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Land Ownership and MortgagesTaken from the book What Went Wrong with Economics by Michael Reiss In recent decades free market economists in the west have promoted the idea of mass home ownership. They often insisted that owning your own home was some sort of right, something that people should have the freedom to do. They have assumed that, without regulation and without the government interference of “social” housing mechanisms, the free market will result in a state where most people will own their own homes. Indeed in many western countries home ownership appears to have increased markedly in recent decades. Sadly this increase has been part of the cause of the crash of 2007/8. This chapter aims to show how the modern concept of mass home ownership in industrialised countries simply cannot be made to work in a way that is simultaneously equitable and economically stable without substantial modifications to our current system. To help illustrate exactly why this is so we shall need the help of a thought experiment, but before we get to that we must first be clear about the main cost of housing.Most of the cost of housing is in fact the cost of landIf all land were somehow magically free of charge then the average annual cost of housing would be approximately: M + C / YWhere M = the average annual maintenance costs (e.g. roof repairs) C = the cost of building a house in the first place (bricks and mortar and labour) Y = the number of years the house will last. This theoretical housing cost (with free land) is only a fraction of what most people in the industrialised world are actually paying. The difference is the cost of the land. A thought experiment about landImagine that a few hundred people are placed on a desert island where there is limited space. There is no way to get off the island; they will all be living there for the rest of their lives. They will want to divide up the land so that each person or family can build houses. Undoubtedly not everyone will have the same preference for land. For example one person may love fishing and so be very keen to be by the sea; another may love playing tennis so they would be keen to have a large flat piece of land; someone else may like sitting at home reading books and not really care much about how much space they get; others may simply want to live close to wherever their friends are. Imagine that on day one they all gather together to discuss what mechanism they should use for distributing the land fairly. Let us examine a few options...Drawing lotsFirst of all, how about simply dividing the land into equal-sized areas and then draw lots? At first glance this seems eminently fair. How could anyone complain? The problem is that it is a sub-optimal solution. The keen tennis player could, by chance, end up on the side of a hill while a keen hill-walker ends up on a perfectly flat piece of land. Clearly both would be unhappy with this outcome. Surely we can do better…The committeeAnother possible solution is to elect a committee who will distribute the land according to the people’s needs. This could be seen as the “communist” solution. If the members of the committee have a good grasp of the needs of all the individuals in the population then they may stand a chance of coming up with a reasonable solution. But above a certain threshold of population size it quickly becomes impossible for the members to truly know all the people’s needs. What they will be forced to do then is formulate sets of rules about who should get what pieces of land. This is where the trouble starts. Devising sets of rules about real-world human problems is fiendishly difficult. The number of factors to consider for each person is liable to be so large that a rule-based system is doomed to produce significant unfairness. Surely we can do better…Free market rentingKeen free-marketeers might step in at this point and say, “Leave it to the free market. The free market is perfect for sorting out this kind of problem.” The idea is that people who are willing and able to pay the most should get the best land and people willing to pay the least should get the smaller or less desirable plots. But given that all the people were placed on the land at the same time, nobody owns any land to start with – so to whom could anyone pay any rent? Indeed this problem would still exist to this day in the real world were it not for some sort of bootstrapping mechanism to get things started. Historically by far the most common way people got going with land ownership was to claim land by force, or at least the threat of force. But if we were to start over again with modern, civilised people wishing to distribute land fairly without violence, how should we begin? Luckily there is a solution: A free market solution would be the following:1. Instigate “Desert Island Land Rental Ltd”, a company that will own all the land on the island. 2. Make all the islanders equal shareholders. 3. Allow all the islanders to bid a rent for whatever plots of land they desire. 4. Rent each plot to the highest bidder. 5. Distribute the money received equally among the islanders (shareholders). This way everyone gets to have an equal share of the value of the land but the precise way the land gets distributed is then determined according to a combination of people’s desires and ability to pay rent. An interesting consequence of this process would be that some people would get their land for free. If someone just happened to pay an amount for their plot that was exactly equal to the average price paid for all the plots, then their dividend payment from Desert Island Land Rental Ltd would exactly match their bid. People who bid more than average for the best bits of land would still be out of pocket; they would be net contributors. Those who bid less than the average and lived in the poorer quality or smaller patches of land would actually get paid to live on their patch! At this point we can imagine some readers thinking to themselves that this is a crazy, mixed-up system. People being paid to live on certain patches of land? Surely some mistake!
