Macbeth and Banquo meet the witches.
Wednesday, July 14, 2010

Bubbles and Pyramids

“Double, double, toile and trouble Fire burne, and Cauldron bubble”

In an earlier post I mentioned that tuition at my undergraduate alma mater had gone up 32x between 1964 and the present while the overall cost of living had gone up only 7x. It occurred to me that something similar might have happened in housing. Here’s a chart that gives the selling price of the house in Reston that we lived in for 24 years.

 As you can see from the top picture we paid 45,900 for it, and sold it for 189,900. That’s an increase of 413%. The guy we sold it to turned it over in 2006, and made a 77% profit. After that the family that bought the house was unable to keep up payments, and the price fell to 139,900, and a subsequent resale for 158,000. This was less than the 2002 selling price.

 You’ll also notice from the second picture that the rate of increase of the house price, during the years it was increasing, was greater than the overall cost of living.

 The third picture shows the price of the house, in blue, and what the inflation adjusted price would have been, in green. The house outpaced inflation until 2008. This isn’t just smart investment, or a good house, this is an inflated market.*

*As of today (1/21/2014) the CPI is 233, and Zestimate from Zillow for the house is $329,890, an increase 208.79%, which may well indicate a renewed bubble.

Now I argued previously that money coming into a sector, such as education in the previous case, and housing in this case, causes a distortion that is reflected in prices rising faster than the overall inflationary rate. That’s one thing that happened in the housing market. The influx of Federal money drove prices up in excess of the ability of people to pay. The market collapsed as over extended purchasers defaulted.

The cure was to let the market adjust, and to clear out the bad mortgages, even at the risk of losses to the financial institutions.

The educational sector that I blogged about earlier is also going to experience a contraction at some point. One cause is the over inflation relative to the overall price and wage level. Another, oddly enough, is birth control in all its forms, including abortion. The baby boom that began in 1946 sent its first children to college in 1964. So there was a significant expansion in demand compared to the previous years. The overall effect was to increase demand directly on the institutions, but it also increased political demand for social programs that would assist in meeting college expenses. I suppose the idea was to provide an updated version of the post-war GI Bill of Rights. Now that program was for a limited time, and any effects of the influx of federal cash into the education sector were probably transient. The educational programs that came of age during the 50s and 60s were longer lasting, and they met with a large number of young people who wanted the advantages of college. However, these young people, the boomers, were not concerned with building large families. Consequently people who had obtained advanced degrees as a prelude to teaching were unable to find teaching jobs, and drifted into other occupations. Institutions that had expanded to meet an earlier increase in demand had to consider contracting, cutting back on hiring new Ph.D.s, reducing classes, and so on to meet falling demand. What did not happen is a fall in tuition. Students moved, at least for the first couple of years, to cheaper community colleges, and only after a year or two of possibly sporadic education did they move to the more prestigious colleges and universities.

The absence of workers who would otherwise have entered the workforce, has meant that demand is not there for education, nor are there younger workers to support the older retirees.

Current plans for reform of Social Security include raising the retirement age. Increases in longevity, accompanied by contraction of the the number of workers coming into the workforce, a contraction relative to what it would have been sans contraception/abortion, has meant that workers who should have contributed to the support of the Social Security pyramid weren’t there.

The expansion of education has also meant that people who would have entered the work force at 18 are now entering it at 22 or later. Those that go on to post-graduate education will enter the work force at 25 or older. If these older entrants, under the current scheme, retire at 62 or the earliest they can, they will increase the burden on an already overburdened system, and will not have paid in as much as workers who began their careers earlier.

You had an unsustainable bubble in housing, which collapsed violently, and you have another unsustainable bubble in education. These bubbles were and are fueled by the influx of federal funds. The Social Security pyramid is not sustainable because the workers needed to support it aren’t there.

You have a situation in which bubbles in housing and education have formed, and a pyramid of older, retired workers supported by a base of younger, employed workers. As the top of the pyramid has expanded, due to longevity and earlier retirement, the base has narrowed due to later entry into the work force and because the number of children produced by the baby boomers, the first birth control pill generation, has been fewer than the number produced by their parents. So the pyramid is unsteady.

The housing bubble was deflated in 2007-8, and the education bubble may well burst soon. Federal money has forced a misallocation of funds into the education sector. That money should be withdrawn, and market forces allowed to work in the sector.

Social Security was a pyramid scheme that was dependent on a small number of retirees, who would die early, and a large number of workers relative to the retirees. That pyramid has proven unsteady. The answer is to restructure the system so that it is actually a savings/investment scheme rather than a pyramid.

Sector inflation, if it is not already a problem, will be an emerging problem in the healthcare sector as additional federal money floods in from Obamacare. This will ultimately hurt the lower class people that it purports to help. The solution is to withdraw federal feds from the healthcare sector, and to let market forces govern medical costs.

Of course, if you say that money should not be spent on education or on healthcare you are anti-education, anti-poor, and you’ll lose the support of all the bleeding hearts who want to take your money to use for their purposes. So in the end nothing will be done, and the education bubble will burst, and Social Security, and healthcare, and the whole network of social programs will ultimately come apart.