Tax Policies Created a Real Estate Monetary Standard

Michael Sankowski, at Monetary Realism, asks us to consider the possibility that we are on a Real Estate Monetary Standard:

I’ve been thinking a lot about this over last few weeks when I have the chance to think. It seems like we are on a real estate monetary standard. Much like how we can use assets like gold to create a commodity money system, it seems like we operate our current monetary system as a real estate standard.

Banks create money against real estate assets. We use this money in our day-to-day transactions, without much thought about what stands behind this money, but most loans are for residential and commercial real estate.

If we did operate under a real estate standard, we would expect to see the larger economic business cycle greatly impacted by the real estate cycle, far more than the declines in real estate activity would predict.

The impetus for this discussion is a recent paper by Ed Leamer, “Housing is the Business Cycle,” that confirms Mike’s prediction. The following graph shows real estate loans at all commercial banks as a percentage of total loans and leases:Notice that the percentage held relatively steady around 25 percent for nearly 40 years following the end of WWII. Then, in the mid-1980’s, the percentage surged higher. This massive change may have been a consequence of the Tax Reform Act of 1986 that included “ increasing the Home Mortgage Interest Deduction,” a “Low-Income Housing Tax Credit,” and changes to “ the treatment of imputed rent, local property taxes, and mortgage interest payments to favor homeownership.” After leveling off in the mid-1990’s, the percentage of real estate loans once again spiked higher beginning in late 1998. Once again, changes in tax policy may have played a substantial role. The Taxpayer Relief Act of 1997 substantially lowered the capital gains rate and “exempted from taxation the profits on the sale of a personal residence of up to $500,000 for married couples filing jointly and $250,000 for singles.”

The shifting of bank lending from primarily commercial to real estate loans has clearly been accompanied by shifts in policy to vastly reduce taxes accompanying rents, interest and capital gains. These changes, as well as other public policy initiatives, have helped significantly increase the value of homes that could be borrowed against. As Michael Hudson argues in The Bubble and Beyond, the overall effect has been to transfer former tax payments to private financial institutions, ultimately increasing wealth inequality and making the economy (and government) more beholden to the banks.

Although total real estate loans have actually fallen during the past few years, they still account for nearly 50 percent of total loans. This real estate monetary standard is certainly not restricted to the U.S. and actually appears to be prominent in Europe, as well as several other developed nations. To the degree that bank lending affects aggregate demand, real estate will clearly continue to have an outsized effect on the global business cycle.


(Note: For those interested, Leamer actually discussed this paper during an episode of EconTalk with Russ Roberts back in May 2009.)  

Bubbling Up...1/1/2013

1) The College Textbook Bubble Is Out Of Control by Sam Ro @ Money Game

Here's the insane chart:

Woj’s Thoughts - Why are textbooks so expensive today? We all know that student loans are rising exponentially to pay for tuition. Is it possible those loans are also subsidizing textbook sales? It’s doubtful that quality has increased that dramatically in the past 40 years and production costs are certainly lower. I suspect there is some institutional arrangement creating the surge higher, but unsure of specifically what that might be. Any suggestions?

2) The Folly of Obsessing over Marginal Tax Rates, by Garett Jones @ EconLog

It's often wise to pay more attention to marginal tax rates than to average tax rates.  If you can make your first $100 tax free but the 101st dollar is taxed at a marginal rate of 99% you'll probably decide to earn $100 at most.  

But what is marginal?  When it comes to career choices or the state you'll live in or whether to have an extra child the marginal decision is very big, and a rational person will base that decision mostly on the average long run costs and benefits.  In cases like this, the official marginal tax rate won't matter nearly as much as the long run average tax rate.

3) A Free-Market Monetary System by Friedrich A. Hayek @ Ludwig von Mises Institute

I think it is very urgent that it become rapidly understood that there is no justification in history for the existing position of a government monopoly of issuing money. It has never been proposed on the ground that government will give us better money than anybody else could. It has always, since the privilege of issuing money was first explicitly represented as a Royal prerogative, been advocated because the power to issue money was essential for the finance of the government-not in order to give us good money, but in order to give to government access to the tap where it can draw the money it needs by manufacturing it. That, ladies and gentlemen, is not a method by which we can hope ever to get good money. To put it into the hands of an institution which is protected against competition, which can force us to accept the money, which is subject to incessant political pressure, such an authority will not ever again give us good money.

Woj’s Thoughts - Warren Mosler has often suggested researching the “Currency as a Public Monopoly” for my dissertation. While I’m not entirely sold on that project, at least yet, I was bit surprised to find this speech by Hayek discussing his own research on “a government monopoly of issuing money.” Although Mosler and Hayek almost certainly hold different views about the benefits and costs of such a monopoly, the potential of researching both perspectives piqued my interest. Maybe I will do some preliminary research on the subject and see where it leads.

