In a recent search of interesting topics to blog about, I found an article in the National Multi Housing Council (NMHC) published on November 13, 2008 by Michael Tucker. Mr. Tucker does an excellent job summarizing a Fact Sheet put together by a joint effort from NMHC and The National Apartment Association (NAA). The information in this Fact Sheet is a recap from a recent presentation made by Nobel prize-winning economist Edmund Phelps, Ph.D.
Dr. Phelp’s overview of our current economic state is one of the best I’ve seen. The material is clear, concise and easy to understand….it is “RIGHT ON”. I truly believe that if everyone in America were to read the following article, “We the People” would have a much better appreciation for why we are in this predicament and, as such, collectively contribute to our recovery.
Righting Our Economic Ship: Single-Family Housing Subsidies Are Not the Answer
Lawmakers are under political pressure to “do something” to fix the current foreclosure crisis and stop sliding house prices, but they should act carefully and reject proposals that do more harm than good. While some are calling for a $22,000 home-buyer tax credit, legislation reinstating seller-financed down payments and a federally financed interest rate buydown, lawmakers should understand that these actions will not stop house prices from falling further. And they will not stimulate the economy. In fact, they would waste as much as $112 billion in incentives for people who would have bought a house anyway [1]. These proposals are simply bailouts for the for-sale housing market, the very sector of our economy that helped trigger the global economic crisis.
Lawmakers should take action to help homeowners who can reasonably stay in their houses. That may help reduce the downward pressure on house prices, but they should not enact legislation that entices more unsuspecting Americans into unsustainable homeownership.
They should not create new homebuyer tax credits that encourage and subsidize the purchase of depreciating assets. And they should not return to federally insured high-risk zero-down mortgages, which would happen if the ban on seller-financed downpayment programs is reversed.
The clear lesson for lawmakers from the current situation is that the government should stop pushing people into unsustainable homeownership. Our unbalanced housing policy, with its overemphasis on home ownership, triggered the housing boom abuses and led to the current global economic crisis. Instead of continuing to over invest in one sector of the housing market, lawmakers should take steps to prevent future housing bubbles from happening again by rejecting subsidies and bailouts for the single-family sector.
As Nobel prize-winning economist Edmund Phelps recently explained, “There are good booms. For example, the Internet boom of the late ’90s was a happy time and left lasting benefits. The latest housing boom was different. It buoyed employment, but it proved to be a massive malinvestment that left near-insolvent banks, a credit crunch and an emerging business slump. [2]
Q: Shouldn’t the government step in to stop falling house prices?
A: Even if the government wanted to prop up housing prices, there is no reason to believe it actually could. Leading economists warn that interventions aimed at stopping housing prices from falling further are “likely to be ” and that such “ attempts to artificially boost housing prices are misguided. [3]
As two well-respected real estate economists put it:
“The underlying logic behind these proposals seems to be that since housing price declines are at the root of the crisis, the only way to fix the crisis is to stop housing price declines. This reasoning is as flawed as thinking that the best way to help a roulette addict who loses his house by betting on red is to get at the root of the problem by ensuring that black comes up less often.”
“Unless we were convinced that prices have declined below fundamentally justified levels, and we are not, these interventions are likely to be expensive failures. The banking sector seems badly in need of help, but attempts to artificially boost housing prices are misguided. …The real problem, then, is not the price decline, but the previous price explosion….”[4]
Furthermore, the government should not be using taxpayer dollars to sustain inflated housing prices. Doing so only makes homeownership more unaffordable. Even with the declines already recorded, prices are still much higher than they were six years ago in almost every major market.[4] As a result, millions of Americans remain priced out of the market or are forced to live unacceptably far from their jobs.
Anything Congress does to prevent that market restoration will simply prolong true economic recovery. Instead of trying to prop up the single-family housing sector, lawmakers should focus on trying to stop the explosion of foreclosures.
As Yale University professor Robert Schiller put it: “Years of double-digit price gains put homes out of the reach of many consumers, and a correction is necessary…You either have high home prices or lower home prices and lower home prices are what we want, and people shouldn’t be afraid of that. We want economic growth, we don’t want high home prices. [6
Q: Shouldn’t we “do something” about the fact that there is an oversupply of houses on the market?
A: Oversupply situations happen in every industry. But the housing industry will recover with or without Congressional action, just as it has in past oversupply situations. And why should taxpayers help out an industry that recognized a downturn was coming and still kept overproducing?
As far back as December 2005, National Association of Homebuilders (NAHB) Chief Economist David Seiders said that builders were overbuilding the market. In a 2006 interview, Seiders predicted that “overbuilding, prices that have outpaced incomes, and rising inventories of unsold new and resale homes” would likely lead to house price declines.
The solution to overbuilding is to lower sales prices, not artificially prop them up with federal tax dollars. Indeed, this is already happening in some markets. An October 28, 2008 headline in The Wall Street Journal noted that “Bargain Hunters Help Shrink Housing Glut."[7] When prices return to market levels, buyers will return. Such a “resettlement” will not only restore affordability to the housing sector, it will also put it on a much stronger footing going forward.
Multifamily construction plunged 77 percent (from peak to trough) after the 1986 Tax Reform Act removed tax incentives for apartment investment. That was a far greater decline than the single-family market has ever suffered. The government did nothing to stimulate the apartment sector, and when the industry came back, it came back stronger, dominated by professionally managed firms that understand the cyclical nature of the business and are prepared to weather the inevitable downturns.
Q: Won’t subsidizing house sales stimulate the economy?
