Sunday, 6 December 2015

Why we don’t have a Housing Crisis.


If there is one thing that unites everyone in the UK, it’s that we have a housing crisis. The reasoning behind this consensus goes something like this:
a) Too many households cannot afford to buy their own home and many are struggling to pay the rent.
b) This must be down to excessive demand and a housing shortage.
c) This shortage is all the fault of those meddling planners, NIMBYs and/or net immigration.
d) We need to build at least 300,000 new homes per year to keep pace with growing demand.

Unfortunately, this reasoning is based on a fundamental mistake that land has a net cost, like capital does. As land is everything not supplied by human effort, it cannot by definition have a net cost.

1. We do not have thousands of families sleeping rough. Yes, tens of thousands may technically be “homeless”, but barring a few thousand rough sleepers, everyone in the UK has a roof over their heads. Furthermore, we have over half a million empty homes and tens of millions of spare bedrooms.  We certainly do not have a shortage of physical housing in the UK.

2. We all know that due to the rabbit hutch rubbish our highly profitable property companies have been peddling for decades, the cost of the actual buildings has fallen. What has gone up is the selling price of the location that housing occupies.

3. Unlike capital (the building), location (the land) has no cost of production. The rental value of the location is capitalised into selling prices and mortgage interest is only a transfer, not a net cost.

4. If rents and mortgage interest are not a net cost, then the high price of location cannot make housing unaffordable in aggregate. If there is a net transfer of wealth and welfare, then housing may well be unaffordable for one group, but this transfer will act in an equal and opposite way as a subsidy for another group. To say housing is unaffordable due to the high selling prices/rental income of locations is therefore utterly fallacious.

5. If we are concerned about affordability for one group vs another, we should first define how we measure this. House prices as a ratio of gross income do not reflect true affordability as this does not take into account taxation. The better measure of housing costs is annual rents or mortgage interest as a proportion of post-tax income. Similarly, “gross income” or “total asset wealth” are poor measures of inequality or poverty; the better measure is “net disposable income after tax and housing costs”.

6. There will be a net transfer and inequality if two groups (A and B) have similar gross incomes and pay similar amounts of tax but Group A owns little or no land by value and Group B are owner-occupiers and/or landlords. Group A will have lower discretionary incomes and group B higher discretionary incomes. There is a net transfer from A to B, directly via the rents they pay and indirectly via the taxes they pay.

If Groups C and D each own the same amount of land but Group C has higher earned income and pays more tax, then although there is inequality there is still a net transfer from Group C to Group D via the tax system.

7. It is widely believed that the best way to deal with this transfer that makes housing unaffordable for group A, is to lower aggregate selling prices by building more homes. But because our current system of taxation is essentially flat, to end this transfer the value of all land would have to drop to zero. Or the equivalent of a two-thirds fall in house prices. While this is desirable, it is unimaginable this could be achieved by changes to planning, unless we plan to irradiate our urban centres with nuclear fallout, which would certainly outweigh any benefits.

8. It is a commonplace that building extra housing will lower aggregate house prices. As the value of location is derived solely from agglomeration effects, it can be argued that adding capacity where demand is highest will simply suck in more people, increasing aggregate land values in that area (prices will only fall in the areas with no new construction and net emigration). This will also tend to increase the rates of under-occupation and vacancy, particularly in already marginal locations. This is the very opposite of The Northern Powerhouse policy, as it will only further distort our economy towards London and the SE.

9. In short, while the impact on affordability of building extra housing is questionable, the fact that it will simply be adding to our already inefficient land/immovable property market and exacerbate our excessive North/South divide is not. The only groups like to gain from “build, build, build” policies are the usual suspects - banks, landlords and those who make windfall gains when planning consent is granted (agricultural land owners in outer-suburban areas and home builders who between them own land with planning or near planning for half a million homes).

10. If our so called “housing crisis” is actually a “transfer of wealth” crisis, caused by taxing earned income and return on capital instead of using land rent for public revenue, then changing our tax system is surely a simpler, more efficient and more certain way of ending that net transfer.

11. For a typical working UK household, a shift away from taxing income/capital to taxing land would result in them being around £11K a year better off. If land was always taxed at 100% of its rental value, its selling price should drop zero. The resulting fall in mortgage payments for a typical new buyer would see them save a further £6.5K per year. Taken together, housing affordability as a ratio of house prices to discretionary income for a typical household increases four-fold.

