Wednesday, 6 August 2008

The ministry of bad ideas

When an unpopular politician confronts an insurmountable difficulty, a dubious rescue plan is sure to follow.

As property prices continue their remorseless slide, Alistair Darling has instructed his Permanent Secretary to come up with some initiatives to save the housing market. Like any good civil servant, he passed the instruction down the food chain to the treasury staff. As expected, they have produced a motley collection of half-baked ideas that Darling will embrace like a drowning man clings to a wooden crate.

The package comprises of four terrible ideas.

Income support for mortgage interest payments for homeowners who lose their jobs

Presumably, the objective of this measure is to prevent repossessions rising as unemployment ravages the economy.

There was a time when unemployed mortgage holders could claim income support. The government abolished it because it was simply too expensive. Since its abolition, mortgage payments as a percent of average wages have skyrocketed. Darling will need the provide the mother of all social security budgets if he attempts to cover 100 percent of mortgage payments of unemployed homeowners.

The government could put a fixed limit on income support, but people who only pay 25 percent of their mortgage payment typically still end up with their homes being repossseed. He could pay 100 percent for a limited period, but that only delays the rise in repossessions. If he makes the scheme permanent, then people will have a strong incentive to stay unemployed.

Suspending stamp duty so buyers only pay the tax after several years in their new home, or perhaps not until they sell the property.

Eliminating a transaction tax like stamp duty will bring overall house prices down a few points. However, prices are falling anyway. So it is hard to justify eliminating this tax on the grounds that it will improve affordability.

It will not increase the number of transactions; that depends on mortgage approvals, and UK banks are running very close to the precipice of insolvency. Stamp duty offers no assistance for that particular difficulty.

Besides, elimination is not what Darling has in mind. He only wants to delay stamp duty, not abolish it. Again, it is difficult to see the point of this idea. Paying stamp duty over several years only delays the pain, it does not eliminate it. In principle, it will have a minimum effect on the price of a house, since sellers will factor in this cost when they sell their homes.

However, tinkering with stamp duty will have serious tax revenue consequences. In recent years, the government has done well out of stamp duty. Today, the fiscal deficit is rising sharply and eliminating this important source of revenue is irresponsible. This, perhaps, explains why Darling is considering a delay rather than abolition. It gives him the opportunity to look as if he is helping when in fact he isn't doing anything at all.

Creating a new, tax-free fund to help first-time buyers raise the deposit they need to get on the housing ladder.

I love this idea. It would quickly turn into a massive tax break for the rich. Wealthy parents could reduce their taxes simply by giving money to their children, who would put it into tax-free first-time buyer deposits.

The government could try to limit this tax free allowance, but that defeats the purpose of the measure, which is for first time buyers to accumulate huge deposits to cover increasingly large deposit requirements from mortgage lenders.

Buy empty properties particularly in city centres, and turn them into social housing

This is a crude speculator bail-out. Everyone knows that those city centre properties are massive over-priced and that it is only a matter of time before prices fall dramatically. In many cities, prices are likely to fall by 50 percent.

If the government piles in now and buys them up, they will give temporary support for the current inflated price levels. When local authorities later try to sell these properties, they will incur huge capital losses.

Renting is not an option. Rental values are far lower than mortgage costs. If local authorities buy these properties, the financing costs will not cover the income generated from renting them out.

In short, this idea can only lead to massive public sector losses.

What should Darling do?

Nothing. By any sensible measure, house prices are massively overvalued. Any attempt to delay or limit the price adjustment underway will only serve to create further problems. The government can try to support the market. For a time, it may even succeed. However, the cost to the taxpayer will be massive.

Darling should not forget that the taxpayer is already down three billion quid on account of Northern Rock. Providing additional social security benefits to home owners; eliminating stamp duty; providing tax breaks for mortgage deposits; and a government buy-out of speculative inner city appartments simply passes the cost of this mess onto taxpayers. That would be unfair, unprincipled, and unforgivable.


