For two hundred years, there has been a real estate cycle in the USA with an average duration of 18 years. There are similar cycles in other countries. For example, an article by Lindsay David, “Australia: one of the worst housing bubbles ever,” in the Winter 2015 issue of Progress, describes “one of the greatest credit-fueled real estate bubbles in modern times.” China has had its own real estate boom that constructed many buildings that remain empty.

In the USA, as is well known, the previous real estate boom ended with the Depression of 2008. As has always happened, real estate recovered, first by bailing out or charging off bad loans, then by filling vacancies, and now with rising rentals and renewed construction.

The basis of the real estate cycle is the fixed supply of land, which causes land rent to capture much of the gains from economic expansion. Rising rent would not be a stability problem in a pure market economy, but government intervention turns rent capture into a vicious cycle.

Government’s public works, services, and subsidies make locations more attractive, and the increased demand to be located there generates higher land rent. The greater rent from both governmental public goods and from economic growth then attracts land speculation, which accelerates the increase in land values. The Federal Reserve system pushed down interest rates during the Great Recession of 2008-2009 and kept them low to stimulate recovery and growth. Cheap credit is a financial subsidy added to the fiscal subsidy that fuels the real estate expansion and bubble.

Why does the cycle keep repeating? Because policy makers, journalists, financial analysts, and even economists see only the appearances—the financial roles of banks, insurance firms, brokerage services, and government regulations. They don’t look literally beneath the financial surface down to the land. It is land value that rises and falls; the financial superstructure and markets are just reacting to and exploiting the fundamental dynamics of land values.

Why does the cycle keep repeating? Because policy makers, journalists, financial analysts, and even economists see only the appearances—the financial roles of banks, insurance firms, brokerage services, and government regulations. They don’t look literally beneath the financial surface down to the land. It is land value that rises and falls; the financial superstructure and markets are just reacting to and exploiting the fundamental dynamics of land values.

That land rent absorbs the gains from economic expansion is shown by the evidence. An article in the July 29 Wall Street Journal, p. A3, is titled, “Rising Rents Outpace Wages in Wide Swaths of the U.S.” In California, New York City, and other cities, the average household now pays more than 40 percent of income in dwelling rentals.

The Case-Shiller residential price index measured an annual rise of over 4 percent during the past year. As many real estate purchase prices have risen back up to their pre-recession heights, and as governmental regulations prevent banks from loaning to those of modest income, many people cannot buy a house, even at today’s low mortgage rates. Home sales are at a nine-year high, according to the National Association of Realtors, but more houses are being bought by investors to rent out, or as second homes. Builders are constructing more luxury apartments and high-priced houses.

Lending regulations contribute to the problem. As banks fail during a recession, the government tightens lending restrictions, but that then delays the recovery. When the economy is expanding again, government loosens the restrictions, but that accelerates the real estate bubble.

Lending regulations contribute to the problem. As banks fail during a recession, the government tightens lending restrictions, but that then delays the recovery. When the economy is expanding again, government loosens the restrictions, but that accelerates the real estate bubble. The average mortgage loan amount has been rising. An article in the 5 August 2015 Wall Street Journal, p. C1, titled “Terms Eased on ‘Jumbo’ Loans” illustrates this lending cycle. Jumbo mortgages are those which are greater than $417,000 in most parts of the USA, and $625,000 in higher-priced areas. Banks are now reducing the required credit scores and down payments on such loans, perversely contributing to the coming bubble.

The US real estate market is not yet in bubble land. Some 15 percent of houses still have negative equity.

The US real estate market is not yet in bubble land. Some 15 percent of houses still have negative equity. But the policy of US governments has been relentlessly to promote home ownership, and most likely the US and state governments will provide more guarantees, low rates, and other subsidies to lower-income first-time buyers.

The US government is also pushing to make higher-income suburban communities “diversify” by bringing in and subsidizing lower-income and minority persons. The executive order mandating this policy is called “Affirmatively Furthering Fair Housing.” This neighborhood engineering is administered by the Department of Housing and Urban Development (HUD). If the community is not considered demographically diverse, then HUD may act to enforce Fair Housing rules with housing quotas and “regional tax sharing”. Communities which receive HUD funding must conduct a study of housing occupancy by income, race, and other demographic categories. Thus do government housing subsidies end up usurping local and state government powers.

None of the financial regulations and diversification mandates will stop the real estate boom of 2012-2022. The 18-year cycle is still on track, which will most probably plunge the economy into its next depression in 2026, 18 years after the Depression of 2008.

If land rent were used for public revenue instead of taxes on labor and goods, wages would be higher, real estate prices lower, the gains from growth would benefit all the public, and the real estate cycle would be replaced by sustainable growth.

All this, the real estate boom-bust cycle, the problem of affordable housing, the replacement of local governance with national controls, all stem from the failure to understand the ethics and economics of land in the economy. If land rent were used for public revenue instead of taxes on labor and goods, wages would be higher, real estate prices lower, the gains from growth would benefit all the public, and the real estate cycle would be replaced by sustainable growth.

Why the economic experts, policy makers, and the journalists who shape public opinion do not realize this is perhaps the greatest mystery in human history.

© Text Copyright Fred Foldvary, Ph.D. rights reserved.
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