12. If everyone paid rent for the land they occupied, instead of enjoying it tax-free as owner-occupiers do now, we would see optimal allocational efficiency in the land and housing market, reducing vacancies and under-occupation. To what extent this would nullify the need to build extra housing to deal with a rising population is unknown, but without doubt we wouldn’t need 300,000 extra per year for the foreseeable future.

13. Taxing wealth creation instead of land rents not only produces inequality on a societal level but a regional one too. Those regions outside London and the SE, like individuals in group A, are overtaxed.  A tax shift as described above levels the playing field for all participants so for those regions, their tax liabilities would be far lower than today; around £100bn per year lower. This would attract investment and demand to exactly where capacity for it is at its highest.

To summarise; High land values reflect the efficient exploitation of the agglomeration effects that lead to high wages and high amenity levels in preference to private capital. Any planning restrictions that lower agglomeration effects will negatively impact aggregate land values. High land values are thus a positive indicator of wealth and economic welfare. High land values only have a negative impact when they are capitalised into selling prices and lead to transfers of earned income. This causes distorted incentives and excessive inequality. The main symptom being our so-called Housing Crisis.

But, as I hope I’ve argued above, our “Housing Crisis” is in reality a “Transfer of Wealth Crisis”. Or a crisis of basic economic justice to be more accurate, which in the long run makes us all poorer, not just excessively unequal.

33 comments:

Mark Wadsworth said...

Yes, but I paid for my house out of taxed income, you envious Communist.

Ben Jamin' said...

@ Yes MW, that must be right because under a LVT only system, a firm or individual with the highest income and capital assets in the UK doesn't owe a penny in tax if their property only occupies marginal location.

The fact is, LVT is as hardcore as Capitalism gets, which is precisely why Tories, the business lobby and the faux-libs loath it and squeal the loudest because it is a direct assault on their protected privileges.

Mark Wadsworth said...

On the subject of privilege, that's a question that occurred to me today: "Is landownership a privilege or a right?"

if it is a privilege, people should pay whoever granted them that privilege (the rest of society) and if it is a right, then how come so many are excluded?

By Homey logic, people only have 'a right' to pay private individuals for 'the privilege' regardless of who bestows it in the first place, which is a bit arse backwards.

Woodsy42 said...

Land may not have a net cost - on the basis it's simply there and doesn't have to be manufactured. But the use of land does have a cost - E.G.if it's full of houses it can't be used to grow food. In that sense there is an economic cost to land use.
I also think there is a housing problem. I would certainly agree that the way houses are built, taxed, financed and planned is ridiculously inefficient and panders to corporate profit rather than ordinary people. But there are still insufficient houses when you consider where and how people would like to live.
I also ask you consider that your argument - that land is simply there - means oil is free, as are all minerals and raw materials. They are simply there for the taking aren't they?

Lola said...

It ain't gonna happen is it? Land and tax reform. If implemented it would destroy the reason that people vote Labour/Lib Dem/SNP etc etc and Tory. Both of the existing duopoly would lose their constituency. They know this. And as it's all about Power, neither are going to go for it. And what's more they will go on going on making Damn' sure that as few people as possible are educated in it.

Ben Jamin' said...

@ W42

Of course Land like any other factor of production can have an efficiency loss/ cost if not optimally allocated. That's not what people talk about when they say housing/rents cost a lot. If they do cost a lot this is primarily a transfer issue rather than an efficiency one. And simply building extra homes will make the latter even worse than it already is.

As Land unlike Capital is unreproducible, demand for housing in valuable areas can never be met. I'm sure every man and his dog would like a Mayfair address but that's not possible. So, there will always be "insufficient homes" by your definition.

Land is "free" because it was not supplied by humans, but it is scarce then it becomes valuable simply by excluding others from it.

In theory, everything is there for the taking, whether that is Land, Labour or Capital. If we infringe the property rights of others it's called stealing or slavery. That's what excluding others without compensating them from valuable natural resources, like location is. Stealing and economic slavery.

