I am baffled by the Labour Party proposal to ban foreign speculators
from owning houses in New Zealand. O.K. that is not strictly true; as Matt over
at TVHE notes, the policy is easy to understand as a cynical appeal to xenophobic
New Zealand First voters. But David Shearer is a better person than that, and
so I would prefer to remain baffled and try to think through the logic of the
proposal.
Consider a very simple model of the New Zealand housing market in which
there is a fixed supply of identical houses that will not change over time, and
an unchanging demand. Let there be no on-going maintenance or other costs to
owning a house, just the one-off capital costs. Finally, let there be a risk-free
interest rate of 5%, let demanders be risk-neutral and indifferent between
renting and owning for a given cost, and let rental income to a landlord be
exempt from tax so that there is no tax advantage to owner-occupied housing. In
this world, there would be an unchanging equilibrium rental price for housing
over time, and an unchanging price of houses that would be equal to this rental
price times 20.
Now change the model a bit. Imagine that demand in one year’s time will
double and then stay constant from then on, but that will not be known in the
one year before the change. In this world, the equilibrium rental price and the
equilibrium house price will both double in one year’s time and current owners
of houses (both owner occupiers and landlords) will receive a one-off capital
gain at that time.
Now make one more change. Imagine that the future increase in demand becomes known now, but for some reason only known only to people who are not citizens or permanent residents
of New Zealand or Australia. In this version of the model, the rental rate
would continue to remain constant for a year before doubling, but foreigners would bid up
the price of houses now to the point where the capital gain between now and in
one-year’s time was sufficient to exactly offset the fact that current rentals
are insufficient to cover the capital cost of the house.
Now compare this model to the one where the demand increase was a surprise to everyone. Renters pay exactly the same amount of rent in each period, owner
occupiers receive exactly the same capital gain, but can realise it's present value straight
away. Foreign speculators receive only the market rate of return on their
investments, just like any other inflow of capital that allows New Zealand to
fund investment in excess of its saving. The only distributional effect would
be a shift in the capital gain from those who would have bought houses during the
year before the demand increase to those who would have sold, but there seems
no particular reason for policy to favour one of these groups over the other.
In this world, it is hard to see what possible benefit there would be to
a policy of banning overseas speculators from owning houses, which is what
Labour are proposing. Of course, the assumptions in these three models are
extremely unrealistic. So what changes to the model or what
welfare function can make sense of this policy? We could relax all the
assumptions about indifference between renting and owning, risk neutrality, homogeneity
of the housing stock, no tax advantage to owner-occupancy, and no other changes
over time, but it wouldn’t change the basic intuition. We could assume that
supply is not perfectly elastic, but that would imply that the earlier rise in
price from speculation would generate an earlier supply response and hence more
housing affordability. And we could assume that, maybe, New Zealanders and
Australians know at least as much about the New Zealand housing market as
non-Australasians and so can bid up the price of housing without overseas help, in which case banning foreign speculators would have no
effect at all.
It is easier to make sense of other parts of Labour’s housing policy. Building 100,000
houses would obviously reduce prices if it added to rather than displaced
construction that would otherwise occur, although the policy is silent on how it
would find the land on which to build the houses given council zoning
restrictions. Similarly, a capital gains tax that excluded the family home,
while doing nothing to change supply and demand, would be a way to reduce
prices to owner occupiers while increasing prices to renters. Such a policy proposal
wouldn’t make much sense from a party representing lower-income households (who
are more likely to be renters), but it is perfectly consistent with a party
that proposed exempting fresh fruit and vegetables from the GST.
But Labour’s Press release focuses mostly on speculation. The point
needs emphasising: speculation that pushes up prices is only profitable if
those prices were going to increase anyway for non-speculative reasons.
Preventing speculation (if it were possible to do so) only delays the eventual
price rise. Doing something about the future price increases by addressing
supply constraints would not only be a long-term solution, it would remove the
incentive for speculation at the same time. In other words, any politicians
whose housing policy consists mainly of an attack on speculation is essentially
conceding that they have no long-term solutions at all.