There are clear advantages of this system over the lottery and the committee: As long as he is willing and able to pay, the tennis player can get his large flat piece of land, the hill walker can get his patch on the side of a hill, the fisherman can get his land by the sea and so on. What’s more, if someone cares more about the ability to buy goods than having lots of land then they can opt for a small patch and be paid by the rest of the community for enabling them have more space. They can then use this income for whatever it is that they prefer to have, perhaps more food, wine, nicer clothes etc. It should be noted that the rental system described here is just a crude outline. In practice there would need to be measures to allow for people to move from one place to another and to allow for population growth. Boundaries between plots of land may need to change occasionally, new homes built, old homes demolished etc.The free market with purchasing as an optionThe rental system seems to solve a lot of problems, but some people may prefer to own their land. So instead of paying a certain fraction of their produce on a continuous basis, they would prefer to pay a lump sum at some point and then own that land, with nothing further to pay, in perpetuity. Let us now consider this option in a little detail with some more thought experiments. Let’s start off with the example of the two families on the very small desert island. Again one plot of land is clearly nicer than the other and again let’s consider the negotiations about who gets to live on the nicer part. What is the likelihood that the deal struck would be a purchase agreement rather than a rental one? If the difference in quality/quantity between the two patches of land is very small then it is perfectly possible that the family willing to put up with the smaller piece of land may accept a one-off collection of goods in permanent payment. But if the difference in quality/quantity is more substantial then we run into a problem. The families will be living on their respective plots for decades to come and so the perceived value of living on the nicer plot over an entire lifetime will be enormous. Most likely the difference in perceived value will be greater than the entire collection of goods that either family currently posses. Purchasing is thus very unlikely to be able to occur. Now let us expand the island to have more people. Say there are 100 families and they are employing the Desert Island Land Rent or Purchase Ltd” model, i.e. they are all shareholders in a company that can choose to either rent or sell plots of land. Now in order for one family to purchase rather than rent their land they still would be unlikely to have a collection of goods that the land company would accept as preferable to a rental agreement. But now there is a possible alternative. It may be the case that the sum of all the current property of a collection of islanders would be deemed equivalent to a rental agreement. So if a family can persuade a collection of other islanders to lend them enough goods in return for repayment with interest, then a purchase agreement could go ahead. We can sum up this scenario as follows: In general, in order for land purchase to be viable, a substantial collection of goods needs to be amassed. This collection will often be far larger than an individual has in their current possession. Thus the only way a purchase can go ahead is for that person to borrow goods in return for an agreement to repay with interest. Hopefully now you should be able to see that the number of people who can purchase land at any one time should be limited to a small fraction of the total population. Any attempt to have too much land purchasing should run into a problem of lack of available savings. We say “should” because actually there is one way round the problem – in earlier chapters we saw that fractional reserve banking enabled borrowing to take place against the will of society. If a system of fractional reserve banking is in place then the rate of new land sales can rise above what it otherwise would be, via the mechanism of inflation. We can summarise the situation as follows: In any period in which the number of landowners increases at too fast a rate the money supply will be forced to grow fast, devaluing the existing currency: a perfect recipe for a land/housing bubble. In a fixed or nearly fixed money supply system like full reserve banking, there would simply not be sufficient savings for this rate of mortgage lending to come about.Income from owned land – another problemAnother issue that emerges from land ownership is something known as the “Mathew Effect” or more simply the “the rich get richer effect”. Once a private individual becomes the owner of more land than they require for their own immediate needs, they can rent out their excess. The income from this process could then be used to purchase more land which can be rented out and so on in a never-ending spiral. Left unchecked this process would inevitably lead to gross inequalities in wealth among the population. You could argue that the Mathew Effect is simply a built-in feature of capitalism. Anyone that manufactures a successful product can use any resulting profits to build a factory and manufacture another successful product and so on and so on. But the key difference here is that one process is productive and the other is not. Rewarding people for coming up with good product ideas and having the skills to manufacture them at a price people can afford, benefits society as a whole. Gaining ever more land on the basis of owning existing land benefits only the landowner to the detriment of the rest of society. If the tax system is rigged such that land ownership is a more attractive means of making money than working in productive industries then this has terrible social consequences both in terms of unfair wealth distribution and bubble promotion.Environmental consequencesWith the desert island land rental model if someone thinks to themselves, “I’m not greedy, I want a simple life. I’ll just work a few short hours per day (enough to cover my personal needs) and have a modest piece of land and a simple house”, then of course they will be able to do that. Their land will cost them nothing, or even less than nothing. They can do a small amount of work and live frugally. That plan may not be to everyone’s tastes, but some people do think that way and environmentally it’s good news – the more people think that way, the less of the earth’s resources we will consume and the less carbon we’ll put into the atmosphere. Contrast this with what happens under our current system. A person with that exact same mindset is virtually barred from carrying out their plan. Under the current system, people are born with precisely zero entitlement to any land at all. Unless they are lucky enough to be born to land owning parents, they are effectively born owing a lifetime’s rent to other private individuals for any land they want to live on. They are effectively compelled to earn the money to pay that rent by doing considerable amounts of work, consuming scarce resources and putting carbon into the atmosphere in the process. They will have to do this work throughout the major part of their entire lifespan. The environmental consequences are disastrous.ConclusionWidespread land ownership by private individuals is problematic in a wide variety of ways and would simply not happen in a true free market. The cheerleading and subsidising of mass home ownership by Margaret Thatcher, Ronald Reagan, George Bush and other (self-proclaimed) free marketeers was a significant contributor to the current economic crisis. ======================Epilogue - since this book was published, I have had some additional thoughts which tie these ideas to:
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