@ L

Didn't you say a while back that it's just people haven't thought it through properly? I think this is right. It did take humans quite along time that stealing and enslaving each other was wrong, and the banning of such activities was not a fundamental infringement of their rights.

I can only suggest we all get behind the YPP. Just needs a critical mass, which I think might be surprisingly low :)

L fairfax said...

"It is a commonplace that building extra housing will lower aggregate house prices. As the value of location is derived solely from agglomeration effects, it can be argued that adding capacity where demand is highest will simply suck in more people, increasing aggregate land values in that area"
So in an urban area where there is housing demand, building more houses always causes prices to rise. It is a one way bet as prices cannot fall? Is that a correct view of what you are saying?

Piotr Wasik said...

Nice primer on housing situation in the UK.

@Ben Jamin'
"Didn't you say a while back that it's just people haven't thought it through properly? I think this is right. " - I agree.

I often point people to this blog but I am not sure which is the best entry point; this may be a good candidate. But best entry point depends on somebody's general knowledge and background of course. People's knowledge on economics usually stops at linear supply/demand graphs with demonstrably wrong assumptions, like if prices go up, so does supply etc.

Ben Jamin' said...

@ Fairfax

"So in an urban area where there is housing demand, building more houses always causes prices to rise."

Anything that increases agglomeration effects, increases demand, increases the value of locations where agglomeration effects are highest.

This isn't anything new. It's why we see the highest house prices in the middle of the successful, large cities.

If we build more housing in London and the SE, this will likely only succeed in accelerating its population growth there still further. As MW says, building housing to accommodate the demand for housing here is like trying to put out a fire by adding more twigs. It might damp out the flames in the short term, but you've really just added fuel. People are the fuel that creates economic growth.

What we actually want is increased agglomeration effects, and higher land values across the UK as a whole. London is not an island. It is a network hub. The other cities and towns are its nodes. For the UK economy to be strong the vitality of the whole network needs to be balanced.

At the moment, our economic system is burdening areas outside London/SE with excessive liabilities. Only a LVT replacing taxes on output allows the network as a whole to balance itself out, optimising growth. Just like any other biological entity does.

Human society and our cities/networks are only biological entities, and we are governed by exactly the same laws of scale.

I'll post something on this subject soon, as it's very important to understanding economics. IMHO.

L fairfax said...

"So in an urban area where there is housing demand, building more houses always causes prices to rise. It is a one way bet as prices cannot fall? Is that a correct view of what you are saying?"
So you are saying that building more homes will not prices cheaper.
My sister in law lives near Alicante. Her town had a lot of property demand and unlike other parts of Spain they built lots of flats in the town. Prices have dropped from 130,000 Euros to 30,000 Euros.
Now maybe in the long term prices will be higher because of this (hard to prove).
However in the short term 7-10 years the excessive building has caused prices to fall. (I know that there is also a financial crisis although in Spain that was at least partly caused by the excessive building)

mombers said...

@LF Alicante is a tourist town I believe. Very seasonal employment, lots of second homes, quite different from a diverse, year round economy. Thoughts? The second home factor makes it quite easy for prices to crash I think.

L fairfax said...

Sadly the town they live in is not touristy at all. I cannot imagine anyone in their right mind would buy a holiday home in Elche.

Ben Jamin' said...

@ L F

They did build loads of homes in Spain and Ireland, and house prices kept going up until the crash.

If we build 5 million cardboard homes in the middle of nowhere, left to rot, then prices in the UK will drop by 20%. ie"It is a commonplace that building extra housing will lower aggregate house prices."

But, although aggregate prices would have dropped, they would remain unchanged where demand is highest.

It's just hard to imagine, unless we banned people moving to London/SE from other parts of the UK/World, how building tons of homes would improve affordability over the long term. And what what cost?


Urban Sprawl(if we didn't have the GB) and our excessive North/South divide are symptoms of market disfunction. Personally, I'm all for scrapping the Greenbelt and letting the market sort everything out, but only after a 100% LVT. I seriously doubt we'd need to build any extra new homes for years if we had an LVT tomorrow.

The build, build, build solution is certainly not going to end the net transfer of wealth, is therefore unlikely to make a significant impact on affordability for working households over the long term, and will come with huge efficiency costs.

But we are going to do it anyway, so we'll see. As per Spain/Ireland expect prices to keep rising until the next crash. Rinse, repeat etc.




