Homeownership – A God-Given Right?
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Implications, for Growth, Policy, and Financial Risk.
Most modern societies reflect at their core certain values or beliefs that are conferred on citizens as of right. The right to a full belly, the right to a roof over one’s head, the right to an education, right to health care. These core rights seem to cross all countries almost irrespective of political persuasion, geography, level or stage of economic development. There are some exceptions where even observation of these most basic of rights is seriously questionable – North Korea, and some dysfunctional African territories might spring to mind.
In addition to these “god-given” core rights, most societies embody other core rights in their value systems: right of free speech, right of free movement, right to political representation, right to pursue the religion of one’s choice, right to employment, right of association, and in the case of the US, the right to bear arms (and kill people!). Such rights are far from universal, with many societies actively espousing the opposite.
Here we want to focus on that core societal belief in the right to a roof over one’s head – housing. The way in which this basic societal right is expressed has profound impacts on the way in which an economy develops, its financial system, and risks in both.
It is the expression of this basic right that is at the root of the recent global financial crisis.
Governments, almost everywhere have promoted home ownership as the core of housing policy, not just the need to provide shelter. Governments of every political hue have adopted policies designed to make home ownership not just more easily achievable, but socially desirable behaviour.
It is hard to find societies that have not enacted such policies. The motivations for this can be many.
First, encouraging housing construction and ownership is a favourite tool of fiscal policy. The construction industry is often a significant component of GDP, and an industry that is claimed to have high multiplier effects throughout the economy, particularly in employment.
Hence, in this downturn, in countries such as China where the economy is largely export driven, there has been a major policy initiative to compensate for an expected drop in export demand with a cranking up of domestic demand, and encouragement of the domestic construction and housing industry is central to this drive.
Second, promotion of residential construction and homeownership carries substantial social and welfare significance. Many emerging countries suffer greatly inadequate housing stock. There are simply not enough houses to go around, and stock is often obsolete, of very low quality (India/China – come to mind very obviously on this score). Such countries desperately need more and better, in a hurry!
Third, promoting home ownership is very often a political objective and a great vote winner for governments. It is this motivation that probably creates the biggest risks for countries and their financial systems.
The active promotion of home ownership via a whole range of incentives and other devices produces economic distortions just about everywhere in varying degrees.
It is a significant step from viewing provision of housing – the roof over the head – as an “inalienable” right of a nation’s citizens to home ownership as the inalienable right. Many societies seem to have taken that step in their policies, to the extent that one is positively financially disadvantaged for not owning one’s own home.
“Housing is now perceived everywhere as a commodity with an exchange value, rather than as a basic need with a use valued allocated, as of right, outside the marketplace”
– Shlom Angel “Housing Policy Matters – A Global Analysis” Oxford University Press, 2000.
A recent study by Deloitte (Residential Development. The role of government in EU real estate markets. March 2010) examines the kinds of support given to the housing market, and homeownership in Europe. A similar study done in other parts of the world, Including Asia, would likely throw up very similar results.
This study looked at housing support policies in 27 European countries and identifies 5 main forms of support for residential home ownership.
- Exemptions from capital gains tax – 89% of countries.
This is particularly for owner occupied homes and sometimes for properties held for certain periods of time.
- Mortgage interest costs are tax deductible – 62% of countries.
This policy makes housing more affordable for potential home owners, and stimulates development demand.
- VAT exemption or reduced VAT for home buyers – 52% of countries.
VAT is high in many countries, and such exemption can have a big impact in lowering the entry price for home buyers.
- Claim tax loss on rented apartments – 52% of countries.
When someone buys a property to rent out costs such as mortgage, depreciation, management etc may be higher than rental income so a tax loss can be claimed.
- Guarantee funds – 41% of countries.
These can be public or private but generally aim to mitigate or transfer the risks of residential mortgage loans. The intention is to provide an additional degree of confidence to home buyers.
The study identifies other kinds of home ownership support that are adopted in specific areas such as:
- Selective or general support in the form of non-tax subsidies for homebuyers of various types.
- Interest subsidies for housing loans.
- Support to young families, first time buyers.
- Expenses for maintenance of one’s own home are tax deductible.
A stand-out of this study is how 12 of the 27 countries adopt 4 to 5 of these home ownership incentives in one form or other. Most telling is how many of the big, high population countries of core Europe offer the greatest range of incentives – France, Germany, Spain, UK, Portugal, Denmark. The smaller, poorer countries seem to offer fewer home ownership incentives. Is there a cause and effect relationship here?
