The 2019 Election and Housing

I've got a long political history, and an active interest in economics. While I am a member of the Conservative Party, and am of a small-c conservative philosophical perspective, I like to think of myself as the least partisan partisan possible. It is in that light that I write this article.

First I address the issues, and at the end I analyze the parties' election positions.

The housing problem

Canada doesn't have a housing problem. The Greater Vancouver Region (GVR) and Greater Toronto Area (GTA) have a housing problem.

Maybe.

Some people say the problem is "affordable housing". But this is such an amorphous term that I can't even figure out what it means.

Some say it means that low-income people can't find housing they can afford. "Afford" has been commonly defined as spending less than 30% of your pre-tax income on housing.

But why is 30% an appropriate benchmark? Suppose you live in a small town. You make $4,000 per month.You spend $1,000 per month on rent and utilities (25%).

You get a job offer to work in Vancouver, where you will make $7,500 per month. Your rent will go up to $2,500 per month (33% of your income), but you're still well ahead of the game (yes, taxes get in the way here, but trust me, you're still ahead). This is the kind of economics that most people face, which is why over time, we've seen much of the world migrate from the country and small towns to big cities.

ECO 101

It's really quite simple. In economic terms, housing is a "normal good". That means people will buy more if it is cheaper, and less if it is more expensive. On the other hand, vendors will provide more if it is more expensive, and less if it is cheaper.

When people move into a city, the greater demand forces up housing prices. That is what has been happening for many decades in GVR and GTA. People are immigrating from around the world to Canada, and huge proportions of them come to Vancouver and Toronto.

So far, this is not super complicated.

What about poor people?

The above example of "moving to the city" is typical for middle-income people, but what about people in the city who don't earn much money?

The classical economic answer is: They need to live in smaller (cheaper) homes, move further out (increasing their travel time, which is less valuable than other people's), or move out of the city altogether. In fact, some parts of Canada have branded themselves as attractive to retirees precisely for this reason. The economic attraction equation described above doesn't apply to them, so it makes sense to move.

That is not a good political answer, though. It sounds, well, harsh.

The saying goes "the person who cleans your toilet needs to live close enough to get to your toilet". Yes, my conservative friends, wages would adjust automatically to do this (again, that supply-demand thing), but that is too indirect to be satisfactory from a political perspective. People don't believe Adam Smith's "invisible hand" is a real thing, despite centuries of evidence.

Housing subsidies

So we have housing subsidies. These come in so many forms: Direct subsidies to tenants, government-owned housing, home ownership tax plans, a credit for purchasing... you name it.

Recently, the government introduced a First-time Homebuyer's incentive. The government will essentially go in as a partner with you to buy your first home.

But yet they don't work.

Why don't they work? First, try to define "work" - it's like defining "fair".

But even if you defined "work" as in "make housing more affordable for more people", these programs literally cannot work.

Back to Economics 101. If you provide people with a subsidy that is usable only for housing, that will simply push the demand curve "up". Basically, you increase the demand for housing for everyone who gets the subsidy. That increases the price. The benefit gets largely captured by the people who already own housing (like landlords, because most poor people rent).

I don't want to overstate the case. Some of the benefit of a subsidy goes to the individuals who need housing. It depends on how individuals and developers react to the increased demand. This is referred to in economics as the "elasticity" of the supply and demand curves

Rent control

Don't get me started about rent control. It is a perfect political policy. There are lots of tenants (who vote). There are very few landlords. Rent control can be targeted to a type of dwelling, or a rental range, or a specific area.

Best of all, it doesn't cost the government anything. As a politician, you don't have to raise taxes or borrow. Yes, there's a cost to administer the system, but that's not huge.

But rent control is the worst possible policy. It hurts the exact people it's meant to help. It provides a huge benefit for the people who have tenure at the time it is imposed, at the expense of not just landlords, but of everyone who might want to move into rental housing at a subsequent time. That includes people who are renting at the beginning, but want different accommodation later (like when they have a family, or kids move out, or their job changes, etc.).

I'm not saying this just because I like the free market. Assar Lindbeck, a Swedish (and socialist) economist who chaired the Nobel prize committee for many years, once reportedly declared that rent control is “the best way to destroy a city, other than bombing.”

Taxes (it's complicated)

Governments don't only give - they take, too. As you probably guessed, governments have a voracious appetite for revenues. Direct taxes incur voters' wrath. So hiding things helps.