A: No. The surplus of unsold houses and condos has already been built. Passing homebuyer tax incentives just help builders move them off their balance sheet. It does nothing to stimulate the economy because it won’t stimulate housing production or create new jobs. At best, the only economic activity generated by these transactions would be fees for real estate agents and mortgage brokers.
It is also a waste of federal tax dollars. Consider, for instance, the fact that the National Association of Home Builders (NAHB) says Americans are expected to buy 5.1 million houses next year without any incentives. Giving these buyers a $22,000 tax credit, as NAHB has called for, would mean $129 billion in wasted subsidy to buyers who would have bought a house anyway.
Moreover, the government should stop favoring specific industries and should instead take actions that truly inject capital into the economy and encourage economic investments that create true wealth and grow the economy. We should invest in infrastructure and technology and new sources of energy.
While it is true that housing is a leading sector of the economy, that does not mean that the upswings and downturns in housing cause the ups and downs of the whole economy. It just means the upswings and downturns in the housing industry occur a little before those of the economy as a whole.
If Congress wants to stimulate the economy, there are actions it can take. But targeting such stimulus to the home building industry will waste taxpayer dollars without accomplishing much and may set off another round of unsustainable building followed by another crisis.
Q: Wouldn’t a homebuyer tax credit help, though?
A: Homebuyer tax credits are an inefficient use of taxpayer dollars. They do not target those most in need (i.e., those in danger of foreclosure) and they provide a subsidy to many buyers who probably would have purchased a house without a tax credit. In other words, the “bang for the buck” is small and the danger of creating taxpayer-funded windfalls for buyers is great.
Furthermore, if the market needs a $15,000 discount to spur sales, firms with new home inventory (and lenders holding foreclosed houses) can simply reduce prices by that amount and be done with it. They can do this today, without any federal assistance. In fact, the real impact of this proposal would be not to increase house sales, but to shift losses from the housing industry onto the taxpayers who rent or who pay their mortgage on time.
Finally, major indicators show that house prices are likely still overvalued by approximately 25 percent. The government should not use tax dollars to encourage citizens to buy an asset that is expected to lose value in the next 12 to 24 months.That would only increase the number of owners who are “underwater.” Already, experts estimate that as many as 1 in 6 owners are underwater in their mortgage, and these underwater owners are at high risk for foreclosure.
A new homebuyer tax credit in a falling price market creates the very real potential of yet another round of underwater sellers, mortgage defaults and foreclosures. Only this time, the government will have directly financed much of the unsustainable homeownership.
The only issue a homebuyer tax credit addresses is the oversupply of single-family houses, which is something best left to the marketplace—not taxpayers—to correct. Lawmakers should instead focus their efforts on restructuring mortgages, an action that actually can help families stay in their houses.
Q: But didn’t a homebuyer tax credit help in the past?
A: A homebuyer tax credit was enacted back in the mid-1970s when the economy was suffering from a recession and inflation at the same time. That credit was limited to seven months and provided buyers a $2,000 tax credit. No such tax credit was enacted in the recession of the early 1980s, which was a much worse downturn for the industry.
There was also no homebuyer tax credit for the recession of the early 1990s, which was as bad as the mid-1970s. The “precedent” for this tax credit is shaky at best, and recent history confirms that the housing industry will recover with or without the help of Congress or the resulting expense to the taxpayer.
Q: What about downpayment assistance programs? I’ve been told that the ban on seller-financed downpayment assistance is further damaging the single-family housing sector and thus the economy.
A: Congress had strong reasons to ban these “circular funding” programs in the housing stimulus bill it passed in July, and those reasons remain in place.
1. These loans are three times as likely to go into foreclosure.
2. The surge of these toxic loans now threatens the financial viability of the FHA and is a contributing factor to the explosion in foreclosures across the country.
3. They artificially inflate housing prices because sellers typically raise house prices to cover the cost of their downpayment “gift.”
4. They perpetuate the failed policy of zero-down mortgages and threaten to extend the housing crisis–or create the seeds of the next one.
5. They push families into unsustainable homeownership and they benefit home builders more than home buyers.
Q: What should we do instead?
A: A sizeable number of these foreclosures are unavoidable because millions of people were pushed into unsustainable homeownership. Congress should focus its efforts on those households who can reasonably afford to stay in their houses.
Lawmakers should direct their efforts to measures that get these loans restructured. Beyond that, if Congress wants to shore up the economy, it should look at proven economic stimulus policies, such as investment incentives for business, investing in our national infrastructure, extending unemployment benefits, issuing general aid to state governments and enacting meaningful energy efficiency tax incentives for commercial real estate
[1] Based on NAHB forecast of 5.1 million housing sales (new and existing) in 2009 x $22,000 tax credit for each sale equals $112 billion in wasted stimulus spending on households who would have bought a house anyway.
[2] Paul, Katie. “Advice from Seven Nobel Laureates on Fixing the Economy,” Newsweek, October 22, 2008. Available at: www.newsweek.com/id/165189?from=rss.
[3]Glaeser, Edward L. and Gyourko, Joseph (2008). “The Case Against Housing Price Supports,” The Economists’ Voice: Vol. 5 : Iss. 6, Article 3. Available at: http://www.bepress.com/ev/vol5/iss6/art3.
[4] Ibid.
[5]Ibid.
[6] Schiller, Robert. “Gradual home price drop good: Yale’s Shiller,” Reuters. February 21, 2008. Available at: http://tinyurl.com/5eho9o.
[7] Hagerty, James A. “Bargain Hunters Help Shrink Housing Glut,” The Wall Street Journal. October 28, 2008.