The very substantial and very widespread provision of incentives to own one’s own home have the potential to create many positive effects in society, but also many less desirable impacts and of course the usual round of unintended consequences.
The global financial crisis had its roots in US housing policies to a very large extent. And while politicians will inevitably argue that housing policies have laudable aims of social justice and welfare, the skeptic in me suggests that motivations are as much as anything political in nature. Home ownership is a political “hot button” for people around the world in just about any regime or political system you can care to name.
My innate skepticism is also reflected in a Staff Report of the US House of Representatives published last year – we should also perhaps not ignore that the report itself has political motivations! The report begins as follows:
“The housing bubble that burst in 2007 and led to a financial crisis can be traced back to federal government intervention in the US housing market intended to help provide homeownership opportunities for more Americans. This intervention began with two government-backed corporations, Fannie Mae and Freddie Mac, which privatized their profits but socialized their risks, creating powerful incentives for them to act recklessly and exposing taxpayers to tremendous losses. Government intervention also created “affordable” but dangerous lending policies which encouraged lower down payments, looser underwriting standards and higher leverage. Finally, government intervention created a nexus of vested interests – politicians, lenders and lobbyists – who profited from the “affordable” housing market and acted to kill reforms.”
– “The Role of Government Affordable Housing Policy in Creating the Global Financial Crisis of 2008” Staff Report, US House of Representatives Committee on Oversight and Government Reform, July 7th, 2009.
This is a pretty damning indictment on a cornerstone of US public policy of two decades, or more. The report provides a pretty clear exposition of events and polices leading up to this sorry state of affairs. Democrats, under the president Bill Clinton, were the major champions of this policy regime, but Republicans under George W Bush did little if anything to prevent the seeds of disaster from sprouting.
Despite the Policy Subsidies, Housing Affordability in Most Societies has Worsened, Not Improved Over the Past Decade.
But in spite of all the subsidies for home ownership around the world, Angel’s study noted above reports:
“Housing has lost its voice. Not because housing needs have been satisfied. They have not: the 1995 housing stock will need to double by 2030 (United Nations, 1998). Not because housing has become more affordable or easier to acquire, either. It has not: in both richer and poorer countries, housing now requires a larger, not smaller, share of family incomes…….”
Affordability Ratios for Most Developed Nations Have Worsened Significantly Since the Mid 1990’s. Rising Price/Rent Ratios Suggest Property Yields Have Fallen Considerably Over a Similar Period.
A casual glance at residential price charts we have presented in earlier newsletters for many societies gives credence to this view. Home prices just about everywhere have gone up very much more sharply than household incomes over the past decade or so.
So it seems that with all the policy initiatives around the world designed to encourage homeownership, the cost of homeownership has gone up, and affordability has worsened. Home ownership policies have apparently had the unintended consequence of making housing LESS accessible in a great many locations, not more so. Policies appear to have produced a pattern of price rises that have broadly worsened affordability, rather than helped it.
Such incentives run a major risk of creating distortions in the markets and the unintended consequences we now see.
Most Asian countries also enact rafts of policies aimed at actively encouraging homeownership. Such policies raise similar concerns of asset bubbles and moral hazard as we have seen in the west. The same crucial linkages exist between property asset markets and the financial system as elsewhere, the major difference in Asia being the lack of complex derivative structures around real estate markets that have grown up elsewhere. However, financial sector exposure to real estate can be relatively high, as much as 40% – 50% of bank assets directly or indirectly exposed to real estate in some markets. And the risks of unintended consequences of housing policy subsidies are very real.
While policies encouraging home ownership in Asia are sometimes similar to those used elsewhere, Asia sometimes has it own homegrown ways of achieving homeownership objectives.
Singapore – Epitome of Paternalism.
Singapore’s housing policy is possibly one of the most paternalistic on the planet. The housing sector is overwhelmingly dominated by the public sector in that more than 80% of units are constructed by the public sector, with about 90% of these units owner occupied, and only about 10% rented. The Singapore government maintains a complex, but well studied, well-crafted housing policy which allows residents to draw down from the Central Provident Fund (CPF – the mandatory pension system in Singapore) to fund acquisition of a home, and even an investment property. The government controls affordability of housing in the public sector by setting prices such that 90% of all households can afford a basic government built apartment. CPF monies are also used to provide financing for housing via finance companies and commercial banks.