L fairfax said...

"
If we build 5 million cardboard homes in the middle of nowhere, left to rot, then prices in the UK will drop by 20%. ie"It is a commonplace that building extra housing will lower aggregate house prices."
"
They didn't build all the extra homes in Spain in the middle of nowhere. In Elche they were placed in convenient locations and still crashed to 25%. (Amazingly but I guess the money had already being budgeted they were still building loads in 2010)

Dinero said...

The building in Spain was not accompanied by proven demand, unlike the demand in London. And It was also occurred around the time of the credit crunch. In London each unit would be built and occupied accordingly. And so you have an increase in agglomeration with each new unit and resident, unlike Spain.

L fairfax said...

@"The building in Spain was not accompanied by proven demand"
In Elche they were being occupied at first (not at the end of course).
If you built enough houses in London (and didn't have housing benefit) you could probably have empty houses after a while.

Dinero said...

True , but no-one is suggesting that builders in London put up the money to build so many houses in London that they have some left unpurchased and unoccupied. That would be what was required , and probably quite unrealisically, of a "build to reduce prices" policy.

L fairfax said...

"True , but no-one is suggesting that builders in London put up the money to build so many houses in London that they have some left unpurchased and unoccupied"
I don't think they did it on purpose in Spain. What happened was that the price of a good increased and suppliers mistakenly (aided by easy credit) responded by making more of the good. As often happens they over produced.
In the UK we don't have a free market in housing.

Dinero said...

Yes, agreed, that's the point, they didn't do it on purpose in Spain, but they would have to do it on purpose to get the same result in London, and that is not a normal condition.

L fairfax said...

It is not normal for firms to over estimate demand and create an oversupply?
Are Spanish building firms and Banks less intelligent than British ones? (There has been some real stupidity from both so I am not quite sure how you can say that).

Dinero said...

What Ben Jammin's post says, is that a policy of building houses in London to bring down prices does not stand up to scrutiny, due to agglomeration.

Ben Jamin' said...

@ D

Just to clarify, I would expect HP's across the UK to come down if we build X amount of extra housing, but the headline rate of average HP's isn't the same as affordability for working households in London and the SE.


It's discretionary incomes that makes everything, not just housing, affordable or unaffordable. Looking at headline average house prices across the UK doesn't therefore really tells us that much about true affordability.

Due to our tax system being more or less flat, because the land by value is highly concentrated, there will always be a net transfer of wealth/welfare, unless a) the value of land drops to zero b) the rental value of land is shared equally.

Build, build, build will not even come close to achieving A, it's main target. And it comes with efficiency costs. At the very best, it's a suboptimal solution.

Dinero said...

> Ben Jamin

so if you build in the population center then prices don't fall in the population center, and the alternative is to build outside of the population center and that does not cause prices to fall in the population center either.

Ben Jamin' said...

@ D

Leaving efficiency issues to one side, let's assume that aggregate land values across the UK are fixed. But they can be spread around in different ways.

At the moment, the Greenbelt/planning acts like an dam. Artificially high one side, artificially low on the other. Because of this it also slows down the rate to which people would move to London/SE.

Build, build, build, takes away that dam and spreads those values over a wider area, lowering the average Land to Capital ratio, thus average HPs, but increasing vacancies/under occupation.

This also means those currently priced out of London/SE will now be able to move there, and more people are the fuel that makes the London/SE economy grow. Which is good for London/SE economy and existing landowners as this raises demand, but not so great for the rest of the UK or it's economy as a whole.

If we want max aggregate land values, which I believe we do, then we need a balanced growth across the UK.

So, the answer to your question is, yes building loads of homes will of course lower average HP's (although not in London/SE), but it will not lower aggregate land rents, they just get spread differently, and in my view further concentrated towards the SE.

This issue about housing is really one of inequality. I understand why people think building more houses is the only answer, but it's not. It's a piss poor answer, which I think will make marginal improvements at best.

LVT sorts it all out, once and for good. Easy peasy. And we get all the efficiency gains on top. Which is for me personally is the important part. The fact it makes housing tons more affordable for one groups vs another is a side issue for me.

We shouldn't need a Greenbelt, but without a proper LVT, we do.

Dinero said...

