Since time began we have experienced boom and bust cycles in almost every area of life, business and government, with fashions coming and going, over expenditure and investment bubbles, but can we ever beat the boom and bust cycle of the worldwide property market?
Gordon Brown famously suggested that he had beaten the “boom and bust economic cycle” only for the credit crunch and the worldwide recession to appear. While he has never apologised for his outrageous remark there are still some who believe the boom and bust cycle can be beaten and others who suggest it is human nature which nurtures and creates boom and bust scenarios. So who is correct?
What is a boom and bust cycle?
Since time began property has been bought and sold with many investors making substantial short term gains, some investors buying for the long-term and others losing money. However, over the centuries we have seen a significant number of boom and bust cycles which have pushed property prices around the world to unsustainable levels only for demand to evaporate and prices to collapse. As we suggested above, boom and bust cycles happen in every area of life and business whether this be trends in fashion, investment vehicles or property investment.
The psychology behind the boom and bust cycle of the property market
Despite the fact that millions upon millions of people require property for their home, in many ways the property market is dictated by those who buy and sell for a profit and profit alone. Whether we are looking at investors who are prepared to take significant risk on early-stage property developments or those who prefer to buy in the secondary market in an area which has “proved itself” and property prices seem stable, the risks are different and the potential returns can also vary markedly.
An example of a boom and bust property market
If we take the Dubai property market as a prime example of a boom and bust scenario, we saw overseas investors rushing to acquire properties in a region which for many years had been “out of bounds for overseas investors”. This sudden rush of activity on the ground from property developers and the significant funds which began pouring into the region saw property prices increase substantially in a very short space of time.
This increase in investment in the region saw a requirement for more and more services and businesses which attracted more and more investment from the corporate arena. As demand continued to grow and property prices continued to rise, we saw property prices rising to levels which were extremely dangerous but in the above scenario nobody seemed to mind.
While there are those who will argue that the Dubai property market collapsed because of the worldwide recession, there were signs of overheating well before the credit crunch and worldwide recession hit home. As more and more investors began to look to the future and the point at which demand and supply would turn in favour of over-supply, we saw more and more investors looking to liquidate their assets and move out before the market hit the top.
Is a boom and bust scenario healthy for a property market?
In basic terms the boom and bust cycle of any investment market is fuelled by fear and greed and while many will rightly points out that millions upon millions of people have suffered around the world in light of the ongoing worldwide recession, a boom and bust cycle can in many ways flush out the excesses of any system.
There is no way that any property market can continue to rise higher and higher without the ever growing risk of a property price collapse. The quicker and higher prices rise the more chance of a boom and bust scenario at some point in the future. Many governments around the world have tried to slow down many “overheated” property markets using interest rates and regulations but with the weight of money from the worldwide investment immunity far larger than anything any government could offer, market forces ultimately rule the day.
Can regulation alone control the length of a boom and bust cycle?
As we touched on above, over the years we have seen many governments around the world look to instigate boom scenarios and look to avoid bust scenarios. However, as we also mentioned above, the combined weight of money available from the worldwide property investment market is significantly more than any one or any group of governments can match. While it would be wrong to suggest that interest rates and regulations have no impact upon local property markets, if investors see a situation of overregulation they will look elsewhere.
There will always be a country or an area around the world willing to welcome property investors with open arms because ultimately a property boom can lead to a business boom and increase visitor numbers. However, as we saw in Dubai, once the boom is underway it can be very difficult to control, even if regulations are introduced in hindsight.
Human nature
As much as we hate to admit it, many in the investment arena are ruled by fear and greed, fear that their assets could fall in value or they may miss out on an investment opportunity, and greed which can see investors jumping into markets which are overvalued and looking to squeeze every last penny out of an investment – even if their target price is “unrealistic”.
The banking sector is also dominated by human nature and the fact that each and every shareholder in any financial institution around the world wants to see profits increasing year on year and if this entails taking more and more risk, many would not argue with this strategy. Even though governments around the world have come down hard on the financial sector it is underlying investors, whether individuals or pension funds for example, who dictate what they want and the direction which any one company will take.
Conclusion
In many ways the boom and bust cycle which is so prevalent in many areas of society is a creation of human nature itself. When prices push too far, at some stage investors will stop buying and those who invested in over extended markets will feel the pain. When prices drop too low there will come a point when the fall has been overdone and investors will look to get back into the market.
The best any government or regulator can hope for is to control or at least influence the gap between the boom and bust cycle to limit any potential losses and try to control price rises. In theory there are many economic instruments to hand but in practice the influence of the worldwide investment community is far greater and far more imaginative than that of any government or combination of governments in the developed or developing world.
In short, many investors have very short memories and prefer to remember the good times and ignore the bad times!