While the economic downturn which began in 2008 is still impacting many economies around the world there are some property markets which have performed admirably. Indeed someone would go as far as to suggest that the UK property market is beginning to “overheat” and the authorities should take action sooner rather than later to avoid a “large correction”. However, that prompts the question, is it up to governments to cool property markets?
Does the free-market policy work?
Many capitalists will wax lyrical about so-called free market policies which support many different areas of the investment arena such as real estate. The idea that markets can operate under their own steam with minimal regulation from the authorities is perfect in theory. However, we only need to look back at the 2008 worldwide downturn to see how markets can move significantly oversold and significantly overbought.
Whether we like it or not, directly or indirectly, governments of the day do control (at least to a certain extent) the direction of both local and worldwide economies.
Over exuberance and pessimism
If you look back at not only the UK property market but the worldwide real estate market you will see extreme periods of over exuberance and pessimism. These result in property markets being pushed to unsustainable levels or falling to levels which discount the true value of the assets. It is fairly easy to put a theoretical value on any asset but when you need to take into account investor sentiment it begins to get a little tricky.
Governments have a number of levers at their disposal in order to tackle periods of over exuberance and pessimism, with the most basic being changes to the cost of finance via base rate movements. This is the sledgehammer which we often see quoted in the press but there are many other ways in which governments can tinker with markets and “direct them”.
Why do investors lose sight of true values?
The answer to this question has evaded even the most experienced of investors and market observers. Sentiment, momentum and outside influences have a massive impact upon asset valuations often pushing them significantly above or below their fair value. Fear and greed are two main elements of any investment market and drive some investors to “lose their mind” with, in hindsight, crazy trades.
It is extremely easy to get caught up in the moment, to follow the momentum and look to bank a short-term profit but not everybody will get out in time!
Governments have an obligation
The vast majority of investment markets are directly linked to local economies although worldwide events can and do have an impact. As governments and regulators around the world have a major influence upon the worldwide economy and local economies they must surely have an obligation to inflate and deflate markets which have overreacted?
The US Federal Reserve, the interest rate mouthpiece of the US authorities, recently increased US base rates to tackle over exuberance in the US. Many expect a further increase in June or July, something which is certainly against the worldwide trend. So, while some governments may lack courage and bravery by going against the trend, it seems as though the US Federal Reserve is well aware of its role in controlling markets and investor sentiment.
Surely the authorities do have a role to play in the regulation, policing and control of investment markets?