1602: Changing RTV Ratios in 2021, Pandemic Pushes Nationalization, Charles Goodhart & Manoj Pradhan

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Welcome to episode 1602. 1602. Yesterday I talked to you just briefly about the Fannie Mae loan limit. Well, I should say the Freddie Mac Fannie Mae loan limit. These two usually kind of go in lockstep, as you know. These are the big agencies that become the secondary mortgage market. And they make the US Real estate market very special compared to other markets around the world because they create a lot more liquidity and a lot more velocity in the housing market. And boy, do we ever have a housing market with velocity nowadays. Wow. I think you all know that. So we won't even go into that today. But now this is uneven across the country because it is adjusted geographically. But most counties, and it goes county by county, most counties will see about a 7.5% increase in, in the loan limit. Frankly, I don't know why they think they needed to do this. I'm all for throwing a little more barbecue lighter or charcoal lighter, I should say, or gasoline on a fire to make it bigger. Sure, go for it. I mean, the market's already. This is like something you do when the market needs help, right? When the market needs help and you need to stimulate it, this is essentially another form of a stimulus, okay? Increasing these loan limits. And if you ask me, it just wasn't necessary. I don't know why they did it, but you could argue that they're just adjusting to market prices. Prices have gone up. They gotta increase the loan limits so that you don't have to go into a jumbo loan category. You can stay in the conforming loan category and still buy a higher price property. So everybody out there, you know, loves it. Everybody's kind of thinking of themselves rather than the broader economy and what it means for the market, which is kind of what I'm trying to do. I'm kind of trying to think of the broader thing, the big picture, if you will. And most people are just thinking like, hey, what's in it for me? So, fine, it's good for me too. I'm just saying it's not really necessary. And I think we've got a market that's already at a fever pitch. Why are we raising the loan limits? So the usual suspects, but not always, get the highest loan limits. So for example, if you're in New York or Los Angeles or one of the more expensive overpriced areas, if you're in San Francisco, then you'll see the highest conforming loan limit range of $822,375 for single unit properties. And if you're in the lower priced areas, you'll see a limit of $548,250. And then you have a couple of steps in between there. But interestingly, in the low priced areas, which is most of the country, that $548,000 limit buys you substantially more house than the higher $822,000 limit does in some of these overpriced, cyclical business, unfriendly landlord, unfriendly, poorly run, disastrous markets. Not that I have an opinion about that or anything. Okay, so there's your update on the loan limit increases that we will see next year. Okay, so the Mortgage Bankers association, that is the mba, not to be confused with the Master's degree in business administration, the mortgage bankers association MBA released revised estimates for the third and fourth quarters of 2020. But they also predicted a prediction. We love predictions, don't we? Yes, we do. Predictions are always kind of interesting. They predicted what will happen in terms of purchase volume mortgage transactions that are purchase money loans as opposed to refi loans. Purchase money loan simply means that you're getting the loan, the mortgage to purchase a property versus refinance a property. So they predicted that 2021 will see a record volume of purchase money loans. As if 2020 wasn't absolutely crazy enough, the whole country, it seems like, is buying a house. And if they're not buying a house, they're refinancing a house. So they are forecasting an increase in purchase money loan originations to you ready for this? 1.59 trillion. That's with a t trillion dollars in volume which would break the previous record of. Now everybody wants to look back to are we in a bubble? Is it, you know, are we going to have another great recession? Well, the previous record in 2005 for that number was 1.5, 1 trillion in purchase money volume. Okay, so, and then refinancing will decline a little bit next year. That's their prediction. Now you might be asking how do they make a prediction like that? Well, is it a prediction on interest rates? Now our rich uncle Jerome Powell says they're going to keep rates low for quite a while, which is going to keep throwing gas on the fire, fuel on the fire, punching the punch bowl, candy, handing out candy, you know, whatever. They're going to keep doing that and that's going to keep the market on fire. It's going to make houses appreciate more, it's going to make rents increase more, although probably not as much as the houses will appreciate, meaning the rent to value ratios, the RV ratios will get even more out of whack and investors entering the market next year will feel like, wow, I can't get a good rent to value ratio anymore. And they're right. Rents will go up a bit, but prices will go up more. So you should probably buy sooner rather than later. And, you know, expand your portfolio as much as possible. Assuming you're in the building stage of your life, if you're in the stage where you've made all your money and you want to relax a little bit, then you just reap the benefits of the current portfolio you have. Right? But one of the reasons the refi market might be decreasing a little bit is because with refinances there's no urgency, it's just a matter of lowering your payment. Even if interest rates tick down a little more, which would be incredible, and even if they do that, it doesn't necessarily mean it's worth doing a refinance. So all the people, the millions of people that already refinanced, they don't need to do it again. People purchasing obviously need financing for their new home purchase now. Also, you know what I like? Well, sometimes I don't like it, but sometimes I like it is when you're looking at an article online, I like to read the comments. Now, some of them are epically stupid and you think, do these people get to vote? Really.

