It is just amazing how we never learn from other people's mistakes.  

Outside of the European Union and the Eurozone, Norway has managed to isolate itself from many of the problems in the rest of Europe. Yet, the world's third-richest economy per capita is anything but problem-free.

Norway may already be in a housing bubble, according to Robert Shiller, the co-creator of the S&P/Case-Shiller home price index, which predicted the U.S. subprime mortgage collapse.

According to the International Monetary Fund, Norwegian house prices are 15 to 20 percent overvalued, while the house price-to-income ratio is 28 percent above the historical average -- it's even higher than before the last housing price crash in the early 1990s.

Fueled by cheap money, the Norwegian housing market is showing signs of a property bubble that resembles the one that preceded the lost decade in Japan in the 1990s, and more recently, the global financial turmoil that has been dragging on for four years and counting.

Norway's real estate market is booming at the moment. But every boom eventually leads to a bust.

Before Japan's housing bubble burst in the early 1990s, the Japanese economy was going gangbusters, rapidly catching up to the U.S. economy and then surpassing it in terms of gross domestic price per capita, a key measure of a nation's prosperity. The good times didn't last long, and Japan soon found itself losing clout on the world stage.

In the U.S., the ripple effects from the the housing bubble's burst pushed the unemployment rate to as high as 10.2 percent in October 2009. Even today, 12.7 million Americans are still unemployed, with the unemployment rate standing at 8.2 percent.

At the peak of every bubble, the experts always claimed, this time is different -- and that the new situation bears little similarity to past disasters. Is this time truly different for Norway? We doubt it.

Low borrowing costs and falling unemployment have fueled consumption and household borrowing. Home prices rose an annual 7 percent in May, and they are up almost 30 percent since 2008.

House prices are seen growing almost twice as fast as wages in 2012, Statistics Norway predicted, and household debt is set to top 200 percent of disposable income, more than twice that in Germany and a third more than the peak in the U.S. before the crash.

However, Norwegian house prices may fall markedly, threatening to expose the economy to substantial knock-on effects, the Financial Supervisory Authority of Norway (FSA) warned.

The overheated housing market is the biggest domestic threat to the economy, according to the Oslo-based regulator. Households have swelled their debt loads on the assumption that interest rates will remain low.

Moreover, indebtedness has risen most among the youngest borrowers and low-income groups, putting the household sector at a vulnerable position in the event of high unemployment, income reduction or interest rate increases. Although savings are high in Norway, they are largely tied up in housing and future pensions.

If house prices fall 10 percent, that could cut Norway's GDP growth by a full percentage point and leave the banking sector vulnerable, the IMF said.

At the heart of Norway's problem is its safe-haven status, which attracted massive inflows of capital, forcing Norway's central bank, Norges Bank, to keep interest rates exceptionally low to stop the national currency from appreciating too much, which would hurt exports.

Lower interest rates have pushed property prices up across all regions and property types. Interest rates stood at 5.75 percent as late as the end of 2008 but the central bank cut them to a historic low of 1.25 percent in 2009 to support growth. Last week, the Oslo-based bank decided to leave its overnight deposit rate close to a record low, at 1.50 percent, to protect the world's seventh-largest oil exporter from the fallout of Europe's deepening debt crisis.

While the central bank pledged to keep key policy rate at the current level through the end of this year, Norges Bank Governor Oystein Olsen added that Thereafter, the key policy rate is projected to rise gradually towards a more normal level.

If interest rates return to more normal levels, which seems like just a matter of time, the housing bubble could burst, cutting back disposable income, dragging down under-capitalized banks, dampening retail spending and slowing growth.

The IMF has already cut the growth forecast for Norway's mainland, which excludes the lucrative oil sector, to 2.2 percent, below the 2.5 percent forecast in November, citing the country's housing bubble as a threat to everything from banks to economic growth.

A house price bust would likely be associated with depressed economic activity and increased financial sector stress, especially given high levels of mortgage debt, the IMF said in a staff report.

Households do not have a large equity buffer in the event of a fall in house prices, which could lead to higher default rates, placing stress on bank balance sheets, the IMF added.

Applying U.S. Lessons To Norway

A paper published on Monday by the Federal Reserve Bank of San Francisco compares the most recent house-price boom and bust in the U.S. to the current situation in the oil-rich Scandinavian country.

Using surveys of expectations about home prices in the U.S. five years ago and Norway today, the authors -- Norway Central Bank advisor Marius Jurgilas and San Francisco Fed bank senior economist Kevin Lansing -- found parallels that suggest trouble is looming for Norway.

Real

Real house prices in Real house prices in the U.S. and Norway from 1890 to 2011. / Courtesy of the San Francisco Fed.

Norway and other Scandinavian countries experienced a major house price boom in the late 1980s, followed by a crash in the early 1990s. The crash triggered a financial crisis throughout Scandinavia, resulting in numerous bank failures.

Interestingly, this earlier boom-bust pattern in Norway is similar in magnitude to the recent pattern in U.S. house prices, Marius Jurgilas and Kevin J. Lansing wrote.

According to the San Francisco Fed, after peaking in 2006, U.S. real house prices have dropped nearly 40 percent. Starting in the late 1990s, Norwegian house prices experienced another major boom, but so far no bust. On the contrary, real house prices in Norway have risen nearly 30 percent since 2006.

Price-rent

Price-rent ratios in the U.S. and Norway since 1960. / Courtesy of the San Francisco Fed.

While the price-rent ratios in the U.S. has fallen to its pre-boom level after peaking in early 2006, that ratio for Norway has continued to trend upwards and currently stands about 50 percent above its last major peak achieved two decades ago.

Household

Household leverage ratios in the U.S. and Norway./ Courtesy of the San Francisco Fed.

The authors also compared household leverage ratios in the two countries and found Norway to be in a much worse situation. The leverage ratio (of household debt to disposable personal income) in Norway has risen dramatically over the past decade and currently stands at around 210 percent - well above the 130 percent the U.S. had before its bust.

Norwegian

Norwegian household expectations for home prices. / Courtesy of the San Francisco Fed.

However, a recent FSA survey showed that most Norwegians are quite confident that home prices will continue its upward climb. The percentage of Norwegian households that believe property prices will keep rising over the next year has gone from a low of 10 percent in 2008 to around 70 percent in 2011.

Like U.S. housing investors, Norwegians appear to expect high returns on housing even after a sustained run-up in the price-rent ratio.

There's your bubble.

History tells us that episodes of sustained rapid-credit expansion combined with booming asset prices are almost always followed by periods of financial stress, the authors wrote. This was certainly true for the U.S. housing market of the mid-2000s. Time will tell whether things turn out differently for the Norwegian housing market.