The Housing Ladder's Broken Promise
Housing can be affordable, or an investment, but not both.
Last week, President Trump gave a speech at the World Economic Forum in Davos, where he said housing affordability stands in direct opposition to preserving the property values of existing homeowners (emphasis mine):
I am very protective of people that already own a house, of which we have millions and millions and millions. And because we have had such a good run, the house values have gone up tremendously. And these people have become wealthy. They weren’t wealthy, they’ve become wealthy because of their house. And every time you make it more and more and more affordable for somebody to buy a house cheaply, you're actually hurting the value of those houses, obviously, because the one thing works in tandem with the other. And I don't want to do anything that's going to hurt the value of people that own a house, who, for the first time in their lives, are walking around the streets of whatever city they're in, very proud that their house is worth $500-600-700,000.
Trump openly admits a fundamental contradiction at the heart of the standard model of American middle class prosperity for the last century: everyone should be able to afford to own a home, but also that home should be a great investment that keeps increasing in price forever. This is the so-called “housing ladder,” which young working families are increasingly unable to climb, precisely because housing has become an investment, and therefore unaffordable.
The “housing ladder,” as I define it here, means this:
The path to prosperity is to buy a home
That home should retain its value and appreciate over time
That home should be your single biggest investment
This should be the plan for everybody
Stated this way, the plan is simply impossible. Some people must always be excluded from it, and it can only be sustained under certain conditions. The only reason it worked for most of the the twentieth century was due to rapid economic growth and the invention of the automobile, as we covered in a previous article:
To quickly summarize: at the end of the 19th century, America had a massive housing affordability problem. However, we sprawled our way out of it over the last hundred years by simply building massive amounts of suburban homes, which were newly accessible by car for the first time. This let people earn high incomes from good jobs in the cities, but still live far away where land was cheap. Then, increasing populations and economic growth steadily increased the value of their homes. Unfortunately, this is a trick that only works once—we’ve reached the limits of that frontier (that is, the value of suburban housing is now fully priced in) and there’s no next frontier in sight.
This leaves us in a pickle—housing prices must come down if young working families are to afford them, but older generations who played by the rules in good faith would get wrecked financially if their home values decline. We’ve accidentally trapped ourselves in a nasty zero-sum game that pits not just classes, but generations, against one another.
Some say that though the current system is in many ways unfair, it would be even more unfair to do anything to unwind it now, and we should simply do nothing and let the status quo play itself out. Unfortunately, in that situation the housing ladder’s fundamental contradictions will reach their natural conclusion in an uncontrolled manner, risking disaster for everybody, young and old alike. It’d be much better to come up with a sensible and pragmatic off-ramp while we still can, that ultimately leads us to shared prosperity for everyone, not just those who got lucky.
Let’s begin with a proper understanding of the forces behind rising property values.
What Makes Housing Go Up
The market value of a house is the highest amount someone is willing to pay. For my house to be “worth,” say, $350,000, I must be able to list it for that price and quickly find a willing buyer. If I list it for a half million dollars instead and get no offers, that doesn’t mean nobody’s willing to “pay what it’s worth,” or that “buyers aren’t motivated”—it simply means I’m deluded.
A home’s value is not abstract, it’s not some number on a piece of paper, it’s an economic force generated directly by actual buyers and sellers. For my home’s value to go up every year, an actual person must offer to pay that price in the future. That “someone” must:
Exist
Have the money
Want the house
Have to compete for it
Crucially, all four conditions must hold:
People who don’t exist can’t bid on housing.
I must therefore hope the local population keeps growing or at least doesn’t decline.People who don’t have the money are physically unable to pay the asking price, even if they wanted to.
I must therefore hope the economy keeps making people richer, or at least keeps granting them access to sufficient credit.People who don’t want the house might have enough money to pay me, but don’t want what I’m selling.
I must therefore hope that my house stays attractive, which means my house’s three most important features—location, location, location—must have all the things people want: good jobs, good schools, good amenities, public services, low crime, clean streets, etc.Finally, people who have both money and motivation still won’t actually pay their maximum offer unless they have to outbid other buyers.
I must therefore hope that the economy makes not just a few people richer or able to borrow, but lots of people, and that my location stays desirable enough that lots of them want my specific house.
If any or all of these conditions stop being true, the “housing ladder” begins to break down. Note that because all housing markets are fundamentally local, this can play out in different ways in different areas at different times, even within the same country. House prices famously collapsed in Detroit decades ago, but they’re still sky-high in New York City.