Yes I was agreeing with you, - building in or outside of the population center doesn't lower the prices existing inside the population center.
Question - , what do you mean where you write "tax system being essentially flat"

Mark Wadsworth said...

LF, it is not always a one-way bet. Read the post. It says:

... adding capacity where demand is highest will simply suck in more people, increasing aggregate land values in that area (prices will only fall in the areas with no new construction and net emigration).

There's no point building houses unless people would move there.

So build 100,000 homes within commuting distance of London, they will soon be filled up and agglomeration benefits will cancel out 'added supply'.

Build 100,000 homes on the Shetlands and its money down the toilet.

Mark Wadsworth said...

Din: "what do you mean where you write "tax system being essentially flat"

If I may butt in, we have a weird mixture of regressive and progressive taxes which pretty much cancel out. the overall effective rate on income ends up quite flat from bottom to top. I mean there are plenty of wiggles in the curve but overall it's flattish.

L fairfax said...

"There's no point building houses unless people would move there.

So build 100,000 homes within commuting distance of London, they will soon be filled up and agglomeration benefits will cancel out 'added supply'."
That is assuming that builders don't by mistake too many as happened in Spain.

I am pretty sure that the people who paid for lots of homes to be built in Elche didn't think that they were going to cause prices to crash. This is not the middle of nowhere but a place which was booming. (It is possible that they were philanthropists but as they were advertising for quite high prices I doubt it).

Of course no one is ever going to plan to build so many homes that prices drop.
However it (in a free market so not the UK) can happen.

Mark Wadsworth said...

L, if home builders build homes which never get sold and stand empty, that is destruction of wealth quite clearly.

If they sell flats for €130,poo which fall to €30,000 that is clearly a massive transfer of wealth, primarily to landowners.

As to "building too many" that depends on how much infrastructure and people are already somewhere. Build 100,000 tiger homes in the middle of nowhere that's too many. Build 100,000 near London or a major city and it wouldn't touch the sides. To build "too many" near London would mean about 1 million a year or something, which is not physically possible.

Bayard said...

"I am pretty sure that the people who paid for lots of homes to be built in Elche didn't think that they were going to cause prices to crash."

They could be bloody sure of that, because they didn't. It wasn't the supply of houses that caused the price to crash, it was the banks going tits up. What happened was that the financial system that made it possible for all those houses to be built and offered at high prices, came to an end and therefore the prices went down as they no longer had the backing of the financial system that drove them up in the first place. If this wasn't the case, then prices would only have fallen in places where lots of new houses had been built, and they didn't, they fell everywhere, same as in Ireland.

Saying building lots of houses brought the prices down in Spain and Ireland is confusing cause and effect. High house prices mean that it is profitable to build lots of new ones, therefore, in the absence of planning controls, lots of new houses are built. This is what happened in the the UK in the 60s and 70s. While lots of new houses are being built and coming on the market, prices continue to rise, despite the enormously increased supply, tThis is what happened in Spain and Ireland. However, with the law of supply and demand, you would expect the price rise to start to tail off there was no sign of this. Prices were still merrily going up when the financial crisis cut of the source of funding for both buyers and builders. That is what brought the prices down, the fact that no-one could afford to either build the houses or buy the houses already built.

"To build "too many" near London would mean about 1 million a year or something, which is not physically possible."

However, it is perfectly possible to build "too many" in a marginal location, as happened in Ireland and, to a lesser extent, in the UK. What happened then was not that prices came down (this was before the crash), but the houses went unsold. There is a development near me, built at the height of the boom, which is still empty. The flats are still for sale, still at more or less the same price.

Bayard said...

Also, if land, and therefore houses, follow supply and demand, how do you get the following scenario, reported on the radio recently: 50% of the homes on estate agents' books empty and empty for more than one year (lots of supply) and prices rising locally (lots of demand)?

mombers said...

@B, the lack of a tax on land and very low interest rates are directly responsible for the nonsense of empty, unsold homes and high prices. If prices are going up by 5-10% a year but money costs nothing and you don't pay any meaningful property tax on more expensive locations, it's very cosy to just sit tight and watch paper profits go up and up...

Bayard said...

Thank you, M. Another reason why "supply and demand" doesn't work with land - there's no real need to sell.