Really dumb comments. But some of them are really smart and some of them make you think so. This one will make you think a little bit. Not that big a deal, but maybe too much of a build up. But here we go.

All right, so, okay, you can stop now. Sound effect.

Some of those are a little too long, aren't they? Anyway, this comment on this particular article about the volume predicted for next year, Chanceman says, and that's the Person's handle. I'm not sure that's their name, but it says Good morning and thanks for the summary. I believe this sentence for 2020, the MBA is estimating $3.9 trillion in mortgage originations, the highest since 2003. And 15 50% increase from 2019 should read as 3.39 trillion, not 3.9 trillion. Okay, so he's correcting their math. But what's amazing about that is that it's a 50% increase from 2019. Wow. I mean people in the mortgage business are making money hand over fist. They are making tons of money. Now we've talked a lot about this uneven recovery and here's some bad news for you. This really shows you that a lot of people are really suffering. I am looking at a chart and this is data from the bls, the Bureau of Labor Statistics, and it shows, it's entitled Service sector struggles to recover lost jobs. And so it says change in total non farm employment in the US between February and October of 2020 by industry. And this isn't showing all the industries, it's just showing the industries that are suffering. And some of this is a little bit surprising to me. Actually some of it is pretty surprising and some is not surprising at all. So the industries that are down just ever so slightly down, Utilities, mining and logging, financial activities, information. I don't know what that means. Everything, every industry is an information industry nowadays. Transportation and warehousing down about. Well, it's 0.27 million jobs down for transportation warehousing. That doesn't totally surprise me. Construction surprises me though. That's down a little more 0.29 million. Okay, so you know, 0.29 million construction because construction is an essential service and there's a lot of construction going on. But I would venture that those construction jobs lost are definitely not in housing. There's a massive labor shortage in housing. Labor. But all of the people that were building out office spaces, retail spaces, retail construction, new office construction that's virtually, you know, non existent. Nothing going on there. Nothing going on at all in fact, like negative growth obviously. So when you lump them all together, I guess construction's down slightly. Manufacturing down 0.62 million. So more than half a million down in manufacturing. And I'll tell you, for someone who is looking to buy a new car, I have never had such a hard time buying a car. I mean I go on the manufacturer's website, I spec out what I want, I deal with these car dealers and so forth. And it is a huge hassle to get what you want because these plants have been shut down and there's a shortage of vehicles. So real, real hassle there. Wholesale and retail trade down. No surprise there. Professional and business services down 1.15 million. That one surprises me and doesn't surprise me at the same time, I guess. You know, a lot of people call on offices, they go to the offices, they repair the copiers, they maintain the phone systems, the servers. All of this kind of stuff has gone to the cloud. So, you know, I can see that that's good. Now the lawyers seem like they're doing pretty well. There's a lot more lawsuits with COVID and so forth. A lot more things to sue each other over. Their business is good.

Not necessarily a good thing for the overall economy, but it is what it is. Government down 1.22 million jobs. Education and health services down. Kind of surprising when you put, why are they lumping those two together? But this one will be no surprise at all. Are you ready? The worst hit of all of them. This is down 3.49 million. So 3.5 million jobs down. And this is ugly, folks. This is really, really bad. It is.

Yes. That is a bomb dropping on the leisure and hospitality industry. Leisure and hospitality. This is not a good time to be owning a hotel or to be in the travel business. So there you go. And by the way, all those stats I just shared, seasonally adjusted. So they do have some adjustment. Okay. Now also, Americans who are unsure of being able to pay rent, that's important to us as landlords. But here's the problem. When you look at surveys like this, they're almost always 100% or at least heavily weighted toward apartment dwellers rather than single family home dwellers. So that is problematic at the outset. Either way, it's not as bad as some would say or some might think, right? Percentage of US Adults who have the following confidence level. So this is just what they think. It's like consumer confidence. It's just their viewpoint of their ability to make next month's rent payment. And here's another problem with this chart. It doesn't give you any reference point. It does not answer the Jason Hartman question. What is the Jason Hartman question compared to what? And so there's no reference point of what it was last year or 10 years ago. So we don't know what to compare it with. But here's what they say. 12% of these renters, mostly apartment dwellers, of course, have no confidence in their ability to pay rent next month. 18% have slight confidence. 22% have moderate confidence. 47% thankfully, have high confidence. That's good.

