Submission to Home Ownership Inquiry – Who will teach young people about risk?

Following my recent article on Australia’s epic housing bubble, (and the unavoidable conclusion that the only way to restore affordability is for the market to experience the inevitable crash that follows a bubble of such historic proportions), I submitted an edited version of the article to the House of Representatives Standing Committee on Economics Inquiry into Home Ownership.

I’m pleased to announce that the submission has now been published, and to my surprise was a source of much amusement and interest from the committee members, who do not typically receive such candid responses. You can download the full submission from the committee’s website (8th submission, Mr Matthew Ellis).

Importantly though, my edited submission included a more specific conclusion and set of recommendations in order to formally address the inquiry’s terms of reference. Given that these were not in my original article, I wanted to share them with you here. In particular, I believe that the worst aspect of Australia’s current housing bubble is the utterly culpable behaviour of media, leadership, the finance, insurance and real estate industries (the FIRE sector), and economic regulators in drawing in young Australians to extreme levels of risk, and deliberately obfuscating the real risks, and economic and financial context surrounding the real estate market in it’s current form.

A failure to educate young people about risk and finance will come to be recognised as the worst culpability of the great Australian housing bubble era. Such is the case in Ireland right now, where bankers and media outlets are getting strung up for their role in spruiking the endless housing boom that wasn’t.

Basic financial principles such as debt, risk, balance, longevity, yield, compound interest and returns, and the nature of exponential functions, are not understood properly by most people, yet any smart investment strategy must begin with such financial literacy.

As I iterate to people ad nauseam – because I am continually misconstrued – I’m not a jealous and ungrateful youngster in the market for a crippling mortgage and an expensive house in the trendy inner city. Currently that type of “investment” is about the riskiest investment in the world, and probably will be for many more years to come. Rather, I have my own wealth strategy involving a balanced portfolio, zero debt, plenty of cash, and the flexibility and affordability of renting. Anyone claiming that I parade some hard-done-by-status for selfish reasons is peddling crap. You cannot dismiss my arguments with that sort of ad-hominem argument, because my intention and efforts are focused on education and evidence, not on complaint for my own status.

Whether or not the market crashes, my own financial strategy will work for me – unless I lose my job because of a housing crash that brings down the whole economy. That’s the type of risk that I’m REALLY angry about; I was fortunate enough to be able to opt out of the housing bubble, but I may get shafted either way. At least I know that my financial resilience and lack of debt will see me in better shape than most.

But it is indeed very sad to reflect on that fact, and is in no way a source of pride or condescension. It is in fact a source of stress, anxiety, and alienation, that the fulfilment of looming predictions will see such destruction of wealth and means within our society. So many people close to me don’t have the same freedom, opportunity or spare-time to understand such severe risks, and are continuously misled by media, leaders and peers about the state of our economy and our housing bubble.

It is in that context that I came to the following conclusion in my submission to the Home Ownership Inquiry.

Conclusion

My conclusion is that severely unaffordable housing is a problem that has a built in solution, because it’s main cause is the largest housing bubble we have ever faced. Like many well respected individuals and institutions, I don’t see it ending well, and have the full weight of history and data to support that view.

I do however still wish to briefly list a broad set of recommendations, (which I have included in the final section of this submission), for which the supporting evidence has been provided at length by the real subject matter experts, and other submissions to this inquiry, such as that by LF Economics. These are crucial recommendations that have for years been put forward by many experts and hard working analysts, economists, journalists, bloggers and even the odd politician. These are the folks that we will look to in coming years as the people we should have listened to (as they do in Ireland now), and whose research and understanding I’m extremely grateful for in helping me to make my own informed choices about housing, and more importantly, risk.

This is my fundamental point. Young people don’t even understand what the definition of affordable housing is, let alone possess the ability and knowledge to make informed choices about the largest financial decision that most people ever make. I personally opted out of the current market many years ago, not because I couldn’t afford a property in the strictest sense, but because I deem the above described risks as terminal and completely unjustified. It’s simply not worth it. I’ve got a life to live, and refuse to put my family at risk of financial ruin owing to a single asset strategy, when that single asset is the most expensive it’s ever been compared to nearly every possible economic measure, and nearly every other country in the world.

But I have the benefit of spending countless hours doing my own research on financial history and macroeconomics. Why would most people bother with all that? Or have the time? First home buyers and renters alike need advice and counsel they can trust, and I’ve well and truly made my point that we suffer from a severe lack of trustworthy sources on financial, economic, market, and in particular housing matters.