Election Results: Forecasting Accuracy and a 2013 Recession?

Nearly 10 months ago I put forth a list of predictions for 2012 that were “seen as having a low probability (less than 33%) but which I believe hold a greater than 50% chance of occurring.” From that list:

8) President Obama will win re-election - Generally a weakening economy has been poor for incumbents but this time will be seen as abnormal circumstances. The troubles in Europe and high unemployment will actually spark desire for a more interventionist government. Given the choice between Obama and Romney, the President will win re-election by a slim margin (2% or less).

And the results...

Candidate	Popular vote	Percentage	Electoral votes (270 to win)
Barack Obama	59725608	50%	303
Mitt Romney	57098650	48%	206

Pretty good, though Nate Silver deserves the real congratulations for accurately forecasting every state.

Now that the election is over (with no significant change in the national balance of power), a few prominent questions for the macro-economy must be resolved...

1) What portion(s) of the Bush-Obama tax cuts will be allowed to expire, if any?
2) Will the federal government allow the budget deficit to contract next year? If so, by how much?
3) Will the debt ceiling be raised again? If so, what concessions (presumably from the Democrats) will be necessary?

How long will it take to resolve these questions? That’s tough to say but, considering the players still involved, continuing gridlock looks like the smart bet. Stakes remain high, despite the election results, as the eventual resolution of these topics will likely determine whether or not the US enters a recession in 2013.

Points of Public Interest

For all those who finished their taxes early this year, here are some worthwhile articles for your weekend reading:

1. The Ten Pillars of Economic Wisdom (EconLog)
2. All the best tax breaks are Made in America (FT Alphaville)

Media and political focus on marginal income tax rates continues to obscure any real discussion about the myriad of ways the tax system is intentionally tweaked to protect wealthy individuals and companies. In tax laws, just as in finance, the US continues to win the race to the bottom.

3. David Kotok: I’m Worried (TBP)

Will our persistent political focus on short-term expedients result in long-run problems that ultimately overwhelm any further short-term solutions?

4. Will U.S. Avoid Recession in 2012? (Bloomberg)

Legendary investor Gary Shilling offers his outlook on a possible US recession in 2012. He concludes a recession will begin this year and continues to recommend investing in long-term Treasury bonds (both points I agree with).

5. Why Obama's JOBS Act Couldn't Suck Worse (Rolling Stone)
6. Soros: Reversing Europe’s Renationalization (Project Syndicate)

After years to trying to become financially integrated, the recent crisis is pushing many countries in the opposite direction. Renewed concerns about Spain and Italy may speed up this process that could lead to several defections from the EU.

7. Rajan: The Trouble with Libertarian Paternalism (Project Syndicate)
8. Forcing Both Parties to Get Specific About What Government Should Do (Next New Deal)

Unrelated to economics, if you have a few minutes definitely watch this video (whether you like Nike or not):
Sickest Nike Commercial Ever

Spain’s stock market back to 2009 lows...No recovery there! (h/t Zero Hedge)

Points of Public Interest

Here are some of this week’s best for your holiday weekend reading...

1. Gold does Nothing

Why is gold so valuable? Many value investors struggle with owning gold because it produces nothing as an asset. However, gold may be valuable simply for the fact it doesn’t produce anything. Gold has held a special role in storing wealth for centuries and that luster is unlikely to dwindle anytime soon. That being said, a global slowdown that results in disinflation or outright deflation will pressure prices at these levels.

2. Finance as Wealth Transfer Mechanism: An Interview with James Galbraith

“When you look at income inequality, it’s clear that the major driver is the movement of the stock market, especially the NASDAQ. But that’s capital- asset valuations; it’s not “demand for skill.” I’ve often said it’s actually redundant to measure income inequality in the US. You can watch it go by on cable TV, on the stock ticker.”

With the Federal Reserve now explicitly targeting higher stock prices it should come as no surprise that income inequality has quickly returned to peak levels in the past couple years.

3. Why Google, and Simple, love TxVia

Google has made countless great acquisitions over the past several years and remains a step ahead of the rest. TxVia is a potentially huge source of consumer information from prepaid debit cards.

4. Is the Court Engaging in Activism if It Strikes Down ObamaCare?
5. EZ Break-Up Stands to Benefit the Core

Europe’s sovereign debt problems are once again returning to headlines as growth slows, unemployment rises and debt yields for Spain and Italy shoot higher. Over the past few years politicians and pundits alike have constantly argued that a break-up of the Eurozone would be a disaster. The reality is likely much different and may in fact strengthen ties among core countries.  




State and local income taxes are highly regressive:




Source: Citizens for Tax Justice (h/t Angry Bear)