Supply - not Demand 2

To continue the discussion of "Supply - not Demand" (see original post here)...


The New Norm

As economic expansion becomes its own problem and the difficulties facing an economy with almost full employment become the new norm... more and more issues arise that ask the question:

"how do we increase supply, and not demand"

I was listening to Radio National this morning (details and podcast here). Professor Deborah Brennan was talking about the Rudd Government's new Child Care policies and the ways in which increasing the Child Care benefits will simply increase demand and not help the supply problem.

I agree with her - and I am sad to think that the Rudd Government has come up with policies as cynical and pointless as the "first home-owners grant".

It makes people feel better. It makes them feel as if the government is doing something... but in the end it simply increases demand, drives up prices, creates more "burn" in the tax benefit system and does nothing to actually make anyone's life easier.


Housing and R&D

It did set me to thinking, however, about how one might manage to improve the supply situation without increasing demand.

The answer, in a way, is simpler for houses. We have a whole industry based around the supply of houses - the construction industry, housing developers... there are people to whom we can give direct tax credits, simply for doing their job, in order to increase the supply of houses being built in the economy (more about this idea).

There is no equivalent for Child Care. There is no Child Care Centre construction industry.

But the concept of tax incentives based on particular activity within an industry is not a new one. Think of the generous tax incentives for R&D that have been implemented in some countries.

Yes, admittedly, there is always the problem of "what is R&D"... but that is for the tax department to work out. You know when you're doing it... and if you've got any queries, don't depend on the tax rebate until the department has made a ruling... it's simple really, and it's been done before, many times.


Finding the Answer

What we need is a 150% (or at least something 100%+) tax rebate on all the costs involved in the first year's set-up and running of a "new" child-care centre.

Yes, the tax department will need to define "new". Yes, it will need to clarify what can be included in the list of expenses. But the basic list is easy to come up with - the details can, as always, be worked out in the fullness of time.

The list includes, but is not limited to, the costs of:

• building new premises intended for the purpose of housing a new Child Care centre, which is then used to house said Child Care centre for at least 12 months. (If premises has other purposes, as well, then a pro-rata calculation can be made)
  
• Renting premises intended for the purpose of housing a new Child Care centre, which is then used to house said Child Care centre for at least 12 months.
• All wages for staff involved in supporting and running a new child-care centre.
• All office expenses, new materials etc. involved in supporting and running a new child-care centre.

Facing the Problems

There is then the problem of Child Care centres not being viable after the initial 12 month period. But the problem is a small one.

The point is, there is a lot of unmet demand out there. There are more children than places. If that isn't the case, we don't have a problem. Once a Child Care centre is up and running - it is unlikely to be torn down and replaced with something else, unless someone has made a very stupid business calculation and is now running a Centre where the prospect is truly unsustainable.

If this is the case, then the problem is with the business case, not the incentive scheme - and the Centre deserves to shut down, as per the laws of Supply and Demand that we are trying to utilise.


Questions:

Would it be expensive?
Yes

Would it cost more than the current rebate extensions?
Possibly, depending on tax rebate levels

Would it help supply without increasing demand?
Yes

Can we afford it?
Yes

Would it help "working families" more than the current rebate, in the long run?
Most certianly, YES!

Let's stop just making people feel better, and help the whole economy.


The Reasons

Access to Child Care is an equality issue.

Increasing access helps new parents back into the workforce. It increases levels of participation. It helps single parents. It increases overall output and productivity.

It simply IS a good idea.

This isn't some "anti-market" strategy. It's a market shaping strategy... and a good one... one that works. Only the absolute free-market purists could argue against it... and, well, really... arguing against a purist of any persuasion is a bit pointless.

Questions, comments, further ideas and foreseen problems welcome. Let's work out the details and get this implemented.

Supply - not Demand

Australia's housing afford-ability

OK. So what's obvious is that the current housing afford-ability problem, in Australia, is a basic Supply/Demand problem.

What's also obvious is that any attempts that try to fix the problem by giving people money only supports the demand side of that equation and completely fails to deal with the problem from a supply side - which, in effect, only makes the problem worse.

So giving people a "first home owners grant" only raises the cost of housing, on average, by the amount of the grant - it might make it slightly cheaper for first home owners and slightly more expensive for anyone not buying a first home. But on average, the market simply corrects. There's still a lack of supply, and raising demand simply raises the equilibrium point.

And in the face of the, more recent, rental squeeze in Australia's urban centres, giving people rent assistance only pushes the price of rental properties up even further - for exactly the same reason.

What we need is more houses. More houses means greater supply - greater supply means cheaper sales and rent. Simple, isn't it? Obvious!...

What is not so obvious, however, is how the current tax incentives for investors effects the afford-ability problem.

The current housing tax regime, in Australia, was originally designed to help afford-ability by encouraging people to invest in housing, therefore encouraging investment in building houses, therefore raising supply, therefore reducing prices and rent...

There are a number of "but"s here:

1. Much of the tax relief goes to people investing in pre-owned houses - making the expenditure inefficient. Why are we helping people invest in and make money out of 100 year old houses... we need new houses, not more investors in old ones.
   
2. The tax incentives only work as planned when the market is going up.
1. They encourage extra investment when investment is a good idea anyway, by increasing profits... but they are of little help when the market is going down. At end of the day, if the capital value of houses is going backward, it doesn't matter how much money you refund on the costs of running the house, it's still a bad investment, and needs to be sold.
   
2. By encouraging over investment on the way up, they encourage a greater boom and bust throughout the housing price cycle.

So, if cash payouts don't do any good and tax incentives for investors cause extreme markets... what's the answer?

Well, actually, it's really not that complicated.

If you wanted to reduce the cost of cars, you wouldn't start by making investing in cars cheaper, you'd start by making the manufacturing of cars cheaper.

In the same way, in order to make houses cheaper... forget the tax incentives for investors... give tax benefits to builders.

• Reduce company tax for companies that make building materials - bricks, building timber etc. Tax return incentives for investment in certain areas of business have precedent and are not that new.
  
• Give tax reductions to companies that build houses - developers etc.
• Create subsidies for companies that sell housing products to individual builders and contractors
  
• Give tax credits or bonuses (think "the baby bonus") to individuals who build their own houses.

It's a simple equation:

1. make building a new house cheaper
2. increases the number of competitors and competition in the market
3. makes the final sale price of each house lower
4. drives down prices for currently standing houses (people who can pay less for new houses won't pay as much for similar non-new houses)

Where does the money come from to pay for all these tax incentives?

In past versions of this plan, I outlined ideas like reducing the current 100% tax benefit for investors by 5% a year, and putting the money saved towards tax benefits for builders... but, quite frankly, with the kind of surpluses we've been seeing in the budget recently, we can simply afford these tax breaks... we don't need to "find" the money. We've got it already.

By keeping the current tax incentives for investors, the combined effect will continue to have downward pressure on rents by encouraging investment... however, over time, the idea of reducing tax benefits for investors could/should be looked at in order to encourage people to buy their (now cheaper) houses, and discourage the low owner-occupier / high-investor model we're currently locked in.

On top of that, by my readings, it's not a particularly inflationary tax-cut. It's upshot is to reduce the cost of building new houses, which immediately takes the pressure off wages by reducing mortgage stress and rental stress.

There don't seem a lot of down-sides to the plan in general - the details, of course, will need to be fought over.