And 1% says they've already worked out a deal with their landlord to defer their payment. And that's according to data collected for just a short time, short period, October 28th to November 9th. And that is the Household Pulse Survey. All right, I got a bunch of other stuff to go into on an upcoming episode, but we have part two where we talk about Goodhart's Law today. So let's get into that part two of the episode as we talk from yesterday about demographics and age distribution and all sorts of amazing stuff. So here we go with part two. Oh, wait, you know, I always almost forget, don't I? And I have to remind myself, many of you have asked about the Black Friday sale, what it includes, what's involved. Just go to pandemicinvesting.com black Friday pandemicinvesting.com black Friday and check out our Black Friday bundle deal with a whole bunch of great offers for you. All right, now our guest.

Okay, so go on. You know, I'm looking at the table of contents. You cover a lot of things in this book. Let's switch gears and grab another area that you want to cover. I just want to make sure we get all this out.

Well, one of the key things that we get asked, and you alluded to this yourself, right, which is that the tip of the spear or the blueprint for an aging society has already been seen, many argue, in Japan. So Japan's been aging for a very long period of time. Like you were saying, the concerns are that they don't really have much immigration inward, so their population growth is really dwindling into nothing. And if all of that is true, why haven't we seen our thesis playing out there? Why have we seen in many cases the opposite? And Charles and I, we've looked at this topic, and our argument is that the way Japan has been treated has been symptomatic of a lot of the problems that we see in the analysis of the global economy. It has been treated.

And when you say, why don't you see your thesis playing out? You mean inflation, right? Correct. Because Japan has huge debt levels, about 230% of GDP, and it has an aging population, but it also has it's really like the lost three decades. I mean, not even two decades anymore. So why don't you see it playing out there?

Actually, it's interesting you say that. Use that as a starting point, right? I mean, the first point you'd look at is they really did have a lost decade. There's no doubt after the asset price bubble burst, they really had a lost decade. But since then they've had 1% GDP growth, which doesn't look fantastic at all. But when you consider that the population and the working age population has been falling and the workforce has been falling by 1%, the difference between the two, which is productivity, is 2% a year. If you offer 2% a year productivity growth to the advanced economies, they bite your hand off today. So they've done very well on that front. The second thing to keep in mind is Japan is not an autarkic society. There was no way that Japan was blocking off either the disinflationary forces or the impact of this massive labor supply shock at its borders. So Japan going into inflation while China was deflating the rest of the world is incomprehensible. When we look at Japan and we look at it as a closed society and we say, well, this is what happened in Japan. They went to deflation because of its demography. What we're effectively doing is we are seeing that Japanese corporates and the policymakers there disregarded the rest of the world and they absolutely did not. One of our key contributions to that debate is finding new data and new evidence from Japan's own ministries that shows very clearly that Japan's corporate sector looked at the domestic economy and said, that's not where I want to invest. Where I do want to invest is in China, North Asia, Brazil, Poland, and indeed, if you look at what's been happening there, the ratio of overseas to domestic production, not only of manufacturing, but of employment, services, profit, everything has been increasing at a very steady pace for the last 30 years. So Japan behaved in a profit maximizing manner outside within its economies. Its labor force was treated, as we all know, very differently from the rest of the world. You could not really fire those with employment for life contracts. So Japan moved them from manufacturing to services where you could better protect their hours and they moved to part time workers. So I think Japan on our point of view, has been misdiagnosed. And using that as a roadmap for what is yet to come is an extremely misleading story, which is why we have market prices where they are right now and they're about to be proven wrong.

And when you say market prices, are you referring to the stock market?

Partly, to a large extent, I mean interest rates. So if you look at where interest rates are, and this is the point you made earlier, which is that Japan's debt has skyrocketed and what has allowed them to remain that high, which is a point Charles has made many times, is that the cost of servicing that debt has fallen to incredibly low levels. And so what we've seen for the future is everyone's expecting interest rates over the next 10, 20, 30 years are going to remain very low, which means there is no pressure on stock markets and the impact on currencies is unknown. If we are right, we're going to start with those interest rates being at the wrong level, and all of the subsequent changes that will revivate through the risky asset spectrum will then be a function of that initial change.

