Conjurors, trickery and the long-suffering first-time buyer

13 March 2012 - Ian Mulheirn

Yesterday’s announcement of the dreaded mortgage indemnity scheme should be greeted with weary derision. All thinking members of the government know that this is a terrible idea. It puts taxpayers’ money on the line to stoke an unsustainable housing bubble at a level of financial risk that commercial lenders won’t touch with a barge pole.

But it’s not just an abuse of taxpayers. It’s also arguably immoral to tempt first-time buyers into a falling housing market, only to see their savings wiped out within months. But propping up the UK housing Ponzi scheme is a popular pastime of governments of whatever hue, unfortunately. And this latest mortgage indemnity scam isn’t the first attempt.

As one bonkers housing scheme launches another ends. On 24 March, the stamp duty holiday on homes costing less than £250,000 will finish. The looming end date seems to have engendered blind panic among some buyers, desperate to take advantage of the apparent give-away. Young buyers are sure that if they can just secure a deal they’ll win big by avoiding the duty. But unfortunately they’re chasing a mirage. Why?

Anyone who’s walked along La Rambla in Barcelona will know the ‘three cups’ game. This is the one where tricksters get unsuspecting tourists to bet on which of three cups a ball is hidden under. You’re certain that your eye has tracked the right cup as it moved around the table. So certain that you’re willing to put your own money on the line. But invariably by the time the conjuror has up-turned your chosen cup the ball is gone, through some sleight of hand, along with your money.

For conjurors read sellers, and for gullible tourists read first time buyers. As any economist will tell you, the person who’s usually required the pay a given tax isn’t necessarily the person who benefits from a tax holiday. If buyers see a stamp duty cut but sellers find that they can raise their prices by the same amount and still sell, then it’s really the sellers who benefit.

When housing supply is all but fixed, as it unfortunately is - despite whatever policy tinkering may be going on elsewhere - it’s a reasonable approximation that stamp duty simply reduces the price that sellers would otherwise be able to charge.

So if you’re rushing to buy, in pursuit of that 1% tax break, you might just find that the seller has conjured the money away in higher prices. The only difference is that most buyers will never realise they were conned. Having bought the trick, many people will then find themselves sitting on an asset that’s falling in value – a real double whammy.

It’s time politicians stopped trying to bolster house prices at the expense of long-suffering first-time buyers. Let’s hope the chancellor ignores self-interested calls to play another round of the cup game by extending the stamp duty holiday at the budget. Just like the tourists, would-be buyers would be better-off not playing.

Please add a comment

Posted by Cyprian Latewood on Mar 13th, 2012

Your analysis of the stamp duty holiday is truly bizarre.

The problem with stamp duty is that you need the cash upfront to pay for it. For example, on a £200,000 house you need the deposit plus £2,000. During the stamp tax holiday things are different. Let's assume that the seller does what you say and ups the price by 1% then based on a 10% deposit the cash required by the buyer increases by just £200. So the difference in the cash sum required to purchase the house (which is really what people care about) in both examples is £1800, a significant amount. Even if the house price drops immediately by 1%, you are still only technically £200 worse off than if the stamp duty holiday didn't happen but you have £1800 more cash in hand.

No wonder you are advertising for a Chief Economist!

Posted by John Springford on Mar 13th, 2012

As ever, an excellent analysis of dodgy policy groupthink from Ian. The 'getting young people on the housing ladder' meme justifies encouraging people to take a particular risk with their savings.

I just have two questions about the future of house prices. I hope they don't come from the fact I'm 'long' on the London housing market. But your analysis assumes that house prices will fall in the medium term. This may not be the case.

The first is about inelastic demand. People want to get on the 'housing ladder' in the UK, however irrational. So irrespective of how good an investment a house is, people will buy. The lack of a decent rental market with costs far below owner-occupation is both cause and effect of this. And because people will always want to buy houses, it may be rational to buy one.

The second is inelastic supply. Prices in London, where supply is most constricted, are nearly back at their 2008 peak. Prices in Liverpool, where there's more surplus housing, have fallen by 20% since then (Land Registry House Price Index). For the country as a whole, prices have fallen by 10% (Nationwide House Price Index). This is after the biggest house price bubble ever.

This is why the Ponzi scheme endures. There's always willing participants in it, and in some ways they're rational to join in. Add the lack of investment alternatives to the mix (ISAs?) and housing doesn't look so bleak, especially in high growth areas.

None of this is a reason to subsidise the housing market - you're absolutely right about that to my mind. But perhaps you're a little on the bearish side?

Posted by Ian Mulheirn on Mar 13th, 2012

You make the point that for highly credit constrained individuals the holiday lets them spread their money further. That's fine, but this point isn't about credit constraints, it's about the bigger issue of what happens to the value of the property you buy once the holiday ends.

You're not 'technically £200 worse off', you're fully £2,000 worse off when the asset you just bought for £202k falls back to £200k once the holiday ends.

Posted by Ian Mulheirn on Mar 14th, 2012

John - On your point, I don't agree that this analysis requires an assumption of falling house prices. Sure, the 'immorality' jibe requires one to anticipate falls, but not the central point about the distibutional effect of the SDLT holiday.

Regardless of what happens to prices the point is that if you buy on March 25th you'll be unambiguously better off than if you buy the day before (when the holiday is still on), assuming prices adjust overnight.

On Ponzi schemes, they cannot persist indefinitely (by definition) because the fundamentals don't justify them.