So for all the many reforms needed to prevent a worsening of the current situation and a repeat in the future, the real focus of this essay is the role that people and institutions (both public and private) in positions of influence and power, play in informing opinions about risk with respect to the housing market in Australia. We need reliable research, communication, education and advice to be available to the young and impressionable generations. And we need people and institutions to be somehow held to account if and when they knowingly misinform, or peddle their own book in influencing debate.

We need established financial advice laws and regulations to be applied to the real estate industry. We need much greater transparency and disclosure of interests. We should establish and publicise a parliamentary register of property holdings. We should establish a public education program and official government advice portal for housing, renting, and real estate purchasing and selling – one that very clearly identifies risk levels, timeframes and scenarios, similar to those required by other financial products. We need a reliable and simple way to compare housing choices with respect to financial and other needs, and historical expected returns. We need to reform real estate practice to stamp out dubious practices like underquoting and fraudulent auction activity. We should reform private real estate data collection such as clearance rates to adhere to minimum scientific reporting standards. We should make timely and accurate real estate and housing data widely and freely available to the public.

We need to be much more honest to our readers, peers, friends, children, spouses and most importantly ourselves about how much a house is actually worth, and not give them advice based on gut instinct, conflicts of interest and herd mentality. Most of all, we need to understand, refer to and respect economic history and empirical evidence in making decisions, both personally, and for the country. Because history unanimously suggests that we are in a lot of trouble.

Recommendations

Recognise and rectify the long history of policy ‘failures’ driving dangerously unsustainable real house price inflation:

  • The failure to adequately tax land – long recognised as the most efficient, equitable and economically stabilising tax base, the origin of the economic free-lunch, and the true source of society’s wealth
  • Negative gearing of residential investment properties
  • Capital gains tax concessions and exemptions for residential real estate
  • Allowing self-managed super funds to borrow money to invest in real estate
  • Numerous first home buyer grants and concessions
  • Aged Pension means test exemptions for primary place of residence
  • Relaxation of rules for foreign investment in real estate
  • Failure to enforce existing foreign investment laws
  • Strict urban containment policies coupled with rampant inner city ‘NIMBYism’
  • Conflicted planning approval processes
  • Upfront infrastructure charges on new housing
  • Economically damaging and volatile stamp duties
  • Systemic enabling of political donations from property developers and land bankers
  • Long term relaxation of lending standards and prudent financial regulation
  • And the worst culprit of all: cheap money…

Finally implement the real evidence-based solutions:

  • Phase out negative gearing on investment properties, which currently add at least an estimated 9% premium to prices, and has helped to create an entrenched culture of real estate speculation
  • Phase out the capital gains tax exemptions and concessions on residential real estate, which make negative gearing an attractive investment strategy
  • Restore rules disallowing self managed super funds from borrowing to invest in real estate, which has added to investor demand and destroyed savings in the process
  • Scrap all remaining first home buyer grants and stamp duty concessions. Artificially giving buyers access to larger deposits – and by extension larger loans – has long been proven to simply add to the price of housing by at least as much as the additional funds. The long running First Home Buyer’s Grant has been referred to as the “First Home Vendor’s Boost” because it was simply built into sale prices and then some, as buyer’s borrowing capacity was increased by orders of magnitude above the grant amount
  • Restore stricter rules and oversight on foreign investment in real estate, which account for an estimated 10% of current property transactions for established dwellings
  • Phase out or reform the primary place of residence exemption from the pension assets test, which currently discourages down-sizing and efficient use of housing stock
  • Root and branch reform of the urban planning system to free up the supply of new housing and enable increased development of appropriate, responsible and sustainable medium density housing in existing urban areas
  • Replace volatile and distortionary stamp duties with a broad based land tax (as is already happening in the ACT), to improve the efficiency and fairness of the housing market, discourage speculation and land banking, and help to fund much needed infrastructure
  • Implement strict macro-prudential controls to curb speculative investment and enforce higher lending standards, including tighter loan-to-value ratios, tougher serviceability tests and a clamp down on extremely risky interest only lending
  • Raise current capital reserve requirements for residential lending and tighten other financial regulations that govern the levels of risk in our banking system, a major source of systemic risk for which the taxpayer and indeed the entire economy and financial system is ultimately on the hook
  • Implore leaders and media to genuinely and fearlessly begin one of the toughest national discussion we’ve ever had: ‘What do we do when we have the largest and longest-running housing bubble in the country’s history, and how do we properly inform young Australians about risk?

The Housing Crash We Had to Have – Submission to the House of Reps Home Ownership Inquiry 2015 – Matt Ellis

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