While this government dominated system ensures that everyone has “adequate” housing needs met, many might argue that it crowds out the private sector provision, and destines everyone to accept a standard of housing dictated by the government – massive erosion of choice. Because private housing is so limited by virtue of the government’s role, it can be argued that the cost of housing that meets modern demands of quality and choice are made unnecessarily high.
Again, distortions that perhaps were not intended.
Singapore’s housing policy has morphed from something designed to address the market failure in low income housing provision in the 1960’s and 1970’s to a situation now where government dictates practically every aspect of the housing market.
In this regard it is quite unique in the developed world.
China – Housing Driven by Economic Pragmatism More than Social Concerns.
China’s housing policy, given where the country has come from, also has unique characteristics. Housing reform that commenced with a vengeance in the 1990’s aimed to privatize housing provision from a totally state dominated system that prevailed for decades – the very opposite of Singapore’s approach! While one might be tempted to think that social considerations drove this motivation to reform, in fact much of it was very much economic.
First, a matter of cost. The rental paid by workers for government or workplace provided housing at the end of the 1980’s represented a minimal 1% of household income, and this rental represented only about 5% – 6% of the cost of maintaining these properties, which was borne by government or the work unit.
Second, to advance the modernization of the economy and the nation’s industrial base, policy makers recognized the need to separate employment from housing provision – to get housing off the balance sheet of state owned and other enterprises.
Third, policy makers aimed to encourage the development of a housing industry, as an important part of the domestic economy, and encourage households to take responsibility for their own housing provision. This involved enterprises making large one off ex-gratia payments to get workers into home ownership mode quickly. Existing occupiers were offered the opportunity for ownership of housing at below market prices.
Fourth – “to get rich is glorious” – the famous Deng Xiaopeng quote. Home ownership has been tacitly recognized by the leadership as a means of wealth creation, and policy implicitly recognizes it is good to get rich via property ownership!
Fifth, taking a leaf out of the policy books of the west, the Chinese leadership has recognized that even where leaders are not accountable through the ballot box, they still need the public’s support to govern. Policies that encourage housing ownership (and wealth creation via housing) are good politics, and will enhance political legitimacy – so they believe.
Hong Kong – Reactions to Events Rather than Clearly Articulated Policy.
Housing policy in Hong Kong in respect of home ownership seems to have been much more of a reaction to events, than driven by any great grand plan such as Singapore or China. But even in Hong Kong, homeownership is encouraged, but does not receive the systems of subsidies and support that prevail elsewhere. Some minor tax concessions were introduced during the Asian financial crisis, more it seemed as a tool to stem deflation, and help struggling developers than as a policy aimed at encouraging ownership. Its public sector home ownership scheme was a reaction to the fact that private housing was increasingly unaffordable for a significant proportion of households who could also not qualify for subsidized public rental housing.
Homeownership is very definitely viewed as a wealth creation device in Hong Kong, and policies that might negatively impact that wealth receive close scrutiny.
Malaysia, for example, adopted apartheid-like discriminatory measures that dictated developers build a certain proportion of houses within their new projects to be reserved exclusively for sale to Bumiputeras, whether there was demand for such housing or not.
So Where Does all this Government Home Ownership Promotion Leave us as Investors in Asian Stockmarkets?
Taking a purely mercenary point of view, such policies promoting homeownership can be seen to have spawned a great many profitable investment opportunities within the property sector in the region’s stock markets. But at the same time, the region has experienced significant financial market risk driven by the link between housing provision and finance. This link was nowhere better demonstrated than in the Asian financial crisis of the late 1990’s.
Pro homeownership policies were not the main driver of systemic problems in Asia’s financial system in the late 1990’s by any means – certainly nothing like the causal effects of the US markets subprime housing debacle. But there is no doubt that excess credit extension to the real estate sector in many forms was a central feature of the financial meltdown and the sustained period of deflation that followed in many Asian countries.
Similarly, real estate lending and the bubble it produced was a main driver of Japan’s lost decade of the 1990’s. But this cannot be blamed on overt policies promoting homeownership in the ways that US homeownership polices did.
We can distill the following quite simple conclusions surrounding housing and homeownership policies in the region.
- Asia naturally has huge demand for housing reflecting rapid urbanization, population growth, strong economic growth and rising household incomes.
- Mortgage systems supporting home ownership are relatively underdeveloped in many countries and often relatively new. This has been an impediment to widespread homeownership in countries such as Philippines, Indonesia, China, India, and Vietnam. Even in Hong Kong, the ability to get a long term mortgage for homeownership only came available in the depths of the massive 70% downturn in property prices in the 1981 – 1984 period. More widespread standard mortgage systems are improving homeownership levels.
