s call for some easing in the Reserve Bank’s LVR restrictions.

Of course, I never favoured putting the successive waves of LVR restrictions on in the first place.  They are discrimatory –  across classes of borrowers, classes of borrowing, and classes of lending institutions –  they aren’t based on any robust analysis, as a tool to protect the financial system they are inferior to higher capital requirements, they penalise the marginal in favour of the established (or lucky), and generally undermine an efficient and well-functioning housing finance market, for little evident end.  Oh, and among types of housing lending, they deliberately carve-out an unrestricted space for the most risky class of housing lending –  that on new builds.

That doesn’t mean I think it is remotely likely that the Reserve Bank will be easing the restrictions any time soon –  apart from anything else, it would leave their consultation paper on debt to income ratio restrictions looking a little silly.   Of course, it would be good if the Reserve Bank did lay out some specific criteria for lifting these ostensibly temporary restrictions, but with the toxic brew of rapid population growth and continuing land use restrictions in place, if I saw the world as they seem to, I wouldn’t be in a hurry to lift the restrictions either.

In any case, it isn’t that clear quite how large a role the LVR restrictions are playing in the reduction in sales volumes.   They must be playing a part, but so too will higher interest rates, and the apparent increase in banks’ own lending standards, and pressure through the parents from APRA (on the lending standards across the whole of Australian banking groups).  Which, of course, is also why it isn’t clear quite how much difference any easing back in the New Zealand LVR controls might make.  Some presumably, but even the Reserve Bank has never claimed that LVR controls would have a very large impact on house prices, or housing market activity, for very long.   And while I noticed an article this morning about negative equity, it is worth bearing in mind that, on the REINZ index (not using median prices), house prices have risen 65 per cent in the last five years, and are currently 0.6 per cent off their peak.

But what of interest rates?  A year ago, the OCR was 2.25 per cent, and today it is 1.75 per cent.  Thus, the Reserve Bank talks of having eased monetary policy.   Here are mortgage rates though.

mortgage ratesI don’t suppose anyone is taking out four or five year fixed rate mortgages, but across the entire curve, interest rates are higher not lower.   Or we could go back another year or so, to just prior to when the Reserve Bank began cutting the OCR.   The OCR has been cut by 175 basis points since then.   Even at the shortish end of the mortgage curve, rates are down only 50-70 basis points.

Having been reflecting this morning on Graeme Wheeler’s performance over his term, I had a look back at where interest rates were when Wheeler took office in September 2012.

mortgage rates sept 12Barely lower, even though core inflation –  on their own favoured measure – is as low today as it was then (and has been consistently low throughout his term).

I wondered if there were offsetting factors but:

  • Two year ahead inflation expectations are about 25 basis points lower than they were then (largely offsetting any reductions in nominal mortgage rates, to leave real rates little changed)
  • the TWI measure of the exchange rate is a bit higher than it was then,
  • the ANZ commodity price index, in inflation-adjusted world price terms, is hardly changed from what it was then.

Of course, the unemployment rate has fallen since September 2012, but there hasn’t been any sign of a pick-up in the best indicator of labour scarcity –  real wage inflation.

So, overall, it is a bit of a puzzle how the Governor expected to get core inflation back to fluctuating around the target midpoint without actually easing monetary conditions.  I don’t happen to agree with him on this one, but he keeps talking about how the huge migration inflows have reduced net inflation pressures (supply effects outweighing the demand effects).  If he really believes that it is even more puzzling that monetary conditions haven’t been eased.

I’m not sure how he’d respond.  But perhaps he could explain that too in the forthcoming speech.

 

Interest rates, supply restrictions, and house prices

There was an interesting post from Peter Nunns on Transportblog the other day, attempting a bit of a back-of-the-envelope decomposition of how various factors, including land use restrictions, might have contributed to the rise in real Auckland house prices over the 15 years since the end of 2001.

Nunns starts his decomposition with the suggestion that:

One simple way to disentangle these factors is to look at the relationship between consumer prices, rents, and house prices:

  • When rents rise faster than general consumer prices, it indicates that housing supply is not keeping up with demand
  • When house prices rise faster than rents, it indicates that financial factors – eg mortgage interest rates and tax preferences for owning residential properties – are driving up prices.

and with this chart

nunns-1-auckland-real-house-prices-and-rents-2001-2016-chart-600x360

Disentangling the contribution of various factors isn’t easy.  A lot depends on what else one can reasonably hold constant.  Nunns seems to assume that holding real rents constant is a reasonable benchmark, and that we can then think about the change in net excess demand for accommodation by looking at deviations from that benchmark.   Thus, roughly, he suggests that a 31 per cent increase in house prices can be accounted for by supply shortfalls.

Over this period, I’m not at all convinced that is right.  Why?

Largely because of the big changes in long-term interest rates, which –  all else equal –  should have affected supply conditions in the rental market.  Specifically, when interest rates fall a long way it is a lot cheaper than previously to provide rental accommodation (the available returns on alternative assets having fallen so much).

And what has happened to interest rates over this period?  Well, here is a chart of the 10 year bond rate since the end of 2000.

