Thursday, March 09, 2017

Shared equity: The 'socialist' fix for housing

Anyone would think Victoria had single-handedly reignited the housing crisis.

The critics leapt on the weekend announcement of a (small) pilot program in which the government would take an equity share in private homes, saying it would "drive up prices" and force homeowners to borrow from both a bank and the government.

Yet if it's such a bad idea (socialist, even) why was it first proposed by the Liberal Party-aligned Menzies Research Centre, why did Prime Minister John Howard commend it to his home ownership task force, why have both Malcolm Turnbull and Scott Morrison championed it, and why was Tony Abbott an early adopter?

It helps to get some history, from the Menzies Research Centre's 2003 report to Howard.

Private home ownership is relatively new. Up until the late 19th century most families rented from wealthy landlords. They had no hope of buying in their own right and there was no mortgage finance for people like them. Complaints got them evicted. In the United Kingdom, and Australia, it was fertile ground for the Communist movement.

Some countries, such as Sweden, responded by expanding public housing. Australia (and the UK) went in a different direction. They directed their state banks to offer affordable mortgages to ordinary workers. The federal government chipped in with grants to help cover deposits and also instructed the Commonwealth Bank (then part of the Reserve Bank) to lend to homebuyers itself and make sure the private banks did. By the time Robert Menzies stepped down as prime minister in 1966 Australia was said to be the biggest home-owning nation in the world.

Critics at the time might have said that empowering ordinary workers to buy houses pushed up prices, and it probably did.

It's the same with the next revolution, from the mid-1990s. Securitisation allowed non-bank lenders to offer much cheaper loans using funds predominantly sourced from overseas. It made home-owning easier once again, and probably also helped push up prices.

After each revolution we've come to think of where we have landed as normal, but, from a financial perspective, there's nothing normal about the way we fund houses.

"Imagine you are a young doctor who flies frequently," the report to Howard asked. "You wish to do two seemingly straightforward things: first, consume standard flight services; and second, allocate some fraction of your wealth to a collection of related companies. You also consider yourself to be a fairly canny customer, and prefer not to put all your eggs in one basket."

If you had to make the same choice we have to make for housing, you would have to either put most of your wealth into an airline (actually, into one particular plane) or none at all. And you'd have to borrow to do it.

Like the frequent flyer, would-be homeowners face an unusual all-or-nothing constraint. The sensible advice is to spread their investments over a range of assets. Instead they're forced to put more than everything they own into one particular house in one particular location, or nothing at all.

We allow them to insure against their house burning down, but we don't allow them to use diversification to insure against what happens to its price.

Meanwhile super funds can't get access to a class of assets worth three trillion dollars. It's impractical for them to buy a portion of a range of houses in a range of suburbs. Yet at times houses perform better than the assets in which they can invest, and more importantly, they perform differently. In the language of the professionals, their price is "uncorrelated" with other prices, which makes them valuable.

The report to Howard, endorsed by Turnbull as the chairman of the Menzies Research Centre, recommended that institutions be encouraged to enter into silent partnerships with homebuyers where they would own, say, 20 per cent of a property and allow the homebuyer to live in it rent-free in return for, say, 40 per cent of any increase in price when it was eventually sold. They could bundle the contracts and sell them to super funds.

"Homeowners will benefit from a lower cost of home ownership, and institutions will be able to access an enormous, and uncorrelated, asset class," Turnbull wrote.

The then-treasurer Peter Costello couldn't see the point, so the author of the report, Christopher Joye, went out on his own in partnership with the Adelaide Bank and started offering what they called equity finance mortgages. Tony Abbott was one of their early customers. In opposition Scott Morrison championed the idea as shadow minister for housing.

Now Morrison and Turnbull are drawing up a budget with access to housing as its centrepiece. If they make it a Commonwealth scheme, the Commonwealth could hang on to the equity in each house for only a short time before on-selling it. It would signal that the scheme's legit.

Like each of the revolutions before it, it runs the risk of pushing up prices, although only to the extent that it makes housing more attainable. But it would get people into housing and break the historically unusual and unhealthy nexus between investment and roofs over our heads.

In The Age and Sydney Morning Herald