Cities have significantly increased "development charges". When a developer puts up a home, cities often charge tens of thousands of dollars merely for the right to do so. These charges now account for 22% of the cost of many developments. These charges rarely apply to single-family homes (because that would be visible), but they are almost universal for multi-unit projects (where they are buried into the sale price). So guess who gets hit hardest by these? Condo owners, and of course, tenants. A lot of lower-income people. Sigh.

And what about rich people?

Rich people? Why do they matter?

Oh boy, if you asked this question, you haven't been paying attention. Rich people always matter. That is the way of the world.

It offends some rich people to see other rich people living better. When you live in a million-dollar home (okay, it's Vancouver, so let's try $2 million), and you see someone's $4 million dollar home empty, because it's their second, or third home, you get jealous.

Oh, yeah. In Vancouver, when you own a $2M home, you think "I'm not rich". Compared to just about every one else in the world (and even in Canada), yes you are.

So what do you do about it? You get the government to step in, of course.

First, you get the government to impose a tax on those nasty foreigners, who are buying up "our" real estate. You call it a "speculation" tax, because that conjures up images of Rich Uncle Pennybags (the Monopoly guy).

Then you get them to impose a tax on wasteful people (again, probably foreigners) who commit the evil of owning homes that are mostly unoccupied.

These taxes don't bring in much money. They're not designed to. They are designed to stop foreigners from buying "our" property (yes, I realize the inherent contradiction).

Now, if a subsidy increases prices, wouldn't an extra tax decrease prices? Now you're getting it. Yes! This plan should work at the margin. By increasing prices for foreigners, it effectively shuts them out of the market. It lowers demand. And it has had a price impact in both Vancouver and Toronto.

It's important to remember that there isn't one real estate market - there are many. People who rent for $1,500 or $2,500 per month are rarely the same people who consider buying $1-2 million dollar properties, and the $3M and up range is separate yet again. Foreigners are in the latter groups. So the price impact of the speculation taxes is almost irrelevant to low-income earners.

Mortgage insurance

Buyers who have less than 20% as a down payment can't generally get bank financing without mortgage insurance. Most insurance is underwritten by the Canada Mortgage and Housing Corporation (CMHC), which is a crown corporation. While it does charge a fee for insurance, if the market goes bad, it's the government that's on the hook. This is a form of subsidy (but because there are no other major players, there is no real price competition, and we can't tell how much of a subsidy).

This benefit goes mostly to upper income people (because they're buyers, not renters, remember)?

Stress test

With the consistent increase in housing prices and low interest rates, people are tempted to buy more housing than they can afford. But if interest rates were to rise, many people might not be able to afford their payments. They would default on their mortgages, and that would set off a vicious cycle in dropping home prices. That would cause CMHC to pay out lots and lots of money, which means the government, which means taxes. Bad, bad and bad.

So to forestall this, the government imposed a "stress test". To get a mortgage, your income has to be high enough to cover a hypothetical interest rate of the greater of the Bank of Canada 5-year rate (around 5% now) and your actual rate plus 2%. So all of a sudden, the amount you can borrow has dropped.

But at what cost?

The speculation taxes apply pretty much only to single-family dwellings. The governments didn't want to shut out foreign investment in the rental industry (and probably couldn't do so anyway, as it would be easy to design a financial instrument do get around any restriction on direct investment).

It is common for wealthy people to have second (or third, or fourth) homes. People who buy these things spend time in Canada, and when they're here, creating jobs for Canadians. And while their overall demand does increase prices, the homes they buy don't take homes away from Canadians - they are in addition to homes Canadians would buy. They create jobs in the construction industry. In some places (think parts of Florida and Arizona), this is the biggest part of the economy. It's not a zero-sum game. We don't win by shutting these people out.

The thing is, the people who lose out by limiting the housing market are not visible. Even they mostly don't know it - how can you tell if you didn't get that next plumbing job because the condo was not being built?

The bottom line

Economists tell you it's a bad idea to try to inhale and exhale at the same time. It creates distortions in the market, which make everyone poorer. Yet we have all these subsidies, and a bunch of taxes and restrictions. It's a mess.

This is a non-partisan message. All parties have implemented programs like these at every level of government.

Government intervention in the housing market doesn't help. It hurts.

The parties' platforms

Liberal

The Liberal party proposes to extend the speculation tax across Canada. Huh? Why? Even BC and Ontario didn't apply it province-wide. There's no need for it. Think of the impact on tourism-dependent areas like Muskoka. Are we protecting expensive lakefront for low-income Torontonians?

Verdict: Dumb.

