Have you ever been rock climbing? If you have, you’ll be familiar with that slightly panicked feeling you sometimes get on the way down. Your hands cling on, sweat seeping through the chalk on your fingers, as your foot probes the rock face below for a foothold.

You’re sure there’s one down there. It’s just a question of where…

I’m going to leave that analogy hanging, teasingly, while I move on briefly to talk about a dead French economist…

In the nineteenth century, Léon Walras sought to explain how markets work. He conjured up the concept of an auctioneer, who sets prices and volumes. The Walrasian auctioneer calls out prices for various goods; suppliers say how much they’d be prepared to supply at that price, buyers how much they would buy.

If the two don’t match, the auctioneer calls out a different price. He keeps at it until all the sums add up. Ta-da! We have a market equilibrium! Everything works.

The process by which the auctioneer finds equilibrium is called tâtonnement, although sometimes it’s referred to as ‘groping’, which is far more illustrative.

It may seem (and, to me at least, is) a little odd that Walras, to all intents and purposes, invented a central planner to explain how the free market works.

“At least Walras’s market-meddler was fictitious!” joked Garry White at our meeting this morning. As Garry explains below, German politicians are trying to tinker with the market in an all-too-real manner — and the Indians already have!

But while it may seem just an intellectual flight-of-fancy, the tâtonnement mechanism does provide a useful framework with which to analyse certain situations. One of these is the housing market.

The term ‘housing market’ is a bit of a misnomer. There is more than one ‘housing market’ — it is segregated, by region, by specific location, by type of property.

At the most basic level (or should that be most complicated level?), there are as many ‘housing markets’ as there are houses for sale. Each house is unique (with the possible exception of those on a new build housing estate).

The supply of each house is fixed, at one. The active, realised demand for a house will also be one — there may be several potential buyers, but only one will bag the property. There is a market for each and every house, and the supply is always one.

The mechanism by which a price is agreed in each ‘housing market’ is similar to that of an auction. This is where tâtonnement comes into its own — because both house buyer(s) and house seller ‘grope around’ until they find the equilibrium price.

But there’s a problem right now. The auctioneer isn’t doing his job properly. He’s not finding the equilibrium often enough.

The problem can be summed up in three words — not enough groping. Many buyers are exiting the market, unhappy with the terms they’re being offered on mortgages, or convinced that prices will come down.

Equally, some sellers are pulling out too, preferring to stay put or else rent out the property (because the flip-side of fewer people wanting to buy is more people wanting to rent. Good if you’re a landlord).

Somewhere beneath our feet is the notional ‘housing market’ equilibrium. A generally agreed idea of how much a certain type of home should cost. But, right now, the market, and everybody in it, doesn’t know where that is.

To return to my rock climbing analogy, there’s only one thing we really can be certain of. If and when we find an equilibrium, we’re going to find it with our feet, not with our hands.

IPO — “It’s Probably Overpriced!”

Europe’s largest rail group, Deutsche Bahn, is planning an Initial Public Offering (IPO). They’re after £6.4 billion — a truly massive sum, I’m sure you’ll agree.

But Theo Casey’s not impressed. He’s generally distrustful of IPOs, as he explains in today’s free issue of Fleet Street Research.

Theo does, however, reckon there are opportunities to be found on the Continent.

“There’s a lot of value in Europe right now. Why do you think Warren Buffett’s gone shopping there?”

Today, Theo looks at investing in Europe, and asks whether the time is now right to hire a white van, load up on cheap European stocks and ferry them back to Britain, telling Customs they’re “for personal use”…

Tell this German to shut up

“Uwe Beckmeyer is a fool!” says Garry White this morning, in his usual forthright manner. Suffering fools gladly has never been an item on the Garry White ‘To do’ list.

Who is Garry talking about? I’m glad you asked (glad I did as well). Turns out, Beckmeyer is a German politician, a member of the Social Democrat Party, Gerhard Schröder’s gang.

Beckmeyer wants to ban futures trading in the energy market. Yep, you read that right. A mechanism designed to enable end-users of energy (e.g. airlines) to predict future costs is now seen as an undesirable thing.

“It’s just market-meddling,” says Garry. “If they get this through, it’s going to wreak havoc with the world economy, ours included.”

Garry doesn’t deny that high oil prices are a problem. And, yes, a lot of recent movement has been down to speculation.

“But this is barmy! A total knee-jerk reaction!”

Unfortunately, though, Beckmeyer’s not alone. The Indian government has already implemented bans on futures trading. The market-meddling has even stretched as far as the USA.

If this sort of measure gains popular support, Garry reckons it will spell doom for the world economy as we know it.

Until tomorrow

Ben Traynor

Source: What Leon Walras Tells Us About The Housing Market