We've been living in a remarkably favorable time capital and with the result that what has happened is debt ratios everywhere have gone up very, very sharply, but interest rates have fallen just as sharply. So debt service ratios have remained flat or even declined. So the burden of the debt has not been increasing. But interest rates can't go down anymore and are very likely to rise somewhat. In the aftermath of the, the pandemic and with the reduction in the working population that we see coming, and with the greater protectionism, the end of globalization, the return of business to each country. One of the features of the COVID pandemic was that every country became even more national. They all insisted on keeping their own drugs and personal protective equipment. The COVID pandemic has moved globalization even further backwards.

The COVID pandemic has really promoted the Trump agenda. Candidate Trump back in 2015 and 16, you know, this is all the stuff that he was talking about and you know, he's getting it through Covid, if not his own efforts, obviously. But you know, I think there's some sense to that. I mean, countries should make their own PPE and some of their own things and their own vaccines, and some of that should be done onshore. This is just my personal opinion. We can't be dependent. Every country can't be totally dependent for emergency style needs on other trading partners that need them themselves. Right? Yeah.

But you have to be aware of the implications of that, because in the past with globalization, any employer could turn around to the workers and say, if you insist on having a higher wage, so be it, but we will move the production offshore and you will no longer have a job. That is no longer going to be the case. The effect of globalization and the massive upward supply shock in the labor force and the shift of labor out of manufacturing, where they were relatively well concentrated and unionized, to the service economy, to the gig economy, has absolutely trashed the bargaining Power of labor.

Oh, I know.

And the bargaining power of labor is going to come back.

I think if you just to put Charles point in a slightly different way, connecting to the initial comment you had is where do we stop that story? If it is for national and public interest that you produce PPE at home and disregard profit considerations, I would have no objection to that. But then you could take that story on to a few other industries where you could make similar arguments.

It could be endless. Yeah, you could. I'm just saying that's where that story goes. It just seems logical that some of this you can't be just completely dependent. But look, that's neither here nor there. That's just my opinion. Okay, I could be wrong. But you've got a diagram in the book where you talk about stagflation and I've predicted that that is the era in which we are moving into. I don't know if it'll be the 70s style stagflation, but I think we are going to see higher inflation and I think we are going to see a real shift in employment and so forth. You've alluded to it in different ways. And I'm just wondering, do you think that's what we're coming into? Stagflation? And for the inflation component of that you say inflation is coming and I agree with you, by the way, how much can you put a number on that? And are you talking about us when you say that or global or both?

I think we'll be lucky if we can hold inflation to a rate of about 4 or 5% per annum as.

An official number like a CPI number, which most people believe that's understated.

Well, it is at the moment because of the shift in the consumer basket what people buy. The current CPI figures for inflation are almost meaningless and certainly underestimate the true rate of inflation at the moment. They're not by an enormous amount.

Let me get an opinion from you on that. Do you think the true rate of inflation is 50% higher than the CPI? Is it double the CPI?

Because if you have a CPI of.

Zero.

Well say the CPI is at their target rate of 2% when it is.

Okay, well the CPI is not at 2%.

I understand, but just say it's 2. Then is it really 3 or is it really 4?

No, it's probably around 2.

That's more in Europe. I wouldn't like to be dogmatic about what the US situation was.

Okay, all right, fair enough, fair enough. Okay. But stagflation, is that what we're coming into inflation.

Yes. The question of stag, in some ways, we're quite optimistic in that we do think that productivity per worker is going to improve because in order to remain competitive, manufacturers who are able to maintain an enormous profit margin by shifting everything to low wage countries abroad will now have to invest in order to make the workers, where unit wage costs are likely to rise, more productive in order to cut down on labor costs. So we think that productivity per worker will rise as it did in Japan. We think that investment will, corporate investment will go back up and that productivity will recover. But we'll do very well if we do as well as Japan. And you talked about three lost decades. We think that given the demographic difficulties that Japan faced during the last two decades, they've actually done very well. And we will all, and that includes the US and the UK be doing very well if we can increase our productivity per worker to the level that Japan has managed to do.

Yeah, well, Japan is impressive intellectually and technologically. And in terms of ambition, I mean, their workers are extremely ambitious. They work very hard, very many hours in Japan. So fair enough. I was sort of including the demographic problem into the mix. And China, by the way, has a demographic problem coming up in a decade or so as well. So the one child policy's about to really rear its head. Go ahead, Minouj. But I really want to make sure, and I know we've been going along, I want to make sure, because I'd be totally remiss if I did not ask you a little bit more about Goodhart's Law. So I do want to get to that before you go, but Manuj, you were going to say something?