Next, it proposes to increase the threshold for the shared mortgage option. Originally it couldn't be used for anything costing over $500K. This essentially excluded Toronto and Vancouver, except for the smallest condos. Now they're proposing to increase the threshold to $800K. Why? Because they want the vote of youngish urbanites. But as with all subsidies, this will just pour money into the hands of condo developers; the buyers will see relatively little of the incentive (back to that elasticity question).

Verdict: Pretty dumb, but not quite so much.

It will impose a vacant property tax nationally, like the one Vancouver has. It will only apply to foreigners (again, those evil foreigners).

Verdict: Dumb.

It will build housing specifically for Indigenous communities and veterans. This will actually help. These people mostly live in places where the new housing will not push up the price of other nearby housing, as land is not scarce (especially on reserves). I assume (hope?) they're not building the veterans' homes in the middle of major cities.

Verdict: Smart. Will accomplish the goal.

Conservative

They would ease regulations to get new homes built. That is probably not on. The vast majority of regulations that increase cost are provincial or municipal in nature.

Verdict: Hot air. Not possible.

They would raise amortization limits to 30 years for CMHC-backed mortgages. Most people are sensitive to how large their mortgage payment must be, and so are banks when they are lending. This would make more money available for purchase across the board, and would drive up housing prices. Little or no benefit to people who currently don't own homes.

Verdict: Dumb.

They would review the mortgage “stress test” for first-time buyers. Presumably, this means reducing the "qualifying" interest rate, and thereby allowing people to borrow more money. This policy would create more risk for CMHC in case of a market correction (a euphemism for "drop"). If mortgage insurance were private, I would see no need for a stress test. But since the government is on the hook, this is a necessary evil. On the other hand, there are educated opinions that say the current test is overly strict and should be modified.

Verdict: Okay, to be seen.

They would implement a 20 per cent green homes tax credit for up to $20,000 spent over two years to pay for energy-saving renovations. If we're going to encourage energy use reduction, I'm a fan of a carbon tax. It lets people decide what is the most effective and efficient approach. It's better than individual regulations across the board. This was the traditional conservative approach. But since the Liberals own the carbon tax idea, the Tories have to oppose it. Instead, you get targeted programs like these. The cost of adminstration alone is going to be high.

The one plus that nobody mentions is that a lot of home renovations are done "under the table" - i.e. "cash, no tax". A program like this requires the homeowner to get a receipt from the renovator. The tax on the renovator is a real number. We've had a program like this before, and I know from CRA people that it actually worked.

Verdict: Not as dumb as you would think.

New Democratic Party

They want to build 500,000 affordable housing units over 10 years. Presumably most of these would be in densely-populated areas. This is a rent control with government ownership approach. It has worked extremely badly everywhere it has been tried. Just look at the backlog of repairs needed by Toronto Community Housing.

With private housing, the landlord has an incentive not to let the building fall into disrepair. The problem is that subsidized housing is a cost centre, financed by (unsubsidized) taxpayers.

Verdict: As bad as you can get.

In the meantime they propose a rental subsidy. Simple: Give low-income people money to rent with.

Verdict: A much better solution. It would still distort the market, but give low-income people more of the benefit. The program would be still better if there were no requirement to use it on housing. That would reduce the administration costs, and yield a more effective use of funds. Some people need more food, some need more shelter. Some need more clothing, or drugs. Let them decide.

They want to scrap the federal GST/HST for those constructing new affordable units. There are two problems here. One is corrupting the GST system. The more exceptions to the basic structure, the harder it is to maintain. One of the benefits of our system is that it is among the purest Value Added Taxes in the world. That makes it (relatively) easy to administer. Think of the "5 muffins bad, 6 muffins good" problem, and multiply that.

The party would reintroduce 30-year terms for mortgages insured by the CMHC for first-time buyers and give low-interest loans to retrofit houses. It proposes a 15 per cent surtax on foreign buyers. (These are discussed above)

I have not addressed the proposals of the smaller parties, because they are, well, too small to matter here. They're not forming government.

Conclusion

All parties propose to interfere in the housing market in ways which will primarily make the situation worse over the long term.

The only proposals that actually makes sense are building housing in Indigenous communities and for veterans and housing subsidies for low-income people. That will actually help the people it's intended to, without too badly affecting everyone else (except for the tax cost - but that's a tradeoff people can make in a transparent manner.

Are you surprised I only like the (or at least one) NDP and Liberal proposals? You shouldn't be. Everybody else is using this topic to virtue-signal. Madly rushing off in all directions. Housing is primarily a provincial responsibility. Federal politicians can't really do much about it. Use a scalpel, not a sledgehammer.