Tax me, please

People hate taxes. But they are necessary, and some are better than others.

Henry George’s arguments in his 1879 book Progress and Poverty are that all benefits from progress accumulate to land owners. He proposed a single tax on land because the value of the unimproved land is unearned, neither the land’s value nor a tax on the land’s value can affect productive behavior. If land were taxed more heavily, the quantity available would not decline, as with other goods; nor would demand decline because of land’s productive uses.

I agree. A land tax is by far the least bad tax. Milton Friedman even agreed – “In my opinion, the least bad tax is the property tax on the unimproved value of land, the Henry George argument of many, many years ago.”

There are many reasons to prefer land taxes.

Fuel efficiency insights

I watched a Top Gear episode where Jeremy Clarkson raced a Toyota Prius and a BMW M3 around their test track for 10 laps. It wasn’t a race really. The BMW only had to follow the Prius as it drove the tack as fast as possible.

And what happened? The Prius, with its 1.3L engine used more fuel than the M3 with its 4L V8!

To make matters worse for the pro-hybrid lobby, Clarkson also drove a 1.7 tonne V8 Jaguar XJ6 from Basel in Switzerland to Blackpool in the UK on one tank of fuel – a similar result to the little VW Polo.

So what is going on here with fuel efficiency?

Australia, meet Dubai

The property market is Dubai is crashing and burning as we speak.  It was inevitable of course, but never underestimate the perseverance of a property boom.

On that note I want to talk about the future here in Australia.  In 2010 and beyond I foresee the following sequence of events.

1. Rate hikes of another 0.5%
2. Property prices will flatten and fall in some areas
3. The government will run out of ways to keep housing demand propped up – we had more cash injections and foreign buyers (although as yet I can’t imagine what else may be dreamt up).
4.  Inflation will be a major concern again – the USD will recover and the fuel price here will head up.
5.  September 2010 will lead to another correction on the share market, taking the ASX200 down below 4000 again.
6.  But then a strong rebound in November up to 4400
7.  House price will stabilise at 10% below their peak (in nominal terms) but real growth in house prices will not occur until 2015.
8.  A Current Affair and Today Tonight will has specials about house prices crashing in certain areas and people being forced out of their homes by mortgagees.
9.  Even while this is happening, people will continue to shout and scream about a housing shortage and argue for reduced taxes on developers (even though we have the world's biggest houses)
10.  The 2011 census data will show that demolition rates were less than expected and that the total number of dwellings in Australia is higher than expected (the remarks by the RBA’s Ric Battellino seemed a bit pushy on the supply constraint issue).

It’s not a catastrophic forecast, but it seems reasonable to me. Anything I've missed?

Why all this property market discussion from an ‘environmentalist’?

I have been thinking of changing the title of this blog—mostly because the term environmentalist is associated with fairly extreme views on the protection of ‘natural’ environments and other species, and partly because I also have a keen interest in the property market.

But in my mind, understanding property is the key to a reasoned approach to preserving our quality of life by preserving environmental amenity. Maybe I am more of a ‘quality of life’ economist who believes there are many non-market goods, including the quality of, and accessibility of, natural environments, and that these are major contributors to our well-being.

However the increasing fanaticism I have observed in some areas of the climate change movement, the lack of ability for some environmentalists to see the forest for the trees (pun intended) has led me to distance myself from some of the core environmentalist views.

Take the topic of the moment, climate change. Why don’t we hear about\

• Any potential benefits of climate change (crop yields, new land use opportunities, etc)
• The statistical reality behind some of the conclusions (high uncertainties)
• Other important environmental issues that are cheap to address and provide immediate direct benefits

I feel like climate change is crowding out other local environmental concerns that will immediately contribute to quality of life of Australians.

In my mind, a quality combination of land use and environmental controls in our cities and towns can contribute far more to the well-being of society than other popular environmental issues.

So what then of the blog title? Any ideas? Or does the economist part imply a rational approach?

Is road congestion the best allocation mechanism?

Congestion is a darling topic of politics and the media, and a topic of many conversations around the barbeque. But what is it? Is it a bad thing? Do we want more of it or less of it?

I define congestion as a condition of a network (of roads or other conduits) whereby the existence of extra users slows the rate of progress of all other vehicles. Given this definition, there can be a little congestion, where progress of road users is slowed a little, or plenty of congestion, where progress is greatly slowed.

Real Estate Review

My colleague is looking for a real estate agent to manage her house after downsizing to an apartment, choosing to keep the house as an investment.

She is facing a conundrum I have faced before. How does one go about comparing the performance of property managers before committing to a management contract?

Can the market for property management services be competitive without reasonable access to information?

Are Chinese buyers affecting house prices?

Respected economist Alan Wood notes here why he believes small increases in foreign investment in the Australian real estate market will not have a tangible impact on home prices.