Nevertheless, the grim truth is that wherever you live, the housing ladder will inevitably falter in one way or another, simply because it can’t fulfill all of its promises forever. As Stein’s Law says, “things that can’t go on forever, won’t.”
This would be bad news for people hoping their home values will keep increasing, but it could also be bad news for young working families hoping for a price reset, because most of the ways the housing ladder tends to come down aren’t pretty.
Let’s explore a few ways this could go.
1. Crash
In this category, the housing ladder topples over and home values with it. All scenarios in this category would wipe out homeowners’ asset values, but the speed, severity, and manner of the decline varies wildly.
The Big Bad Crash
Imagine America in 2008, but worse. Or Japan in 1992. Unsustainable housing prices come down all at once, as overinflated assets sharply reset to what renters and buyers are actually able to pay. Homeowners get wiped out, but because inflated asset prices are heavily based on speculative loans, banks and mortgage lenders get wiped out too. Widespread contagion wrecks the entire financial sector. Even those without home equity get hammered by secondary shocks to the stock market and economy at large. That means layoffs and prolonged unemployment, which reduces people’s incomes. That reduces their ability to pay, which lowers rents, which lowers property valuations, which wipes out even more property owners and their creditors, and so on.
Homeowners
😢 Bad news: your home equity is wiped out.
Young working families
😊 Good news: home prices have finally come down.
😢 Bad news: you’ve lost your job and your life savings.
The economy slows to a crawl and the country risks experiencing at least one “lost decade.” This scenario is bad for everyone, but as Mike Bird skillfully outlined in his book The Land Trap, it happens again and again throughout the world wherever property mania is allowed to grow unchecked:
The Sneaky Silent Crash
A weirder kind of “crash” is when nominal home prices stop growing and just remain “sticky”, refusing to decline, but at the same time real home prices get slowly eroded by rising inflation. At the same time, inflation pushes up nominal wages, which means that over time homes eventually become more affordable in real terms—that is, as a percent of a median worker’s income.
Homeowners
😢 Bad news: your home equity is wiped out.
😢 Bad news: inflation has wiped out your savings.
Young working families
😊 Good news: you can finally afford a house.
😢 Bad news: inflation has wiped out your savings.
The Demographic Death Spiral
Housing prices are caused by too much demand and not enough supply. One simple way to bring those prices down is to decrease the demand. Once you realize that the demand in this equation is people, the grim reality of “reducing demand” sets in: a lot of people must either die, leave the area, or never be born in the first place.
As housing becomes increasingly out of reach, young people start to leave, and those that do stay, fail to form families. Fewer babies are born, and each generation gets smaller than the last, and the number of retirees balloons. Once this passes a certain inflection point, the cycle becomes self-reinforcing as the older generation becomes the democratic majority and the single most likely group to vote.
One proposed solution to combat high housing costs is to abolish property taxes, but this is akin to extinguishing a fire with gasoline. Lowering real estate holding costs makes housing an even more attractive target for out-of-state rich people who bid up the price even further1. In order to maintain local services, the lost revenue is inevitably made up by increasing the tax burden on businesses and young working families, accelerating the cycle. We discussed this in our previous article where we proposed a better alternative, Universal Building Exemption, which delivers pragmatic and meaningful tax relief for young and old alike:
The bitter irony is that a policy to “preserve housing wealth at all costs” ultimately undermines itself: as young working families get chased out, one day there is no one on the other side to actually pay for the houses, and retirees’ paper riches vanish anyways.
Homeowners
😢 Bad news: your home equity is wiped out.
Young working families
😊 Good news: you can finally afford a house.
😢 Bad news: there’s no jobs and no reason to live here anymore.
2. Neo-Feudalism
Universal doom is hardly guaranteed. Many places have been able to successfully preserve high housing prices long term without undermining their long-term desirability, and continue to attract lots of people willing to pay high prices to live there. Unfortunately, “it’s a big club and you ain’t in it,” as the late George Carlin put it.
Playground for the Global Rich
In this scenario, even if prices eventually stop growing, they stay high. This prices out many of the city’s own service workers, who out of sheer necessity must charge more for their services due to their own high housing and transportation costs. These increased labor costs don’t mean service workers actually enjoy higher take-home pay, however—the increase just gets eaten up by landlords and commuting.