- Irrespective of any policies promoting home ownership, housing is a growth industry in most parts of Asia.
- This has been reflected in the performance of property stocks in most major markets of the region. Over the long term they have tended to outperform the overall market.
- However, property stocks in the region have proven volatile, and are right at the top of the global tree in terms of sector volatility.
- Policies promoting homeownership exist in most countries in the region, but unlike more developed markets, such policies are often tweaked, twisted, pushed and pulled very frequently.
- Such frequent pushing and pulling of homeownership policies has the effect of increasing volatility in the housing market and in the listed property stocks within the region.
- As such, investing in property stocks is often as much about trying to anticipate the twists and turns of housing and financial policy as it is about understanding the underlying fundamentals of the industry.
- Even developed markets such as Singapore frequently “fine tune” housing and homeownership policies in response to price movements, fiscal needs, perceived needs for wealth creation and preservation.
- China’s policies on housing seem to be in an almost permanent state of flux – barely a week goes by without announcements of some policy change or other affecting housing.
- Even in Hong Kong, although policy changes are quite rare, society is constantly debating housing issues in the media and via a range of think tanks and organizations.
Asian Governments and Central Banks are Now Very Wary of Systemic Risk Associated with Property Markets.
Following the US sub prime crisis, and with memories of the Asian financial crisis still quite fresh in policy makers’ minds, governments and central banks in the region are particularly sensitive to the potential systemic risk posed by property markets, and particularly lending to property markets. While it is right to be wary, the potential systemic risks from housing markets in Asia as at this point are probably quite low. For example, loan to deposit ratios in most Asian banking markets are well below 100%, with some in the 60% range. This means that lending is more than covered by bank deposits.
China is the main exception in the region. Massive state directed lending was poured into the property sector in 2009. This may well produce a rise in non-performing loans a couple of years down the track. All major banks are now raising additional capital to boost capital adequacy ratios in light of the recent lending boom.
In Europe, recent research from Barclays suggests that ratio is more like 120%. This means that banks have to rely on interbank markets to fund their loan portfolios. We saw what happened to the financial world in 2008 when suddenly banks were not prepared to lend to each other.
While Asian financial markets would not be immune to such an event the impacts would likely be modest and hardly likely to bring down the regional financial system.
As things stand right now, Asian policy makers have been fighting the exact opposite problem with respect to housing and property markets from those in Europe and North America. The tremendous waves of liquidity that were unleashed into the global economy in 2009 have produced an extremely rapid turnaround in asset prices in the region – prices that fell sharply in many countries in the aftermath of the US subprime crisis.
The recovery in property prices in markets such as China, Hong Kong, Singapore in particular are the sharpest we have ever seen and have ignited fears of asset bubbles in housing around the region. Pro-homeownership policies in many markets have been tempered in recent months in an effort to quell nascent property bubbles and increases in financial sector risk.
Policies of restraint have un-nerved equity markets and property stocks around the region have suffered, with most property sectors underperforming their respective local index.
The charts for the Shanghai Property Stock Index look truly horrible with the index off almost 50% from its Q3, 2009 high. The 50 day moving average is way below the 200 day moving average and shows no sign at this point of any reversal (see Figure 3).
The picture with Japan’s property sector is similar but not quite as extreme, with the index trading well below both moving average lines, and the 50 day line now dipping convincingly below the 200 day line (see Figure 4).
Charts of Property Stocks Don’t Look Very Encouraging
The charts of Hong Kong and Singapore property stocks do not look quite so bad, but for both, the short term trend is more negative than positive. Interestingly the REIT indices for these markets have performed relatively better and still look better from a technical point of view (see Figure 5-8).
Australia’s property sector has held remarkably firm since early Q4, 2009, trading within a tight range. But even here recent trends suggest impending weakness (see Figure 9).
European Crisis/Double Dip Theories May Play Positively to Asian Property Stocks.
Curiously enough, the current wave of risk aversion in global asset markets and the retreat to the relative safety of US government bonds may actually play well to Asia’s property stocks, at least in the short term.
In a very short period of time, the investment world has turned from inflationist to deflationist. The double dip suddenly now seems a much more likely scenario.
From what we are seeing in China, this may well be the case. Although the measures introduced by the authorities in recent months to cool property markets may not actually be rolled back, we are sensing that the implementation of such measures may be delayed, relegated to the back burner as governments and central banks see the prospects of a weaker global economy take hold.
