The guy who won the 2002 Nobel Prize for economics thinks Sydney property prices are in 'a pretty good bubble'

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Vernon Smith is an experimental economist who shared the 2002 Nobel Prize in economics with behavioural psychologist, and father of behavioural economics, Daniel Kahneman.

These two men have really changed the shape of economic thought with their experiments on the motivations and biases of people and how they can morph, in the case of Smith, into bubbles.

So, when Smith says “You have a pretty good bubble in Sydney and Melbourne,” and adds “it is hard to believe it is very sustainable,” he knows what he is talking about.

According to Fairfax this morning, that’s exactly what Smith, who is in town to address the Macquarie graduate School of Management tonight on global property prices and the Australian property market, told them.

Highlighting how quickly and unrelentingly property prices have accelerated in Sydney, Smith said: “It is amazing how people get carried away in the bubble.”

But he also added: “Then all of a sudden it’s over and they are petrified.”

That’s the point Australian markets, Sydney and Melbourne in particular, may be at now. Or at least close to, given the efforts of Australia’s banking regulator, APRA, to rein in investment lending.

Yesterday AMP became the latest lender to call a halt on investor loans to steady Australia’s property market. It follows a string of similar moves by the ANZ and Commonwealth Bank and the NAB’s rate increase on interest-only loans which are widely used by investors.

APRA’s impact on banks lending and their decisions to pull back from the investor market will make it harder for investors to get loans. That means we are likely to see credit rationing in the home loan market for the first time in decades.

Louis Christopher, property analyst at SQM research, told the ABC yesterday that the changes will “will knock out most of the weaker borrowers”. That, of course, is what APRA is trying to do.

But Christopher added: “The problem is, property investors can be a fickle bunch. A number of them are momentum driven – buy when the market is moving higher and sell when the market is heading lower.”

That’s a risk to the market and at some point, if Vernon Smith is right, all these marginal buyers might suddenly become “petrified”. That’s when we might see Sydney and Melbourne property prices start to reverse.

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