While many of us have relished the recent housing boom, others have seen price rises beyond their ability to pay.
To help it walk the tightrope between home-owners and want-to-be-homeowners, the Commonwealth Government asked the Productivity Commission to review the issue of home affordability. This has proved to be a deft move.
The Commission's draft report, issued this week, provides a much needed sedative to the often overcharged debate and refocused it on where tax changes are most urgently needed---that is, stamp duties.
The Commission pointed out that much of the recent increase in housing prices has been rational, desirable and not unique to Australia. Three factors---resulting directly from policy changes---contributed to the shift in capital to housing. First, the taming of inflation greatly reduced the cost of borrowing. Second, the deregulation of the banking sector removed artificial limits on capital flows and resulted in more competition in the provision of financial services to householders. Third, the housing sector provided a valuable offset to the recent poor returns in stock markets.
Similar policy changes were made around the world, resulting in growth in housing prices similar to that experienced in Australia.
In short, there has been a policy and market-induced shift of capital into largely existing housing stocks, which have, in turn, increased housing prices.
The Commission also cautioned against hasty action, because the indications are that the market is already starting to self-correct. Yields on rental of residential properties have fallen below long-term averages and far below yields on industrial property. Vacancy rates, especially for apartments, have risen, suggesting a catch-up in supply. And turnover of properties has slowed. Indeed, policy actions designed to address the boom may well have contributed to a bust.
While the Commission agreed that a favourable tax climate contributed to the recent housing boom, it pointed out that non-property investment received the same tax treatment as property investment, including the ability to negatively gear. Given that a major principle of tax policy is neutrality between different forms of investment, the Commission argued that it would be wrong to reduce the scope for negative gearing in housing whilst maintaining current arrangements for other forms of investment.
Instead of negative gearing, the Commission identified stamp duties as the priority area for tax reform. The stamp duties levies have increased sharply in recent years as a result of increased turnover, higher house prices and the application of progressive rate structures. Indeed, in Victoria, which applies the highest stamp duties rates on median-priced housing, stamp duty collections have risen by 195 per cent over the last five years.
While stamp duties may not have contributed greatly to rising house prices, they do act as a major impediment to mobility of people and tend to lock in investments. As such they undermine the long-run functioning of the housing sector.
In short, the Commission's message for governments is to hold tight and allow the market to self-correct and focus instead on policy that assists the long-term functioning of the market. Let's hope they listen.