10-year-rate

There is always a bit of noise in the series, but long-term nominal government bond yields are now about 350-400 basis points lower than they were in 2001.  A little bit of that is falling inflation expectations (around 50 basis points according to the Reserve Bank survey).  But fortunately in 2001 we also had a 14 year government inflation-indexed bond outstanding, and we do so now as well.  In late 2001, that indexed bond yielded about 4.6 per cent, and the current yield is around 1.6 per cent.  Real long-term bond yields look to fallen by at least 300 basis points (and around two-thirds of that fall has taken place in just the last five years or so).

Short-term real interest rate haven’t fallen that much.  Short-term rates are more volatile, so here I use a two year moving average.

1st mortgage rate 6mth term deposit rate
   Dec 2001 7.99 5.86
  Sept 2016 6.14 3.59

Even on these measures, real interest rates have fallen by perhaps 1.5 percentage points.

In a well-functioning housing supply market, those sorts of falls in real interest rates might reasonably have been expected to be reflected in lower real rents.

Quite how much a fall one might have expected in such a market will depend on a variety of assumptions one makes.  But if landlords had been looking for an 8 per cent annual real return on rental properties back in 2001, then even a 2 percentage point fall in real interest rates, might readily have been consistent with a 25 per cent fall in real rents –  in a well-functioning housing market.  If real risk-free rates have fallen by more like 300 basis points –  as the indexed bond market suggests –  that would be consistent with more like a 40 per cent fall in the rental cost of long-term assets.

These are all illustrative hypotheticals. They assume that new assets can readily be generated.  But in a well-functioning housing markets, new houses can be readily generated.  New unimproved land can’t be (there is a given stock, only what it is used for can be changed).  But in well-functioning housing markets, the unimproved land component of a typical new house+land package will be quite low.  Think of dairy land prices at perhaps $50000 a hectare and you start to get the drift.  All else equal, in well-functioning housing supply markets, when interest rates fall unimproved land values should be expected to increase, but the value of land improvements and houses shouldn’t be much affected at all.

But even that story is a cautious one (biased to the upside).  After all, interest rates typically fall for a reason –  big trend falls don’t occur in isolation.  One such factor is low expected future returns (eg lower expected rates of productivity growth).   And interest rates are not a trivial factor in the cost of land improvements, associated infrastructure, and house building itself.  Again, all else equal, lower interest rates should lower the real cost of bringing new houses onto the market –  reinforcing the expected fall in real rentals.

Of course, this is so detached from the reality of Auckland (or New Zealand more generally) housing markets that it is difficult to even envisage such a scenario.  We have land use restrictions  –  which tend to produce high land prices and high rents –  and when those restrictions run head on into severe population pressures (especially unanticipated ones), it is hardly surprising that house and land and rental prices rise.  But when that clash (between land use rules and rising population) occurs at time when real interest rates have been falling a lot, looking at trends in rents can badly confuse the issue.

I’m not wedded to a story in which all the increase in real house prices in recent years is down to supply restrictions interacting with rapid population growth.  In his piece Nunns notes a couple of other possibilities

some other ‘financial’ explanations could include:

  • New Zealand’s tax treatment of residential property, and in particular investment properties – unlike many of the countries we ‘trade’ capital with, we don’t have any form of capital gains tax on property. All else equal, this means that we should expect structural inflows of cash into our housing market, driving up prices
  • The impact of ‘cashed-up’ buyers coming in without the need to borrow money to invest in properties – including, but not limited to, foreign buyers.

But….our tax treatment of investment properties has become less favourable not more favourable over the last few years  (reduced and then abolished depreciation provisions, the introduction of the PIE regime, lower maximum marginal tax rates.  If these arguments have force at all –  and they typically don’t when supply is responsive –  they should have worked in the direction of (modestly) lowering house prices over the last decade or so.

And while I suspect there is something to the “cashed-up foreign buyer” story, again any such demand only raises house prices when supply is unresponsive.  If supply is responsive –  which it would be without all the land use restrictions –  such demand would be just another export industry.

Of course, the common story is that lower interest rates have raised house prices.  And perhaps they have to some extent, but (a) recall that interest rates are lower for a reason, and real incomes now (ie the expected basis for servicing debt) are much lower than would probably have been expected a decade ago, and (b) lower real interest rates do not raise the equilibrium price of even a long-lived asset if that asset can be readily reproduced.  In well-functioning housing markets, houses can be, and unimproved land is a small part of the total cost.  If lower interest rates raise house prices, it is only to the extent that land use and building restrictions make it hard to bring new supply to market.  (As it happens, of course, in much of New Zealand real house prices are no higher than they were a decade ago when interest rates were near their peaks.)

To a first approximation, trend rises in real house prices are almost entirely due to supply constraints.  There can be all sorts of demand influences –  some government-driven, some not –  and it can be useful to identify them, but in well-functioning housing supply markets they don’t generate rising real house prices.

atlanta-2

As just one illustration, here is a chart of nominal house prices for Atlanta over the last decade. Atlanta has had rapid population growth, has experienced significant falls in real interest rates (like the rest of the US), is in a country with mortgage interest deductibility for owner occupiers, and is not obviously a worse safe-haven for Chinese money fleeing the weak property rights of China, and yet nominal house prices are no higher than they were in 2006.