Anonymous said...

Good analysis. I agree. The first question to put in all cases is "where will you get the money to pay for it?"

The answer is the government is broke. Therefore these ideas will twist in the wind and rot.


john miller said...

wow great socialist idea - lets all fund the profits of property speculators - Lenin would have approved shurely

JOSH said...

All these ideas rip off taxpayers to protect speculators. It is disgusting.

powerman said...

I can see one case where using the welfare system to help keep somebody in their home might not promote moral hazard.

If housing benefit rules were applied to the interest portion of a mortgage, treating it as if it were rent, in many cases the state would save money over rehousing a family in an equivalent home at market rents.

'Equivalent home' ought to be capped, but for the majority of families living in 2 and 3 bed semis, it would probably be cheaper for the state and less distressing for them. They would also not be having their capital paid off by taxpayers.

Housing benefit for homeowners would be like housing benefit to landords, except you'd be your own very cheap landlord who made no profit and wasn't paying off capital. When only the housing benefit is considered the incentive to get a job to start paying off capital (and if other benefits worked as they should) enjoy increased disposable income would still exist.

amigauser said...

I think you need to look at the big picture :-

The people whose swing votes count in who gets elected, are home owners - this means that any decrease in home prices are felt directly in their pocket book, and no doubt will determine how they vote - remember in the early 90s, the Tories were re-elected with 3 million mass unemployment, but they were not able to be reelected when a huge number of middle class voters had their homes reposed.

its in Gordon brown interest to try reignite the housing market anyway he can,

How long before we have our very own Freddie Mac, to the banks can dump the rubbish on pension fund "investors"

How long before first time buyers get a grant, to "help" with the deposit

The government will try anything to save housing, because saving housing, will then save it.

remember it the housing market stupid :-)

Alice Cook said...

amigauser, I agree that this is the true purpose of this rescue plan. However, I believe that there is nothing that could sustain a recovery of the housing market up to the next election.

Labour is unelectasble.


Anonymous said...

Labour simply doesn't have the money for these hare-brained schemes. It's just empty jaw-boning to look like they are doing something.

Darling has finally figured out he can't tax more and can't borrow more. He doesn't want to spend less, but he certainly can't spend more.

Labour has finally put itself into the financial trap that it always eventually finds itself in. It's fun to watch. That said, I'm keeping my cash liquid and ready to fly out of the country if Brown goes all Chavez on us.


QG said...


I agree that paying income support for a mortgage would be expensive but would like to point out that only the interest, not the principal, was paid in the past and I presume that this would be the intention this time as well. I seem to recall hearing of cases in which benefit recipients were put under pressure to sell their house as well.

"people will have a strong incentive to stay unemployed."

Work shy or not, recipients of mortage benefeits would mostly have no choice, even if interest only is paid, because these payments would be a strong benefits trap.


I can see some truth in your ideas about paying interest but it still strikes me as a bad idea. Rents are still pretty cheap compared with interest only mortgages (if you can get them) in many parts of the country i.e. I'm not so sure that paying mortgage interest is really going to be better for the taxpayer. Also, if inflation kicks off, having the interest paid by the state will be very lucrative for those on long term benefits as the real value of their debts are eroded.

simon said...

Come now, a few right wing mandarins are throwing ideas in the air.

Even Stamp Duty holiday is futile, so as for the above- no chance.

As for Lenin would aprove, "shurely" not..

Nick Drew said...

great clarity, great post

Anonymous said...

What to do?

Nationalise the banks (they are bust anyway, and are being bailed out by the taxpayer).

Nationalise the big builders (they got us into the mess too).

Ban clever derivatives trading.

Compel the banks and building societies to produce much-needed houses for at-cost lets for seven years, hiring surplus labour at 20% above the national minimum wage.

Then sell everything off again.

It would cost the taxpayer less in the end.

B. in C.