In many cities worldwide, the property market is experiencing unprecedented challenges. Prices have risen to such an extent that many buyers are priced out. Sellers have become anchored to these irrational price levels. In the end, fees are not going down. Nevertheless, the prices are not being lowered. This is a common situation in many cities around the world. London, Sydney, Auckland, Mumbai, Toronto, and Shenzhen are prime examples of the property bubble.
All these cities face political pressure from the government to reduce the prices of these houses. Experts in the field agree that the prices reflect supply and demand. High prices are a reflection of an enormous market and meager supply. In most cities, this is different. Prices have increased much faster than fundamentals. If we accept that the leading cause of the price increase is a lack of supply, then the obvious solution would be to build more houses.
The price of a property is based on future expectations.
Property prices aren’t commodity prices. They are, instead, asset prices. They are, therefore, not affected by supply and demand. Property prices are driven primarily by future expectations of value. Investors who believe prices will increase in the future will do so. Property prices are high because the government encouraged and allowed large sums of cash to flow into these markets. The prices of property have risen as a result. It is safe to assume that the price rise was not due to a shortage. The speculative behavior of many buyers was to blame. This unprecedented price rise is due to the easy access to bank credits and private capital that parents pass on to their children. More houses will be needed to solve this problem. Many of these cities need a housing supply, to begin with.
Consider the example of Ireland, a country with a population of about five million. In 2007, Ireland’s government built over 90,000 houses to keep prices affordable. In the same period, prices increased by over 11%, proving that increasing the supply would not solve the issue of rising property prices.
International money flows into local property markets.
The majority of housing bubbles occur in developed countries. This is because developed nations are the preferred investment destination of corrupt politicians and bureaucrats in third-world countries. These cities are the final destination for the ill-gotten profits from these countries. These investors do not expect a return. They want a place to store their money. Many of these houses still need to be occupied. These investors tend to increase the speculative boom by not paying attention to valuations or fundamentals. This is why governments such as Germany impose a tax on those who buy second and third homes. The problem of land costs cannot be solved by simply building more houses. It will be necessary to eliminate the problem of international currency flows and price inflation that they bring.
Borrowing against Land
A significant issue with houses is the willingness of banks to make loans against them. Many investors have mortgaged homes and used the proceeds for further property investments. It is also not uncommon for landlords who earn rental income to borrow money. Many people have used their properties as money machines for a few years. Many investors have been convinced that the value of houses will never decrease. This fuels the speculative boom.
How Should The Problem Be Solved?
Now it is clear that more houses won’t solve the problem. We are left wondering what other steps can be taken. Other steps include:
- Taxes must be used to drive speculators off the market. The punishment for owning more than one home must be severe. The rich must pay a price for buying up real estate.
- Restriction of foreign investments in the local property market is necessary. This can be achieved by introducing a property equivalent to a Tobin Tax.
- Banks that loan money on real estate must be restricted. Laws must be passed to ensure that the proceeds will not be used to make speculative investments.
Manage the Downside
There will be some casualties if you try to engineer a drop in the price of property. People who currently have borrowed large sums of cash to purchase real estate at high prices will suffer. It is, therefore, the government’s responsibility to ensure that property prices don’t suddenly plummet. The fall should be gradual and not cause panic among investors.