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Policy at the root of housing problem in NZ

Over-investment in housing and the lending largesse that underpinned that orgy of excess led to the sub-prime crisis in the US in 2007 which in turn led to widespread recession in the developed world, a problem which remains for most countries today.

New Zealand fared relatively well in one sense through all this – output contracted and unemployment went up, but not the extent it did in other countries. However because of our success, unlike other countries, we failed to shake the excess out of our house prices. Partly prompted by the devastating damage caused by the earthquake in Christchurch, house prices haven’t fallen by much in New Zealand and, if recent new loan approvals are anything to go on, debt-funded investors are at it again.

The RBNZ is worried, saying last week that “housing pressures are an increasing risk to the financial system.” They say their concerns are shared by the IMF and the OECD. The Reserve Bank has responded by penalising banks for providing loans that are high relative to the borrowers equity – a useful measure but powerless against wealthy, equity-rich investors looking to own more than one property.

The risks are there for all to see. Median house prices are far higher relative to median incomes than they have been for decades. A Treasury report from July last year spells it out (see the chart). Borrowers are surviving because average monthly mortgage payments are relatively modest, and that’s because interest rates are low. When, not if, interest rates increase this illusion that housing is ‘affordable’ will burst. There is no magic formula to boosting income – especially when the rest of the world is in recession – so that means only one thing – house prices will adjust. It’s an adjustment the rest of the world has had, and is overdue in New Zealand.

House prices and debt servicing relative to gross annual income

Graph Housing problem nz

The over-investment in housing in New Zealand has been sponsored by irresponsible tax and monetary policies and it has come at a high price: diversion of capital away from deployment in industry and income and employment generation.

The policy failings have historically been twofold:

* Turning a blind eye in tax policy to the benefits owners get from housing. While rental properties and farm are taxed as a business, the capital gains they receive are not considered taxable income. Equally important, the rental equivalent of the shelter provided to owner occupiers and the capital gains they receive are not taxed either.

* A directive to banks from our Reserve Bank to favour lending on mortgage to other forms of lending – this is effected by the lower risk weightings it deems residential mortgages deserve compared to other lending types. The Reserve Bank is tweeking around the edges with this policy – through their higher capital requirements for low equity loans – but it’s not going to get very far without support from a radical rethink on taxing housing.

But the disease remains the same; we have discriminated against productive investment in favour of property speculation. That has intensified the morbid dependency on commodity sales to sustain our incomes. If those hadn’t risen we would be another Spain already.

Why would you continue to gamble on being a one-trick pony? We have an opportunity as the economy picks itself up this time, to remove the policies that discriminate in favour of housing speculation. Why wouldn’t we do that and bring affordability within reach of many more families, like it used to be?

Or should I go out and buy another three houses now and just wait for the rest of you to bid the prices up?

  • http://www.facebook.com/raf.manji Raf Manji

    Sooo….when are you going to investigate the financial system?

    • http://garethsworld.com/ Gareth Morgan

      Hi Raf, broad topic there. After the GFC I wrote a book ‘After the Panic’ http://garethsworld.com/shop/after-the-panic/.

      Do you think that will address your concerns? Can you be more specific?

      • http://www.facebook.com/raf.manji Raf Manji

        I haven’t read that but agree with the broad premise that the “investment” market generally is self-serving. There is huge scope for that market to be disrupted but there are many regulatory hurdles in the way.

        I’m talking more about the monetary system: money and banking. Does the system really serve us? Could it work in a more beneficial way for both the community and enterprise? Looking back at past RB Acts, one can see how the issuance of credit was regarded as a public good. Roll on into the 80s and deregulation of finance and markets put that concept to bed. Now we live in a bubble machine, which is kept going at all cost.

        I think your “After the Panic” and the “Big Kahuna” both address important aspects on the monetary system, symptoms if you like of perverse incentives. But we haven’t examined the real engine, which drives it all.

        New developments in the Peer space, whether P2P lending and investment, as well as new currencies and exchange systems, such as Bitcoin, now provide a narrative to examine this issue again. Since the founding of modern banking back in the 1600s, this has been a contested space. For the last 30 years, current monetary arrangements have been unquestioned. The last few years has now made people look again at their assumptions, as seen with new institutions such as INET (Institute for New Economic Thinking) springing up.

        What is money? Who creates it? What does the power to create money (or credit) provide? What are the impacts on society? Could we do it better?

        Does that explain it more clearly?

        • Anake Goodall

          Gareth, in support of Raf’s line of enquiry …

          i’d be interested in seeing an exploration of the benefits of local currencies (a la Switzerland, Bristol in the UK, some South American countries as a response to GFC and austerity etc) and their possible application in Aotearoa New Zealand

          it does seem to me that there are compelling arguments for creating these “buffer” mechanisms to absorb shocks, empower local communities in times of financial stress, and reinforce economic sovereignty at a local and national level

          from my limited understanding of such things these local currency responses don’t appear to require a country to disengage in any way from international capital markets or trade flows and the like, so why not go there and create a more resilient society at the same time?

        • http://www.facebook.com/ralph.wahrlich Ralph Wahrlich

          Absolutely brilliant points raised by Raf. The idea that we need to take a fresh look at the very basis of how we create and distribute money, seems to be gaining traction. http://positivemoney.org.nz/ has very simple, sensible-sounding explanations, backed up by very credible voices. Gareth, I’d love to see your opinions on this.

  • John Pearce

    FIrst off, I agree with your proposition of a Capital Tax. But I think its going to be hard to find pollies with the courage to do it effectively, i.e. ALL capital assets. As a retiree, I will hate it; but its hard to argue its not good for New Zealand.