Meanwhile, the cost of every service job in the city that depends on human labor and can’t be easily automated—healthcare and childcare especially—goes through the roof. With daycare costing as much as an entire spouse’s salary, there’s not much point in young working families trying to make it in the city.
The difference between this and the demographic death spiral scenario is that if the city is rich and cool enough, it is able to remain attractive on a national or even international scale, steadily shedding the poor unwashed locals for an increasingly elite globalist class. This is arguably the scenario that has been playing out in New York City, London, and other such cities.
Homeowners:
😊 Good news: Your property values stay high.
Young working families:
😢 Bad news: You’re not welcome. Get out.
Pottersville: Lords and Peasants
Only a limited number of superstar cities will be able to continue to enjoy perpetually growing housing prices, with a steady supply of rich residents both willing and able to pay. Second and third tier cities that avoid killing their own economies through over-extraction, but which just aren’t productive and cool enough to cater to the global elite, could settle somewhere in the middle.
In this scenario, property speculation cools, but housing prices never “crash” to affordable levels because bubbles pop, but shortages don’t. As long as the demand for housing stabilizes at a level persistently higher than the supply, landlords can still charge exorbitant rents, and selling prices will reflect those rent levels. House prices remain high, but because rents aren’t expected to increase, there’s no future price growth. High housing prices are now a big, dead, weight around your neck, a high cost of entry that you can’t really leverage into future gains.
In this scenario, society sorts into two classes—those that own property and those that don’t, with the latter paying a large portion of their incomes to the former in the form of rent. In other words, a return to the stable equilibrium that has reigned for the vast majority of human civilization, and the same one depicted in the cautionary vision that Clarence the angel shows to protagonist George Bailey in the classic Christmas movie It’s a Wonderful Life.
In a no- or slow- growth situation, landlords still can (and will) charge high rents, and tenants will still be compelled to pay them, but the loss of steady price appreciation causes several problems for those used to the old model.
For one, if you’re an owner occupier, your investment is also your residence. That means if you sell your house, you immediately need to buy a new one, and anything equally good will be just as expensive, so you can’t make a profit by selling. Your only way to realize your equity is to take out a reverse mortgage.
For two, if housing was your investment vehicle, well, now it’s less like an investment and more just like gold, something safe to park your money in knowing that it probably won’t increase much in real terms, but won’t go to zero either.
If you’re not on the housing ladder yet, the bad news is that it’s now been pulled up. High rents will make it perpetually difficult for you to save up enough just by working hard, because the average local prevailing income drives the rent level (see Ricardo’s Law of Rent). And since there’s no over-inflated bubble, you can’t wait for it to pop, either.
If you do somehow manage to get on the housing ladder, you’ll find that it’s no longer a “ladder” exactly, just a very high and flat bridge. That’s because housing is no longer a ticket to ever-increasing returns, just a really expensive thing you have to buy in order to live in this city.
Homeowners:
😊 Good news: your home equity isn’t wiped out.
😢 Bad news: homes don’t make you rich anymore.
Young working families:
😢Bad news: you probably can’t afford a home.
😢Bad news: they won’t get cheaper anytime soon.
😢Bad news: even if you buy a home, it won’t make you rich.
There is simply no scenario in which homes retain their value, and increase in price forever, and make housing affordable for everyone. At least one of these things has to give. As we’ve seen, the scenario can stabilize in a lot of different ways, but all of them are pretty bad.
And as we noted, all markets are local. We will likely see some or all of these scenarios play out in different places—one nation crashes, another muddles through at the cost of massive inflation; a leading city becomes a playground for the rich, while others go into demographic decline, or stagnate into unaffordable but stable Pottersvilles.
Instead of waiting for the housing ladder to break in one of these exciting ways, we could also just climb down before we hurt ourselves.
3. The YIMBY/Georgist Off-Ramp
We can do this the easy way, or the hard way.
The Easy Way
The “easy” way to is to make a bunch of sensible, pragmatic reforms before the whole thing either crashes under its own weight, or else splits us into permanent over- and under-classes. We need to make housing easier to build, which means YIMBYism, and we need to fix broken tax incentives and share the value of land equally, which means Georgism. Guest author Stephen Hoskins previously discussed the need for both movements here:
Meanwhile, we must absolutely stop subsidizing demand while restricting supply. When we “stimulate” the housing market by giving home buyers tax incentives, cheap credit, or straight up cash-money-dollars, all we are doing is increasing the amount of money people are able to pay for housing. However, housing only gets cheaper if there’s actually more housing. If the supply stays fixed, all that extra money just goes into the pockets of the people who already own the homes. If our goal is to “preserve property values,” then, mission accomplished, but we’re definitely not making housing affordable.
