From Rory’s newsletter

I was in Canberra yesterday, presenting at the Federal Treasury and the Parliamentary Library. Over the past year, I’ve often been the most pessimistic person in the room. My second presentation yesterday, however, followed one by Dr Steve Keen (google, if you are keen), whose high-profile forecast of a 40% drop in Australian home prices has put the wind up many homebuyers and potential home-buyers, not to mention some offshore investors.

Never say never, but a 40% drop in Australian home prices is a highly unlikely event, effectively requiring a meltdown of our financial system despite the combined efforts of the RBA and Canberra. Happily, Australia is not the United States. US home prices are down by about 20% from their mid-2006 peak, while our home prices fell by 2% in Q3, driven by the 150bp increase in mortgage rates overseen by the RBA between July 2007 and July 2008 (now more than fully reversed).

To make it interesting, I offered Dr Keen a challenge. On the maybe 1% chance that he is right, and capital-city home prices do indeed fall by 40% within the next five years - starting from Q2 2008, and as measured by the ABS - I will walk from Canberra to the top of Mt Kosciusko (that’s maybe 200km followed by a 2228-metre incline). If Dr Keen turns out to be less than half right, as I expect, and home prices drop by (much) less than 20%, he will take that long walk. Moreover, the loser must wear a tee-shirt saying: “I was hopelessly wrong on home prices! Ask me how.”

We now have a bet, and I expect to record an easy win within two years. That’s because falls in Australia-wide home prices will be limited by our lack of overbuilding, our much more disciplined mortgage market, and - especially - by the RBA’s ability to drive mortgage rates lower (something the Fed until this week had been unable to do; see latter part of chartset, attached).