Lade Inhalt...

Booms and Busts in Construction and Housing. An explanation of the European Financial Crisis?

Essay 2016 11 Seiten

BWL - Rechnungswesen, Bilanzierung, Steuern

Leseprobe

Content

I. Introduction

II. Background
A. Socio-economic Background
B. The Boom and Bust Cycle

III. Supporting Arguments
A. 1970-2001 – Findings of the 2003 Helbling Study
B. 2000-2007 – Findings of the 2013 study of the IMF

IV. Opposing Arguments
A. Autocorrelation disproved?
B. Correlation of housing prices and inflation rates
C. Impact of Monetary Policy

V. Conclusion

Booms and Busts in Construction and Housing– An explanation of the European Financial Crisis?

The European Financial Crisis was a crippling event in modern economic history. In the aftermath of the crisis, national as well as international, public as well as private institutions are researching the origin of the crisis and ways to prevent a second occurrence. Research and literature show that a determining factor for the crash of the financial markets were construction and housing prices. As a result of this observation a possible explanation for the European Financial Crisis could be found in boom and bust cycles of these industries.

The following paper will briefly introduce the background of the boom and bust cycles based upon the New Keynesian perspective of Endemic Business Cycle as well as the socio-economic background of the crisis. In a next step supporting and opposing arguments of the introduced model are presented, and analyzed. The paper will concluded that while the boom and bust cycles are not as co-depended as the model indicates, the European Financial Crisis was indeed strongly influenced by the boom and subsequent bust of Construction and Housing prices. The correlation with credit booms played a decisive role in the crash. Thus, authorities are would be well advised to address the correlation in monetary policy.

Booms and Busts in Construction and Housing– An explanation of the European Financial Crisis?

I. Introduction

The European Financial Crisis was a crippling event in modern economic history. In the aftermath of the crisis, national as well as international, public as well as private institutions are researching the origin of the crisis and ways to prevent a second occurrence. Research and literature show that a determining factor for the crash of the financial markets were construction and housing prices. As a result of this observation a possible explanation for the European Financial Crisis could be found in boom and bust cycles of these industries.

The following paper will briefly introduce the background of the boom and bust cycles based upon the New Keynesian perspective of Endemic Business Cycle as well as the socio-economic background of the crisis. In a next step supporting and opposing arguments of the introduced model are presented, and analyzed. The paper will concluded that while the boom and bust cycles are not as co-depended as the model indicates, the European Financial Crisis was indeed strongly influenced by the boom and subsequent bust of Construction and Housing prices. The correlation with credit booms played a decisive role in the crash. Thus, authorities are would be well advised to address the correlation in monetary policy.

II. Background

A. Socio-economic Background

Due to the scope of the presented approach, it is necessary to realize the economic as well as the socio-economic background before and during the European Financial Crisis. Thus, here three aspects are briefly illuminated: the globalization, the economics of the world market and finally the paradigm of New Neoliberalism.

The financial and economic markets are intertwined. This phenomenon is facilitated due to the so called globalization. It is a widely used term. List defined it as the cosmopolitan tendencies of productive forces, Marx the systematic exploitation of the earth (Krell, 2009: 36). Essentially, it is the description of a multidimensional process on all societal plains (Altvater/Mahnkopf, 2004: 31f.).

One of these plains is the world economy. National Polity is widely determined by economics and thus restricted in its power. Rode called it the primacy of the economy (Rode, 2000: 256). In this context, there is a perceived dualism of state and economy. This perception is prominent in neoliberalism as well as other theories (Buchholz, 2010: 133f.). Here, macro-economically focused New Keynesian Theory identifies the state as an existence outside of the economic realm and as competent steering force (ibid).

New Keynesian Theory is part of the Neoliberalism school and thus objected to the paradigm of Neoliberalism. This means that this school focuses on the empowerment of the market through privatization, reduced controls for the capital market and the facilitation of free trade agreements (Evans/Sewell, 2013: 37).

This social-economic background is the basis for the following observations and the subsequent analysis.

B. The Boom and Bust Cycle

The European Financial Crisis, as a part of the international Financial Crisis, is often mentioned in relation to the Great Depression in the 1930s. The effect of this worldwide crisis were different in the individual national states, in the United States it caused a recession with devastating effects (Heyne, 2013:363). The recession was not based on one root cause but was built upon a “cluster of errors” (ibid). It is evident, however, that the Great Depression (bust) followed a period of economic prosperity (boom – “Roaring Twenties”) (ibid).

Here the Endemic Business Cycle comes into play. This perspective is based upon fluctuations in business cycles due to shocks (Mankiw, 1989). The New Keynesian Model assumes that every business cycle encompasses phases of economic growth, so called booms, followed by crashes, so called busts (De Grauwe, 2010). This cyclical movement exhibits a “strong autocorrelation” (ibid), meaning that every “boom” is followed by a “bust”. Additionally, the stronger the preceding event, the stronger the reactive event becomes (ibid).

Within “Boom Bust Models” the “boom” period is characterized by increased outputs. These are observable in increased gross domestic products, employment rates or business profits (Mankiw, 1989; De Grauwe, 2010).

The “bust” period, on the other hand, exhibits declining economic growth and thus decreasing gross domestic products, rising unemployment or stagnating business profits (ibid).

III. Supporting Arguments

Based upon the definition of a “bust”, the European Financial crisis without a doubt qualifies. The crash of the financial markets lead to a period of decreasing economic growth that is still ongoing. Sectors like banking, housing and construction were heavily impacted (Helbling, 2003:37). As a consequence of the described model, it is to be presumed that a “boom” preceded this “bust”.

A. 1970-2001 – Findings of the 2003 Helbling Study

In a 2003 Study Helbling established that during the period of 1970 and 2001, indeed, fourteen industrial countries exhibited a significant housing price boom (ibid). The study identified multiple periods of significant growth over several years. These periods were then often followed by sharp downturns in economic growth. These downturns often lead into recessions. This occurred prominently in the 1980s. Additionally, the study showed that the in the pretext of the European Financial Crisis the construction and housing prices were experiencing a “boom” period. Within a boom bust cycle it was reasonable to expect a “bust” (ibid).

Abbildung in dieser Leseprobe nicht enthalten

Table 1: Housing price declines and economic activity (Helbling, 2003:9)

B. 2000-2007 – Findings of the 2013 study of the IMF

These findings are supported by the 2013 study of Sun et al. This study focused on the cyclical nature of construction shares in the time period of 2000 to 2007 (Sun et al., 2013). During this time period multiple European countries experienced a boom in construction shares. The study found that in the peak of the boom, in 2007, countries like Bulgaria or Croatia experienced a rather significant increase. The difference exceeded their country specific norm (determined by a fundamental set of parameters) by over one percent of their GDP (ibid).

[...]

Details

Seiten
11
Jahr
2016
ISBN (eBook)
9783668341661
ISBN (Buch)
9783668341678
Dateigröße
807 KB
Sprache
Englisch
Katalognummer
v343908
Note
1,0
Schlagworte
Booms and Bust Boom Cycle Bust Cycle Construction Housing IWF IMF Financial Crisis Finanzkrise EU Autocorrelation New Keynisian Endemic Business Cycle Business Cycle Monetary Policy

Autor

Teilen

Zurück

Titel: Booms and Busts in Construction and Housing. An explanation of the European Financial Crisis?