The need to maintain domestic demand drivers of the economy, including construction, may outweigh recently espoused initiatives to reign in the property sector.
China’s property stocks have been in a downtrend now for many months as Government launched waves of policy initiatives to stem what increasingly looked like a property bubble. In the past couple of months those measures have started to work, with transaction volumes down sharply from levels of late 2009, and evidence of price falls in many areas, and developers cutting prices to move inventory. It is far from an across the board downturn in prices so far, but the market has definitely paused for breath.
China property stocks listed in Hong Kong are now trading at deep discounts to Net Asset Value in most cases, with many now trading at single digit forward earnings multiples.
Any move back into the sector is likely to be first directed at the core bellweather stocks such as China Overseas Land, Vanke, China Resources Land, even though these are not the cheapest in the sector by any means.
These comments also apply to Hong Kong and Singapore property stocks, with the likes of Sun Hung Kai Properties, Sino Land and Kerry Properties in Hong Kong, and City Developments and Capital Land in Singapore as likely early stage beneficiaries.
Consequences – Unintended is One Thing, but Unanticipated is Something Very Much more Important.
Readers of our reports over recent months will probably have noted our comments on trying to understand and predict the impacts for our economies and asset markets from events that may be taking place on the other side of the world.
Much talk is made of the impact of “unintended consequences” of policy actions and actions by banks and other major players in the global economy. Unintended consequences implies that someone has at least identified such consequences – intended or not. What is perhaps of more interest is to focus on consequences that we have not identified as yet, as these have the potential to provide biggest surprises, both positive and negative.
Again, our experience in this financial crisis, and that of Asia in the late 1990’s, was the impact of things that were totally un-thought of, but had devastating effects on financial and asset markets, not to mention jobs, livelihoods of millions of people.
The European sovereign debt crisis that has unfolded this year and policy initiatives surrounding it are likely to produce a great many unintended consequences, as well as a great many so far as yet unidentified impacts. It is these latter impacts that have the potential to cause great negative surprises (or perhaps even good!).
For example, amongst the thousands of column inches written and published by analysts, media, pundits and policy makers on the unfolding of the Greek sovereign debt problems, no one as far as I could see actually identified in advance one quite important outcome of this situation. Many folks rightly identified the likely fall of the Euro, and the potential rise of the dollar (in relative terms) as investors fled the uncertainties of Europe for a relatively more stable and predictable US asset market. This sustained fall in the Euro, from a high of US$1.51 on 25TH November 2009 was brought to a sudden halt in the first week of June this year, at a time when a pretty much universal view propounded further falls in the Euro.
An unpredicted action by the Swiss Central Bank (SNB) seemed to be the force that brought the Euro’s fall to a halt. It seems that the Swiss central bank had been buying Euro denominated bonds and selling Swiss Francs in the face of a sharp appreciation of the Swiss currency against the Euro and other Eastern European currencies.
The motivation for this aggressive action appears to stem from a concern about rising risks facing major Swiss banks which have large Franc denominated loans to central and eastern European (CEE) mortgage and commercial markets. For example some 60% of mortgages in Hungary are denominated in Swiss Francs and about 30% of all bank loans. (See Financial Times, June 10th, 2010). Sharply lower local currencies against the Swiss franc and a sharply weaker Euro threaten the ability of borrowers in CEE countries to repay loans to Swiss and other European banks. The Swiss central bank’s motivation was to stem the rise of the Swiss Franc and reduce potential risks of sharp rises in non-performing loans at Swiss and other European banks.
I certainly had not anticipated this action and its impacts, and nothing I was reading at the time suggested such an action was likely.
It was exactly this kind of borrowing that torpedoed banking systems and economies in Asia in the late 1990’s. In that instance a great deal of borrowing in Thailand, Indonesia, Philippines and to some extent Malaysia was in Swiss Francs, US$ and Yen, and like the CEE countries, a great deal of that lending was to the property sector. Sharp falls in local currencies against the majors meant that repayment of offshore loans became impossible. And falls in local property markets just added dramatically to the pain.
Perhaps the Swiss central bankers had learned a lesson from the Asian crisis……
Risks associated with foreign currency borrowings do not appear high in Asia at this point. Although China has attracted huge inflows, both debt and equity, in the past year or two, the currency risk at present seems low given an expectation of a rising Rmb rather than a falling currency. Nevertheless, a reversal of Rmb strength, although unlikely from today’s perspective, could pose very substantial risks to lenders to China, where much of foreign capital has found its way into the China property sector.