Yeah, I was going to say, I mean, if you think about it from an Econ 101 point of view. Right. I mean, it's been a very long time since I taught that class. But if you think about it from that point of view, it's interesting to contrast it against something like the 70s stagflation right there. What you would get is a negative supply shock that would create a negative output gap. So you'd have unemployment at high levels and you would get the inflationary impact. What we are arguing is different over here is that what you're getting with a declining labor force is that potential growth itself is going to come down. And real factors in our case, as we have argued, are the ones that are going to lead a nominal variable like inflation higher. So if you mean by stagflation that you're going to get lower Growth than we've had in the past. That is absolutely right, because inflation will be higher and growth will be lower. But it's not the kind that you get massive amounts of unemployment. You get reallocation of labor from one sector to the other. But overall, we think with productivity and employment, it will actually benefit workers not only from a social, but from an economic point of view. Good.

So the news is not all bad then, right? It's good in some ways for sure. Right. Okay. Okay. You want to wrap it up with Goodhart's Law? Okay.

It's when the government. When the government or anybody in a position of power makes a relationship into a target, then the previous relationship will tend to break down. Let me give you an example. Not from economics, but shall we say, from education. Let's say that there is a pretty good relationship between somebody's score in mathematics and overall ability to deal with.

Success in later life. So the government then targets a mathematical exam in order to try and raise standards. So schools get graded on the result for this particular maths exam. The result of that is that every school then effectively focuses on getting their students to pass that particular maths exam without necessarily having a grounding in a whole series of other kinds of important educational training or necessarily knowing much about maths outside the specific areas in which are going to be tested in the exam. As a result, what you would find is the prior relationship between mathematics ability as tested by this exam and subsequent success in life would collapse. Making something into a target changes the way everybody behaves. It changes the way the people who are subject to the target behave, and it even changes the way that the authorities themselves behave. Again, to take an example, governments don't like it if the targets they have set are not met. So very frequently they will actually change the way that things are scored in order to ensure that a sufficient proportion of the. The population doing this actually achieves the target itself.

Yeah, fascinating. That's really excellent. It almost makes me call to mind, too. I'm sure you'll say unrelated things because I think they are unrelated, but they're kind of in the. I want to say, like the double slit experiment and Hawthorne's law, or the Hawthorne experiment, I guess I should say. I don't know if that became like a law, if you will, but you know that you. Whenever you. You make something a thing, then the focus changes and it skews, abuses it. Right, that indicator. Right. Yeah. That's very interesting. Very interesting.

You remember the Westinghouse experiment?

No, I don't know that one. Tell me.

It's a lovely one. Westinghouse experiment was. It was a factory, and they tried to see what made the workers more productive, and they changed.

Oh, that was the lighting, right?

Yeah. And then they changed the period of the tea break, and they changed the period of the break to go to the john, and so on and so on. Every time they changed something, productivity went up. And then they thought, I wonder what's happening? And they started changing it the other way. Productivity still went up. What they discovered was that what made productivity go up was that actually people felt that others were interested in them. And because they were interested in them, they worked actually harder. And because they were being observed, that changed their behavior. So the very fact of undertaking changes and setting targets changes behavior and therefore changes the relationship.

Absolutely. Absolutely. Very good stuff. Do you have a website you want to give out, or. I mean, the book is available, of course, in all the usual places, and it looks great, by the way. You've got so many charts and graphs in here. I love that. Did you have a website you'd like to share or anything?

We don't have a website.

I think we're happy with just the book being pushed out there.

Okay, good.

Glad you liked it.

And the book is called the Great Demographic Aging Societies Waning Inequality and an Inflation Revival. Charles Goodheart and Manaj Pratt Ham. So, thank you so much for joining us today. Very interesting discussion. Thank you, too.

Pleasure. Thanks for having us.

Thank you so much for listening. Please be sure to subscribe so that you don't miss any episodes. Be sure to check out the show's specific website and our general website, hartmanmedia.com for appropriate disclaimers and terms of service. Remember that guest opinions are their own, and if you require specific legal or tax advice or advice in any other specialized area, please consult an appropriate professional. And we also very much appreciate you reviewing the show. Please go to itunes or Stitcher Radio or whatever platform you're using and write a review for the show. We would very much appreciate that. And be sure to make it official and subscribe so you do not miss any episodes. We look forward to seeing you on the next episode.