The YIMBYs are already on the march making sensible reforms to zoning, parking mandates, and other restrictions on building throughout the country. But to truly unlock housing affordability, we also need to fix the broken tax incentives that actively reward holding the most productive land out of use and which encourages people to treat housing as a speculative investment.
Ultimately, we need to share the land. As G.K. Chesterton once said, “The problem with Capitalism is not that it produces too many Capitalists, but too few.” Likewise, the problem with Landlordism is not that it produces too many landlords, but too few. All of us should benefit from the value of land, not just the people lucky enough to get there first.
As for actually achieving that vision, we’ve written about it at length in this article:
A sensible first step is to reorient local property taxes by shifting the tax base off of buildings and onto the land underneath them. Many suppose this will wipe out homeowners, but that’s only because they have wildly incorrect intuitions about where most land value is concentrated. The vast bulk of it is concentrated in city centers:
These are the highest value areas of the city:
And it is precisely these areas, in America at least, that are the least developed relative to their potential:
Revenue-neutral shifts that collect the exact same amount of tax money as before, but which collect it from land instead of from buildings, will shift the tax burden primarily towards underdeveloped uses, such as surface parking lots and vacant land. This will unlock lots of housing supply and at the same time make land a less valuable instrument to speculate on. See this report for Syracuse, New York, for additional details.
With that done, the next step is to remove taxes on productivity—such as income and capital taxes, to further ease the burden on businesses and young working families, who currently bear the burden of double taxation: the public tax of government, and the private tax of high land rent.
Or we could do things the hard way.
The Hard Way
The hard way is to wait for something bad to happen—like a big housing crash, such as the one many think might be coming soon:
If a big crash does indeed happen, the most important thing to do is to not make the same mistakes we made last time: massively pull back on home-building, restrict supply, and do everything in our power to re-inflate the housing bubble as quickly as possible. Then, Georgists and YIMBYs must unite, step in at this crucial moment just as the previous regimes lose all credibility, and confidently present a new plan for prosperity.
Or we could throw up our hands and do nothing, because, after all “there’s no silver bullet solutions to the housing crisis.” I think I remember someone saying the same thing about werewolves, once.
And in case you were wondering, limiting such tax breaks to apply only to “in-state owner occupiers” is trivial for sufficiently motivated rich people moving in form out of state to circumvent.
Maybe it's beyond the scope of the substack, but I'd love to read a full post on the "demographic death spiral". I've long thought that people worry too much about fertility rates and aging populations and that eventually the problem will solve itself. If we have a generation or two of shrinking population, all of a sudden houses won't be so scarce anymore and it'll be easier to raise families and we'll be back to growing populations.
Funding old-age healthcare with a smaller tax base is the real problem. But housing-wise, I think we'll be fine.
Great post. I'd like to see some of the "investment vehicle" claims taken on a bit more head-on, though. You do acknowledge this briefly under Pottersville: "if you’re an owner occupier, your investment is also your residence. That means if you sell your house, you immediately need to buy a new one" but your little smiley face summaries throughout the article imply people's misconceptions about housing-as-investment have something to them.
To be explicit: If you're an owner-occupier, rising house prices do you no good whatsoever, with a few caveats:
* If you own multiple houses, obviously rising house prices do do you good. You'll collect more rents on the ones you let out. (But you're not really defined by being an owner-occupier there. You're a landlord.)
* If you decide to downsize you can get more cash than you would have if prices hadn't gone up.
* If you remortgage you can get more cash.
* If you do some really weird thing where you speculate on house prices with your primary residence, moving from a place where prices have recently gone up to one where you think they're about to go up, but nobody ever does this.
In fact, if you're on the housing ladder, rising prices are *bad* for you. You wanted to get to the next "rung"? Well the rungs just got further apart. Sure, your rung might be higher from the ground, but that doesn't help you if your ambitions are to climb or stay put. Only helps you if you want to climb down (downsize/remortgage).
Now, I accept that rapidly *falling* house prices do cause harm for lots of people, including owner-occupiers. If you end up in negative equity you'll struggle to move up, down, or sideways, and that's obviously bad. But I think static house prices, or falling in a manageable way, or rising in nominal terms and falling in real terms, would all be good outcomes.