Brian Fallow: Spare us the finger-wagging over house prices, Grant Robertson


So the Finance Minister, looking at runaway house price inflation and gulping, has opted to wag an admonishing finger at the Reserve Bank.

If Grant Robertson thinks the bank’s determination to engineer even lower interest rates will do more harm than good, he is probably right.

But he of all people should not say so publicly, even implicitly.

At best it smacks of scapegoating; at worst of a Trump-like attempt to browbeat the central bank. It is liable to be seen — protestations to the contrary notwithstanding — as undermining its operational independence.

It had the immediate effect of pushing wholesale interest rates and the exchange rate higher, tightening monetary conditions when that is the opposite of what the bank wants to do.

Why do it, then? Fans of Yes Minister might recall the politician’s syllogism: Something must be done! This is something. Therefore this must be done!

But Robertson’s suggestion that house prices be added to the list of things the monetary policy committee (MPC) should have regard to — or “seek to avoid unnecessary instability in” — is gratuitous. We hardly needed governor Adrian Orr’s assurancethat house prices are not something of which the monetary policy committee is heedless as it makes its judgment calls.

But its remit is — and Robertson is clear it will remain this way — to deliver low and stable consumer price inflation while doing what it can to foster maximum sustainable employment.

Right now the committee is more worried about the downside risks to the economy and by the fact that inflation, actual and expected, is wobbling around the bottom of its 1 to 3 per cent target band.

Deflation is much harder to remedy than inflation, and the committee is evidently more wary of that risk than of house price inflation, which in any case is something it is relying on to stimulate demand via the wealth effect.

It says it would rather do too much too soon than too little too late.

That is the MPC’s call and again the minister is clear it will remain so.

At the moment, when pursuing its objectives the Reserve Bank should seek to avoid unnecessary instability in output, interest rates and the exchange rate. Would Robertson’s proposal to add house prices to that listhave made any substantial difference to the MPC’s decisions this year had it been in place?

When asked that on Wednesday, Orr said “Our objectives remain the same: Low and stable inflation while contributing to maximum sustainable employment.” Translation: No.

It is fair enough for Orr to make the point that there is no such thing as precision monetary policy.

And that other participants in the financial system bear some responsibility: how much are buyers willing to borrow and how much are banks willing to lend?

No doubt Robertson is genuinely interested in the bank’s views of what else it might do “to support the aim of achieving the sustained moderation in house prices that we have both sought.” But he could have just asked it, without brandishing the letter publicly.

He has, after all, been seeking advice on what to do about the housing crisis from officials and independent economists, without making a song and dance about it.

As Orr put it with some asperity to the media on Wednesday after the release of the bank’s financial stability report, “housing has been an issue forever.” But seldom more than it is now.

In the year ended October, house prices were up 13.5 per cent nationwide, according to the REINZ house price index, and by 15.4 per cent in Auckland.

The house price-to-income multiple rose to 7.7 in October, from 6.8 times income a year earlier, driven by Auckland where it currently sits around 10.3, the FSR says.

In September, 43 per cent of the new lending to first home buyers nationwide was at a multiple of five times income or higher, driven by Auckland where it was 57 per cent.

“House prices are at very high levels and the recent growth in house prices increases the risk of a sharp correction in the medium term, if the current demand and supply imbalances quickly unwind,” the FSR says.

What are the chances of that?

Population growth has slowed dramatically as Covid cut the net migration gain to a meagre trickle and, even in a recession year, building consents for dwellings rose 3.5 per cent in the year ended September.

But the underlying problem remains that for years not enough housing was built to accommodate population growth, and what was built has been heavily concentrated at the expensive end of the market.

The housing shortage has been years in the making and will take years to remedy. So long as it persists there will be upward pressure on prices.

The question then is how high do prices have to go to burn off and frustrate that excess demand?

That is where demand-side factors like interest rates, loan-to-value ratio (LVR) curbs, and the tax rules make a difference.

The key set of buyers is investors.

They are the marginal buyers who don’t have to be there. And they are out in force, accounting for 24 per cent of the new lending last month compared with less than 20 per cent a year ago or two years ago.

It is the point at which the second highest bidder drops out that sets the price.

If the second highest bidder is someone who has looked at the limited investment options and meagre returns available elsewhere and is accordingly attracted by the potential gains from highly leveraged speculation in housing, then the current superheated market is unsurprising.

The Government cannot dodge its responsibility for the tax settings which underpin this.

It is not only the unusually harsh tax treatment of retirement savings vehicles. It is also the absurdity of treating ownership of a rental property as just another business, when the lion’s share of the expected return on investment is capital gain, not taxable rental income.

That capital gain does not represent an increase in the productivity of the enterprise, as it might for the kind of business that employs people. The rental property does not provide any more shelter when it is sold than it did when it was bought. The gain is all inflation.

And the increase in the landlord’s equity is amplified by leverage, more leverage than is generally available to the productive sector. The FSR tells us that even at the height of the last cycle, the debt-to-assets ratio in the business sector never got above 56 per cent, well below the 70 per cent that LVRs would reimpose on property investors.

The current rules give property investors an advantage over owner-occupiers, who cannot claim a deduction for their mortgage interest costs, on the one hand, and over businesses, which cannot gear up to the same extent, on the other.

The cleanest solution would be for the new Parliament to push out the Bright Line test — a de facto capital gains tax on property investors if they then flip the property within five years.

Failing that test of political fortitude, the least they could do would be to take up the suggestion from Auckland tax lawyer Terry Baucher of applying to investment property the same sort of limit on interest deductibility that already applies to thinly capitalised foreign direct investment into New Zealand.

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