    Second a question. What is the chart telling us happened since 2008? In 2008, median price was 8x income, mortgage payments 65%. In 2012 median price 7x; but mortgage payments 42%. Prices dropped about 12%; payments dropped 30% or so. Was that all just interest rates?? John

    PS Why is Disqus so clunky & impossible to use???

  • philip meguire

    Your post is silent about the need to reduce the difficulty of obtaining district council consent for building on the urban fringe. In Australia and New Zealand, it is much too hard and much too costly to obtain consent for building a new suburb from scratch.
    Comprehensive taxation of realised capital gains will simply push domestic investors into holding overseas assets.
    Much of what GM wants could be achieved by a second level of rates assessed at the national level. But I continue to maintain that any govt. that implemented a comprehensive tax on real property would not survive the next election. For starters, existing rates are a significant burden on the aged and unemployed.

  • John Morrison

    I like it, there really is no need to be afraid of a capital gains tax that is only charged when it, “is in the hand” and as an income tax (back) over the years it was accumulated.

    You do good work Gareth, now please could you ask your mates in the SPCA why is it that Prince Charles can be stopped from trying to catch foxes for sport yet nothing is said about the tormenting and torturing of Marlin for sport? Also would they mind if we catch wild cats for sport the same way that the beautiful Marlin is caught? I reckon they, the wild cats, would put up a great fight, and wouldn’t that be fun?

    Thank you for the work you do.

    Cheers.

  • Grant Lyon

    I think it is sickening to have people slaving away all their life, just to pay 60-65% of their income to make a landlord rich. It is repulsive how landlords think in the 21st century. It is just another name for slavery and we should be thankful to landlords for their greed?

    Yes, I think a graduated capital gains tax is essential. And then there are the Banks, creaming it, but just another way of calling it good or healthy business. If a country wants to grow, then money should be invested new businesses not housing. On this I agree.

    & I agree with John about Disqus thing. Most frustrating.

    • Sally O’Brien

      You think landlords will charge less when they are taxed more? There is currently a shortage of rental accommodation. That means a shortage of landlords.

  • Andrew Thrift

    I agree with you, Gareth that a capital gains tax would be a good way to turn around the unbalanced Kiwi attitude to investment, but as others have commented it would be akin to political suicide for any party to suggest this.Maybe a tax only on second homes would be a little more palatable as a “first step”? Otherwise you’ve more chance of getting rid of “All the cats in Kiwidom” (which is another good, but doomed, idea)..

  • http://www.facebook.com/john.oneill.129 John O’Neill

    All in favour of the Capital Gains Tax. But I question if there is another major factor in the housing shortage. That is the cyclical nature of the building industry. We go through years in which an inadequate number of dwellings are built for the inevitable demand. Then rush in when the horse has bolted. Can we not smooth the industry by building for the private buyer/investor when the money is flowing and build for the poor in the off-periods. That would stabilise the industry and ensure a building programme aligned to need rather than the market. The poor family has the same needs as the wealthy. Only wants vary.

  • http://www.facebook.com/ralph.wahrlich Ralph Wahrlich

    So I, as an owner occupier of the house I live in, am supposed to spend such a lot of my income servicing the magical substance known as debt interest… *and* pay a tax on the benefits of not having to pay rent? This one is lost on me. I think it is detestable that somebody else gets the benefits of someone not having to pay rent – after all, that’s what a tax on owner-occupier equity feels like to me! Why do I owe a cent to the government, just for owning my own house? I did not buy my house as an investment – I simply need a place to live!

    • Chris O’Halloran

      While I appreciate that you are generally in support of Gareth’s musings, the same could be asked about the salary that I earn and why should the government take approx 30% of that each year. In fact, the legality of income tax was questioned in court during its introduction into the US in early 1900s. As a western society, we generally agree that those that earn more should contribute more, why do we make the distinction that those own more shouldn’t contribute more, too?
      Why is right that if I am $100K better off working for a year, that I owe the government $30K. Yet, if I enjoy capital gains of $100K a year or inherit $100K, I owe the government nothing. Yet arguably, I am more deserving to keep what I laboured for than what I received for free.

      • Sally O’Brien

        Those who spend more on their homes have usually earned more and hence already paid more income tax. We also pay 15% GST whenever we make improvements. Enough already! This is all very taxing! And then there’s the compliance costs and zoning limitations – no wonder housing is expensive.
        If you want a more level playing field for other productive activity then reduce the excessive taxes on other investments. Oh and there are plenty of areas where government can reduce spending to pay for the tax cuts.

        • Chris O’Halloran

          For the middle class I would agree but 50% of New Zealand’s wealth is owned by 10% of the population. I would almost guarantee that the majority of that hasn’t been earned but inherited. A capital tax would allow the burden of income tax to be relinquished from the middle class and instead, levied on the ‘old’ money. The middle class have nothing to fear from a capital tax.

  • http://www.facebook.com/ralph.wahrlich Ralph Wahrlich

    “As long as we treat housing as a vehicle for making money, there will be no such thing as affordable housing”
    - a very succinct letter to the editor in the NZ Herald a few weeks ago.

    Seems logical to me! We’ve only got ourselves as a society to blame, for trying to have it both ways. If one group of people is to get rich off a house sale, the money has to come from *somewhere* – it’s that simple.

  • http://www.facebook.com/ArchitecturePrime Paul King

    ..”Equally important, the rental equivalent of the shelter provided to owner occupiers and the capital gains they receive are not taxed either”.

    You had me all the way up until that statement…

    The rental equivalent of the benefit I receive from my car, or a nice painting is not taxed either – so what?

    Why should use of your own house be taxed differently from use of any of your other potentially rentable assets that are not rented ?

    If you suggesting the tax department should pay me a third of the difference between the cost to buy my house and the nominal rental income it could achieve, would that not increase rather than decrease my propensity to borrow ridiculous sums to buy personal property?