Editor's Choice

Reinflating the housing bubble

Georgia senator Johnny Isakson's amendment to the stimulus package, which passed the Senate yesterday, is a stupid idea -- call it the Realtor Creation Act, and heaven knows we need more Realtors. The amendment doubles the existing unnecessary subsidy to new-home purchasers from $7,500 to $15,000, and intends to encourage more activity in the housing market and speed recovery in that sector, which remains afflicted with a massive inventory overhang -- we built too many houses, and the vacancy rate is at a record high. Of course, in practice, this is a tax giveaway to the upper middle classes -- the sort of people who already can afford to buy houses rather than rent -- and encourages the same sort of dangerous real estate speculation that helped create the recession we're in.

Calculated Risk is skeptical that the historical precedent for this -- a 1975 giveaway to home buyers that supposedly boosted sales -- holds water. And economist Dean Baker explains that the proposal is probably going to be far more expensive than advertised:

Isakson puts the cost of his tax break at just $19 billion. Let's break the Washington rules and try a little arithmetic. Even with weakness in the housing market, it is still virtually certain that we will sell close to 5 million homes in 2009. The overwhelming majority would qualify for the full credit. So, we get 5 million times $15,000. That sounds a lot like $75 billion. And this is before we get to any gaming. It's hard to see why tens of millions of people wouldn't figure out a way to buy a house from a friend or relative and get their $15k. If we can get one-third of the country's homes to change hands (lots of jobs for realtors) that would be good for $375 billion.

Economist Tyler Cowen says "boo to the Republicans" for generating the proposal, arguing that "the supply of homes is relatively elastic right now. The tax credit will subsidize the new buyers without propping up the price of homes. Demand will go up, supply will go up, price will stay more or less on the same trajectory, and banks won't be any healthier. The subsidy goes to new home buyers and why should we be helping them above all others?"

Brian Beutler laments that this sort of policymaking is the "benefit" of bipartisanship:

I suppose if we wanted to, we could build upon the Isakson amendment by suspending environmental regulations and setting aside money for construction workers to build more Kaufman & Broad communities, and coal-fired power plants. That might even technically count as great stimulus, but with Democrats fully in charge the hope was that the money could be spent both in great quantity and in ways that, at the very least, didn’t help entrench the habits that got the country in this mess in the first place. But I guess that’s bipartisanship for you.
Those who thought Obama would usher in a new regime of ideas and end the pandering to the suburban bourgeoisie are finding out they were wrong, and really, this should be no surprise. Obama didn't campaign as a progressive urbanist, even if his life experience suggested he might govern as one.

Anyway, housing economist Ed Glaeser (no progressive -- you can find him on today's WSJ editorial page calling for more tax cuts) in this TNR book review, details the distortions of the subsidized lending schemes that Isakson wants to extend:

The popularity of subsidizing borrowing has led some to advocate a new round of federally subsidized lending, perhaps at an interest rate of 4.5 percent, aimed at pushing housing prices back up. But nothing is going to bring back the boom days of 2006. On average, housing prices go up between 3 percent and 5 percent when interest rates fall by 1 percent. A big loan program that pushes lending rates down to 4.5 percent would probably lead to a price boom of less than five percent. Such a modest impact would be barely noticeable in markets that have lost more than one-fifth of their value in the last year. It certainly would do little stem the tide of foreclosures. Housing in America is a $20 trillion market. It is no more plausible that the government will be able to bring housing prices back to bubble-like prices than it was for Herbert Hoover, or Franklin Roosevelt, to bring stock prices back to their 1929 levels.

I doubt that the government should try to make housing more unaffordable to ordinary Americans, even if it could manage that trick. Higher prices would just mean more overbuilding in places such as Las Vegas, which already have a glut of homes. In almost all cities, prices are still far above 2000 levels. Why is unaffordable housing now a national desideratum? The most recent housing boom made some of America's most economically dynamic and beautiful places unaffordable to ordinary Americans. Higher housing prices made it difficult for young and middle-income families to get by in America's costly coastal regions. There is much to like about housing's return to reality, not least its increased affordability, and much to dislike about artificially trying to make homes expensive.

Moreover, credit subsidies can be quite regressive. The Home Mortgage Interest Deduction is poorly targeted toward lower-income Americans who are on the margin between renting and owning; its benefits go mainly to the rich. In markets where housing supply is more or less fixed, subsidizing borrowing just pushes up prices, which means capital gains for existing homeowners, not increased housing affordability. In more flexible markets, the deduction encourages over-building and over-borrowing.

In the midst of today's housing crash, certainly, subsidizing borrowing looks particularly foolish. The government essentially encouraged Americans to leverage themselves to the hilt and bet on housing markets. Now a lot of those erstwhile owners have lost everything. Why exactly does it make sense to subsidize gambling on home prices?

Glaeser then details how homeownership subsidies basically mean that the government is encouraging us to live in single-family homes. That means when we make attempts to expand home ownership, it leads to more inefficient, energy-wasting, low-density development, perpetuating the stranglehold of suburban anomie for yet another generation.

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