In its submission to the House of Representatives on home ownership, the Reserve Bank states that “there is a case for reviewing negative gearing, but not in isolation”. It seems the RBA would also like to remove capital gains tax concessions available to investors.
What is not clear is why the RBA has made this recommendation. Nowhere in its submission does it make a case, or even present sound arguments, as to why the government should follow this advice.
In fact, when read correctly the submission does the exact opposite.
Generally, arguments to scrap negative gearing and lift capital gains tax on housing are based on one major concern: surging house prices. Breaking that down into its component parts though, it’s then alleged that these price gains have induced a deterioration in housing affordability and, perhaps, financial stability. Bizarrely, the RBA’s own research shows why both of these are false.
The RBA’s submission instead provides no evidence that housing affordability is a problem. If anything it shows affordability at its best in decades. Yet if affordability was such a serious issue, then there would be some evidence of a price-induced decline in home ownership.
Instead the RBA finds: “The aggregate home ownership rate in Australia has been broadly steady since the 1960s. Prior to that date, the rate was much lower.”
So despite the surge in house prices, the rate of home ownership has been steady at about 70 per cent for nearly 60 years.
True, the bank does provide some evidence of compositional changes within that aggregate rate, especially by age group, with the RBA noting the “reduced propensity of younger households to be home owners”.
Now, while on the common wisdom lower rates of home ownership among the young reflect affordability issues, the submission doesn’t make this case. As the RBA notes, house prices to incomes are high. Yet this is not the correct measure to look at in determining housing affordability. That’s because, as the bank goes on to explain, price to income ratios are high because of the “structural downward shift in consumer price inflation and thus nominal interest rates”.
Instead the RBA finds that “housing ‘affordability’, measured as the share of average household income required to service a loan on a median‐priced dwelling, has continued to cycle between 20 and 30 per cent, and is currently well below previous peaks”.
So in other words, housing is still very affordable.
From there, the RBA’s submission becomes confused, and the bank does suggest that housing accessibility may have become harder. So for instance, the bank notes that rising prices have made it more difficult to raise a sufficient deposit (as a proportion of income) than in the past. Yet the RBA also notes that this has probably been offset, to some degree, by the higher loan-value ratios available to first home buyers. The bank then concludes that the effect of the former outweighs the latter, and that “the net effect of all the forces described above has probably been to delay or prevent home purchase in some cases”.
Alarmingly, the RBA provides no evidence of this in its submission. Indeed some sentences later, the RBA contradicts that line of reasoning by noting that the decline in home-ownership among the young actually started in the 80s, with most of the fall occurring well before ensuing house price booms. Perhaps this is why the RBA can only claim that price-driven affordability -- as an explanation for falling homeownership rates -- is only ‘plausible’. The RBA can’t even say it’s likely, just plausible.
It’s unfortunate that the key argument in favour of scrapping negative gearing and lifting CGT rests on an opinion that is only ‘plausible’, especially as there are much more likely factors driving lower home ownership among younger households. The RBA discusses these in some detail yet appears to downplay their significance. The bank fails to present them as a rebuttal to concerns of a price-driven decline in affordability -- which is what they are -- merely noting they are ‘also important’.
Given that falling rates of ownership were observed before strong price growth, demographic change and consumer preferences must be much more reasonable arguments to explain lower ownership rates than price growth. Some of these changes include the tendency toward later marriage, higher divorces rates and the desire among younger households to live in the comparatively more expensive inner city areas.
The RBA is on safer ground when it comes to financial stability and the submission makes the case that negative gearing, in conjunction with capital gains tax breaks, “may have the effect of encouraging leveraged investment in property”. What the submission doesn’t do, is make the case as to why this is undesirable, especially when price-induced affordability is clearly not driving lower home ownership rates.
Indeed, the evidence provided by the RBA in its submission makes it very clear that financial stability isn’t, in fact, under threat. Instead, the RBA finds that gearing among investors and owner occupiers is predominately held by higher income earners “who are well placed to service their debt”, given that a large proportion are ahead on debt repayments and that debt servicing ratios are otherwise low.
Against that backdrop, it’s difficult to determine the RBA’s primary motivation in calling for a “review” of negative gearing and an increase in capital gains tax. The debate is an emotional one, certainly, often infused with a high degree of political philosophy. Given the confused interplay between the bank’s data and its recommendations, it’s hard not to conclude that the submission is more heavily influenced by those more subjective influences rather than any hard analytical rigor.