Dust flux, Vostok ice core

Dust flux, Vostok ice core
Two dimensional phase space reconstruction of dust flux from the Vostok core over the period 186-4 ka using the time derivative method. Dust flux on the x-axis, rate of change is on the y-axis. From Gipp (2001).

Monday, October 10, 2011

How a housing bubble looks (in phase space)

On Canadian Thanksgiving Day, let us give thanks that Alan Greenspan and Ben Bernanake are not Canadian.

Today we present a plot of the Case-Shiller index (an inflation-adjusted index of US house prices) against US real interest rates over the past 60 years.

Inflation data from this site. The other data came from Robert Shiller's data site.

Unlike the last plot, the real interest rate here was based on the difference between the long rate (reported in the Shiller data file) and the CPI (reported on the inflation site above).

These guys blew a bubble of astounding proportions.

The key feature I think is that in the absence of the bubble, we see only a slight negative correlation between real interest rates and the house price index. I do question that odd-looking spike in the early '70's. Perhaps there was a real lag in house prices as inflation first began to take off.

There is a small bubble which peaked in 1989, followed shortly by an impressive excursion through phase space from about 1999 to present. Unfortunately, no respectable economist could recognize that any unusual behaviour was occurring. It certainly wasn't a bubble.

Using the methods described here, we can produce reconstruct the two-dimensional phase space to show how unusual the recent behaviour in home prices has been.

Since 1894, we recognize two areas of stability in the Case-Shiller index, highlighted in orange. The entire record is spent either in them, or shuttling between them, until the breakout in the year 2000.

In retrospect, it was fair to say in 2002 that a bubble in housing was apparent. Certainly it was a bit of an excursion in phase space. But by 2005 it should have been obvious even to a Ph.D. (and yes, I have one) that a bubble was in progress. Perhaps Bernanke et al. were all hoping that the system would start tracing out a new area of stability somewhere nearby. If so, it was a vain hope.

Sad to say, the only reasonable prospect is for a return to the larger area of Lyapunov stability. If you are really unlucky, perhaps you will fall to the smaller one. The good news is that the process probably won't take more than about five years.

Lest I sound like a smug Canadian, let me state here that I acknowledge we have a dandy housing bubble of our own.


  1. Regretfully, I think we will revisit the smaller area. I hope you are right about the compressed timeframe...

  2. That compressed timeframe is just to reach the area of stability. There's no way to forecast how long it will remain there.