Does Victoria's rollicking 1880s land boom have lessons for today?

Michael Cannon's book, The Land Boomers, contains three important lessons for anyone trying to understand today's property market

Housing asset prices have been rising again in Australia, defying interest rates and growing nearly 4% since they bottomed in February.

Though still far from their 2022 peaks in each city, it is possible that price growth will persist for some time yet.

Historically, the last phase of the property cycle has always defied interest rates. This was one of the hidden gems in Michael Cannon’s classic book The Land Boomers: The complete illustrated guide, which documents Australia’s 1880s land boom and subsequent bust.

There are three insights from this book I think are valuable to share.

1. Cycles repeat

2. Yields no longer matter

3. Political conflicts of interest run deep

I consider each in turn below the break.

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Cycles repeat

Cannon begins his recount of the “perilous course of events” in the 1800s as follows.

Two great economic booms and depressions had already shaken nineteenth-century Victoria. The first occurred shortly after the early Melbourne land sales of 1837, reaching its peak about three years later. Extraordinary prices were paid. Three blocks of land which C. H. Eden had bought for £136 were resold by auction for more than £10,000. Hundreds of people in the young colony joined in the rush to make profits from speculation. Many borrowed money from the Port Phillip Bank, which soon crashed in the first notable banking collapse. Sheep prices fell from 25s. to 1s. 6d. a head, and practically every grazier and merchant went bankrupt. The Bank of Australasia paid no dividends for five years.

The discovery of gold sparked off the second great boom, which reached a peak in the 1850s. Although there were only 200,000 people in the whole colony, about £25 million in gold was mined within a few years. The banks were so full of the precious metal that they stopped paying interest on deposits. People had money to burn, and either dissipated it in wild extravagance or bought property at inflated prices. But because of the continuous flow of gold, there was not as much suffering when the inevitable crash followed.

Then came the land boom of the 1880s. This time every type and degree of man was involved. Clergymen, labourers, widows, schoolmasters all grasped at the chance of quick wealth and invested their savings. Many borrowed widely to invest more than their assets were worth, and later formed a pitiful kite-tail to the catalogue of insolvencies.

Each boom contained within it a unique plausible story of a radical new future to justify extraordinarily high prices that lack any reasonable financial yield. In the 1830s the story was land sales and colonial expansion of agriculture and production, then in the 1850s it was gold transforming Victoia, and then in the 1880s, it was railroads and technology.

I think the lesson for today is to be wary of new stories about the rise of China, high immigration, work-from-home, or artificial intelligence, that may be stoking prices without foundation.

Yields no longer matter

Cannon’s telling of the 1880s land boom reveals that property booms have multiple phases. For me, the lesson for today is that the final phase occurs even while interest rates are rising to combat the first phase.

He writes

In 1886 it appeared to some of the associated banks that the land boom had reached its zenith and would now plunge downwards. They became alarmed at the large withdrawals being made to meet land payments, and increased the interest rate on deposits and overdrafts by 1 per cent. Money lodged for twelve months could now earn 6 per cent. The land companies were compelled to follow suit and increase their interest rate on deposits. For a year land speculation became less profitable. Sales fell from about £12 million in 1885 to about £2¼ million in 1886. Then in 1887 there began a new wave of speculation, the land boom proper, so forceful that it over-rode all considerations of interest rates.

This is astonishing. It matches almost exactly the past year in housing markets in Australia, Canada, and the United States of a brief decline in prices due to rising interest rates, then a surprise new wave of buying that started around March this year that also seems to so forceful as to over-ride all consideration of interest rates.

Just as now, banks in the 1880s tried to reign in lending with higher interest rates, which proved “utterly ruinous to the general community”. The parallel today is the rising interest rates on owner-occupier mortgages that have resulted in much lower spending by younger households with larger mortgages.

If we believe that history repeats, then the next move is for housing investors to look elsewhere for funding, just as the 1880s land speculators did.

Cannon explains.

Once again the banks, dismayed by wildly fluctuating values, began calling in overdrafts. Unfortunately, some of the leading banks had encouraged speculation when money was plentiful, and ruthlessly suppressed it when the inevitable reaction set in. This 'traditional' banking policy, aimed primarily at safeguarding the banks' own interests, proved utterly ruinous to the general community.

The land promoters began looking elsewhere for easy finance. Thus the years 1888, 1889, and even 1890, saw the formation of most of the disastrous land and finance companies, and so-called ‘land banks’. Under the loose banking and company laws of the time, they were able to take savings deposits, issue shares, float loans, discount promissory notes and other commercial paper, and in general perform all the functions of an established bank.

Despite interest rates of 6% on deposits, rental yields compressed due to rising prices down to 2.5%.

How could such values last? The maximum rentals which tenants were willing to pay often amounted to only 2½ per cent return on the money spent on sites and buildings. As the boom petered out, many tenants could not pay even that.

This is very much in keeping with my Speculative Index approach to understanding the cycle, whereby a mortgage interest rate of a little over twice the yield indicates the peak in the cycle. That means today, with 4% yields, mortgage interest rates could exceed 8% before the cycle peaks.

If you’ve read or watched The Big Short, you know that timing the end of the cycle is tricky. But then, as now, there were front-runners, getting out before the whole thing came crashing down.

A few experienced speculators realized what would happen, and quietly began to sell off their shares and land while there was yet time.

Political conflicts run deep

Parliament became a sort of land speculators’ club, where the most blatant ‘log-rolling’—the use of political power for private gain—became commonplace. Fantastic sums were borrowed and spent on extending the railway network; and when rails reached any particular point, it was often found that syndicates of M.P.s and their associates had bought up the land in advance for subdivision and resale.

Most of the stories in The Land Boomers are about failed land speculation schemes and how entrenched the politicians of the day were in them. I cannot do justice to the details covered and I recommend you find yourself a copy of the book.

Today, I feel that the fact that our current housing minister is a landlord is a substantial conflict of interest. But that is nothing on the 1880s.

Back then, most politicians were shareholders and directors of banks and land speculation companies. Out of the 48 members of Victoria’s Legislative Council, over thirty were directors of public companies.

One hilarious and egregious example was James Munro, Premier of Victoria from 1890-92. He was at the same time head of the Federal Bank and Building Society, whose collapse exposed that he was “milking depositors’ funds”. While in office he rushed through the Voluntary Liquidation Act 1891 that protected boom companies, including his own, from compulsory liquidation and court examination. He then fled to London a few weeks later.

His successors William Shields, and then J.B. Patterson, both refused to prosecute any ministers or bankers for wrongdoing during those boom years.

James Munro, left, and J.B Patterson, right

In the 2008-09 financial crisis, one of the major themes was the lack of prosecution of bankers and financiers.

One exception documented in The Land Boomers was the New South Wales parliamentarian and Minister for Mines and Parks, Francis Abigail, who was sentenced to “five years’ hard labour” for his involvement in the fraudulent Australian Banking Company during this 1880s boom years. I often wonder about how the press would cover such an event today, and whether the risk of five years of hard labour as punishment might change the way property politics operates.

Australian Banking Company defendants, included two members of Parliament

I truly hope we are not seeing a final phase of a global property bubble that will lead to the next recession and the parallels to the 1880s are merely coincidental. Time will tell.

But these three lessons—that property cycles always repeat, that the final phase defies interest rates and that the political class are up to their necks in it—are still relevant.