As mentioned in a previously article “the flow of money” money tends to flow in the path of least resistance. At the end, government officials with the financial bribes of lobbyists groups foolishly decide where investments should be re-directed instead of the free-market at the bennifit of major corporations. For instance, Real –Estate in Canada and in the US are heavily subsidized investments and in our view has caused many distortions in our free-market. At the end, why do people invest into Real-Estate? because its heavily subsidized!
How is Real-Estate Subsidized?
Real-Estate investment is subsidized firstly by mortgage interest deductions on income tax in the US and in Canada when you own a rental property. If you are a renter you do not have this opportunity and cannot even deduct your rent payments as part of your income. This situation favors homeowners to be indebted with their homes as interest payments reduce their income tax. If interest wasn’t a tax deduction, people would be less likely buy a house in which they can really afford, instead of re-directing capital into malinvestments
First time home buyer in Canada are allowed to a tax credit and possibly even free money by the goverment. Simialr programes exist in the US. This subside further exacerbates the condition of purchasing a house within your means as this free money from the government provides a token to purchase a house. Why are tax-payers paying for subsidies for other people to purchase homes which some can’t even afford.
Capital Gains exemption may also be provided for your principal residence, If you have been living there for more than 2 years? Thus, creating a further incentive into owning a home.
Also, as of 2011 all Canadian trust investments excluding Real-Estate Investment Trusts (R.E.I.T) were converted into corporations and no longer had the tax incentives as operating as trust’s. However, today REIT’s still operate as trusts and continue to reap the benefits of its tax incentives to its investors, another reason investment into Real-estate is subsidized.
CHMC in Canada, and Freddie Mac, Fannie Mae in the US, provides another incentive into owning Real-Estate. To insure risky mortgages to people that put up less than the traditional 20% down payment. In Canada, you can have an goverment insured mortgage with only 5% downpayment (also, the 5% can come from borrowed sources). Would you like to own a home in Canada? you can do it with nothing down! What an incentive to own real-estate! something for nothing.
Not to mention artificially suppressed interest rates to provide further incentives into purchasing a home, as stated in effects of low interest rates part 1 and 2. When interest rates are low, mortgage payment become lower and provide incentive to purchase a more expensive home. However, these interest rates in the US and in Canada are being held artifically low.
Central banks intervene in the markets to suppress interest rates to pump an artificial stimulus, this provides the illusion to entrepreneurs that there is real excess savings in banks that would supposedly account for a longer term vision and increase of demand for capital goods (Buildings etc..)
Construction and real estate are two of the main beneficiaries of capital good investments when interest rates are low. The inverse applies for high interest rates, as more capital is spent on a shorter-term vision on consumer goods and away from capital goods.
For an interest rate of 2.84% in Canada on December 2012, you can borrow $500,000 with the required downpayment to purchase a home!
However, this method of supressed low interest rates is ruinous to any economy in the long run, and will only postpone an inevitable, larger decline
Can the Price of Real-Estate Go Up Forever?
If you can’t afford the purchase of the house, then your not supposed to buy it. There is no such thing as a free lunch; you must save your money until you can afford it. However, the many programs the governments have set forth have distorted the real estate market and makes it no longer aforable. These programs which were intended to help the consumer only make it worse for everyone at the end. Real-estate is a zero sum game. Future generation become poor as a concquence of all these incentives that drove up the price by people that werent suppose to buy it in the first place.
On the surface it may be a good idea to provide incentives for people to purchase homes, this eventually distorts the markets and creates a false illusion of reality. Capital should always follow wherever the free market decides it should, in essence it should follow where investments are most efficient and create the most value without the aid from government. Government should be in no power to make such decisions like what we should do with our capital. As a lot of government decisions are heavily influenced by lobbyists and other corporate groups. In large part this is why people invest in Real-Estate, because the governemt made it favourable to do so.