Doin’ it wrong, Hong Kong style

This article’s a week or so old, but it’s still a great example of how not to make houses more affordable:

HONG KONG, May 6 (Reuters) – Hong Kong’s leader said on Thursday he was concerned about the rapid growth in property prices in the city, with the authorities to review and possibly announce fresh policies in October to subsidise home buyers.

Acknowledging growing concern among Hong Kong residents that the city’s property prices are becoming increasingly unaffordable, Hong Kong Chief Executive Donald Tsang said a consultation would be carried out in the coming five months to determine whether the government might help subsidise poorer home buyers to acquire property in future.

Donald Tsang fails at Macro 101.

Think of house prices in terms of supply and demand. If you increase demand for something, or decrease supply, the price will go up. So if you want to cut the price of housing (to make it more affordable), you need to decrease the demand, or increase the supply.

If you hand new homebuyers a fat cheque, it’s not going to affect supply; and if anything, it’s going to increase demand, because people will feel that they have more buying power. So it’ll have exactly the opposite effect to what you want to happen – there’ll be more people buying, no change in supply, and house prices will go up instead of down.

(This is exactly what happened in Australia over the last two or three years. The first home buyers’ grant, which worked out to be as much as $20,000 in some cases, basically forced every first home buyer to pay $20k more for their house.

(In fact, because nearly all first home buyers were taking out mortgages, borrowing 80% LTV and using the $20k as part of their deposit, the FHBG ended up pumping up the price of starter homes by as much as $100,000. That’s Macroeconomics Fail no matter how you slice it, and it’s a big part of the reason why Aussie house prices are so bubblicious right now.)

Exceedingly low mortgage interest rates, an influx of foreign capital into Hong Kong real estate and low housing supply had helped drive Hong Kong property prices up by around a third since January last year, Tsang said.

Now he’s getting the idea. If he wants to fix HK’s overblown housing prices, he could do worse than targeting these three points he’s just mentioned, as follows:

  • Jack up mortgage interest rates: this would throw an enormous spanner in demand, but it’s not going to happen. The HKMA imports its monetary policy from the USA via the fiercely defended USDHKD peg, so Hong Kong doesn’t have any choice about its level interest rates, even when they’re clearly inappropriate for the economy
  • Stem the influx of foreign capital: there’s a lot of Chinese money flowing into Hong Kong, and – not to put too fine a point on it – it’s usually not squeaky-clean. Briefcases full of cash are a standard way of paying for apartments (this happens in Singapore as well: previously on JRE). This is going to be tricky for Hong Kong to fix without compromising its reputation as a free and open financial centre;
  • Build more houses: not easy either, since Hong Kong isn’t exactly over-endowed with land, but this might be the government’s most effective policy weapon. They could subsidise developers, or build and rent the apartments themselves, but either way would create more supply – and that’s going to drive prices down one way or another. And business interests are quite well represented in Hong Kong’s ruling Legislative Council, so a program of subsidies to developers shouldn’t be too hard to approve, cough cough.

Forming economic policy is not an easy task. But it’s pretty easy to spot when policy-makers are making a rank mis-step that’ll have the exact opposite effect to what was intended. And this is one of those times.

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