While it is nice to have a little calm to a situation that is sure to encourage exaggerated media spin, I’m not sure whether Wood’s claim holds - that because Chinese investors are a small percentage of buyers there will be little to no impact on prices. If we make one assumption, that Chinese buyers are willing to pay more than local and other foreign buyers, then his claim completely breaks down.

The following stories might help explain why.

Some empirical support for land economics

There has been a paper recently published by Andrew Leigh, Economics Professor at ANU, which empirically estimates the impact of stamp duties on the housing market. I found out about this paper through Chris Joye’s blog at Business Spectator, although I regularly read the Core Economics blog, where it was also linked with some added thoughts from Andrew. I mention this only because I have now been involved with discussions about the paper at these sites.

I need to quickly summarise Leigh’s findings before moving on to the important theoretical and political implications.

His main finding is that if stamp duties are raised, house prices will fall by more than in the increase in the tax. Did you get that? If you increase stamp duty, the total price of housing (price plus stamp duty) will fall. Sellers suffer, buyers benefit. It’s a classic land tax - there is no deadweight loss, as shown in the figure below.




How can such a thing occur? For any other product, assuming a competitive market, if you add costs to production, prices will have to go up (even if quantity sold goes down), or margins will go down (temporarily at least).

Land, however, has some characteristics that make it quite different from other goods

1. There is a fixed supply (vertical supply curve), and
2. It is costless to produce (the producer surplus starts at a price of zero)

Some would argue that land available to be developed is not in fixed supply, and that town planning regulations can change that supply. I agree. But these are regulations, they are not market players, and that does not make the supply of land price elastic (although I would suggest the supply curve for serviced residential lots above the intersection with demand is quite elastic as land parcels are brought to market). I think both sides would agree that from a theoretical standpoint, the supply curve is vertical below the intersection with the demand curve.

It is the second point that is far more important to understanding the land market. Land itself is costless to produce. That means that the level of demand determines the price of land at any point in time. Not supply, demand. So when you increase a tax on land the total land and tax price stays constant, but the underlying value of the land declines (as shown by the reduced producer surplus in the figure above).

I have been quite baffled by the success of Christopher Joye’s argument that the supply of housing is a major factor in determining prices. He maintains two contradictory positions. The first is that we have a land price boom, not a house price boom. The second is that we should elastify the supply of housing to avoid further unnecessary price increases. Hang on chap. We don’t have a problem supplying housing. Our problem is that we all decided to pay ridiculously high prices for land.

There are two more characteristics to the land market that make analysis difficult. There is competitive behaviour in the market for buying land, both development sites and serviced land parcels, but not a competitive market for the sale of land.

Once a serviced land parcel is developed, there is no price competitiveness exhibited when selling to the final consumer market. The problem with land is that if prices fall, they can gather momentum as people sell to avoid further falls. Also, if developers seek to undercut the market price, it reduces the value of all their other land holdings. There is no incentive to release below market prices.

I also believe Leigh’s findings shed some light on my argument that changes to town planning rules, including increases in height limits and allowable building area, does nothing to affect home prices. Any site with increased development potential will fetch a higher price, and the resulting dwellings will be released at the market price.

While Leigh’s paper is just one simple analysis of stamp duty rates and house prices, the theoretically sound finding should put to rest some of the illogical arguments of the supply side warriors, and the property development lobby in general.

In Japan you can glimpse the future

When I first visited Japan in 2004 I saw the future - trains, gadgets, vending machines - but most importantly, I saw some amazing toilets. Even now, when I have a conversation with people returning from Japan they always comment about toilets. If you’ve visited Japan you would know why – they range from traditional squatters, to high tech digital robots. The most best of them all will greet you, automatically lift the lid, warm your seat, wash and dry your backside, play your favourite music, and flush automatically.

Back in 2004 I saw one particular style that was simple and profoundly efficient, where the cistern was filled via a basin so that you could wash your hands with clean water, and then use that same water to flush the toilet.

At the time I saw a market for such a design in Australia. I visited Japanese kitchen and bathroom stores to see the price range for these types of toilets, and investigated possible shipping costs. Alas, I became distracted and never followed through with this idea.

Now it seems that popular toilet maker Caroma is making these very toilets in Australia and the US. Only 25 years after their invention in Japan.

For anyone who likes the idea but is not interested in buying a new toilet, you can get a step by step guide to retrofitting your own throne to have this functionality here.

As an economist I wonder why it took the market so long to adopt this simple innovation in our water starved nation.  Was everyone simply as bad as I am at following through their ideas?  Was there a stigma in Australia about washing your hands with 'toilet water'?  Now that it is available here in Australia, will it even catch on?

Unthinkable

I read a book that opened my mind recently. It is probably not on the best seller lists (is #53,525 rank in Amazon a best seller?). It is called The Unthinkable: Who survives when disaster strikes – and why.

This book examines the human response to fear in crisis situations and is presented in a very easy to read, non-scientific, yet analytical way.