By James Murphy*
The following is a concrete example (and unfortunately not a parable) of what happens when the perils of Modern Monetary Theory (MMT) and price controls are ignored.
David McWilliams is an economics writer in Ireland and a huge fan of MMT, often confusing saving with printing money. In a recent article, he commented on the Irish property market, referring to rising construction costs and the fact that the supply of housing needs to be increased while carefully avoiding mentioning the main reasons why prices are rising and the supply of housing is reduced in Ireland.
As an overview, we have in Ireland essentially two central banks and one government currently following policies/setting rules with opposing effects on the market.
The European Central Bank (ECB) (through its decade-long application of MMT) intends to inflate the money supply and therefore prices. As all sane economic thinkers know, this drives up the cost of all real assets (including land and materials used to build properties) and now also affects consumer and producer prices. These increases long predate Russia’s invasion of Ukraine, despite recent efforts by politicians and journalists around the world to insist that inflation is entirely Putin’s fault.
The Central Bank of Ireland (CBI) intends to keep property prices low (through its mortgage rules). These mortgage rules were introduced after the Great Financial Crisis (GFC) to curb the excessive credit growth that is fueling rising house prices.
Low ECB interest rates in the early 2000s encouraged a speculative property bubble in Ireland which burst shortly before the GFC.
These mortgage rules were introduced in 2015 and have gone through various iterations. After the GFC there was a significant oversupply of properties and consequent downward pressure on house prices and rents, but in 2014/15 the signs of the oversupply having been ‘dealt with’ were becoming more evident thanks to a partial recovery in prices and rents, especially in the big cities.
These mortgage rules effectively limit the buying ability of one group of buyers (potential homeowners and private investors who plan to finance their purchases) while other buyers (cash buyers and investment funds ) are not as paralyzed. These rules have the effect of creating a price cap for many buyers (most of whom vote) but not for others (many of whom do not, such as investment funds).
Non-voting buyers who price voting buyers out of the market are a recipe for economically disadvantaged observers who cast their eyes to the left and fertile ground for the kind of politicians who believe that Venezuela is an economic model to imitate.
The main reason for our housing shortage over the past ten years has been that the CBI has done its best to suppress housing prices and has not cared that it has reduced it below cost housing provision. Separately, these costs have risen more and more due to the ECB’s MMT-inspired policies.
In the meantime, the Irish government responded to the upward pressure on rents by introducing Rent Pressure Zones (RPZs) in 2016. First, a brief history of Irish rent control: rent control existed in limited form in Ireland until the early 1980s, when the Irish Supreme Court ruled rent control an unconstitutional interference with the right to property recognized in the Irish Constitution.
RPZs have been/are identified as specific areas (initially large cities but gradually spreading across the country, local authority by local authority) where there is significant upward pressure on rents caused by a housing shortage (largely caused by CBI mortgage rules, as discussed below). Annual rent increases were capped at 4% per year (regardless of the rent for each particular property in 2016 and not necessarily the market rent at that time). These rules initially applied for four years, but have since been extended. Time limits on caps and very modest increases allowed were/are clearly ways to avoid triggering a constitutional challenge to rent control.
In the most recent version of the rules, annual rent increases are capped between 2% per year and the increase in the consumer price index (CPI), whichever is lower. More left-leaning political parties (some of which aspire to the economic miracles performed by Venezuelan socialism) are advocating for a total rent freeze for three years.
So the CBI mortgage rules basically work to cap the purchasing power of a lot of market participants, the RPZs are an effort to cap rents, and the ECB happily MMT the money supply according to the motto of Buzz Lightyear, with the result that construction costs skyrocketed over the decade.
Housing supply, on the other hand, mirrored Buzz’s downfall, because as all sane economic thinkers know, everywhere and at all times, a price ceiling for a particular good or service has been set at a level lower than the free market would otherwise set, the result is scarcity and/or lower quality. Even Paul Krugman knows it.
CBI policy is also largely responsible for the skyrocketing rental prices over the past decade. By trying to limit the prices at which residential properties can be sold, the CBI has, for years, deterred developers from building.
By preventing/hindering future owners from buying sooner (through mortgage rules), the CBI has forced them to stay as tenants. By severely limiting investment by private investors in residential housing, the CBI has reduced the supply of rental housing.
All of the above is a recipe for one thing and one thing only. A shortage of rental housing that can only push rents up. As noted, the government then tried to solve this problem by creating RPZs, which had the effect of driving many homeowners out of the market (who do not like to pay a marginal income tax rate of 52% while being vilified to boot,) further reduce the supply of rental housing.
Additionally, many landlords who were renting below market value in 2016 (and were tricked into pegging their increases to this below-market rent) either sold and exited the market (reducing the supply of rental properties), or ensured to index rents at each opportunity. The response from the left has been predictable; prohibit landlords from selling, unless tenants are left behind.
That’s without getting into all the other issues that drive up property prices; namely, the Value Added Tax (a 13.5% sales tax imposed on the first sale of newly developed properties) and the insistence by part of the population that water be provided “free” – no user fees and out of general scope. taxation—unlimited. This has had the effect of causing property developers to pay increased infrastructure costs, which must then be passed on to the buyers of these properties.
In the country with the most progressive tax system in the European Union and the Organization for Economic Co-operation and Development, it’s a safe bet that most of this gang that insists on unlimited “free” water contributes a portion of the income tax that is significantly lower than the claims they place on that income. Additionally, McWilliams continually advocates for a vacant land tax to encourage development, essentially imposing an additional cost on development.
This pleases his gallery, who either refuses to recognize, or is unable to appreciate, or forgets that the costs of a company must be passed on to their customers or that the company goes bankrupt, in which case another company, for example an investment fund — fills the void.
There has been a move towards build-to-let schemes, which are creating a political and grassroots backlash against those who refuse or cannot understand that the current situation is a direct and foreseeable consequence of central bank and government policy. . The only thing that can be said for the government is that the krugmanesque policies of the opposition are much, much worse, essentially taxing, borrowing, printing and spending far more on public housing. Again, when MMT and price controls collide, there is little (supply) left.
*About the Author: James Murphy, CFA BA MBS BL is an experienced financial services professional with 25 years of experience in banking, finance and hedge funds with interests in finance, economics, law, history and politics and the interaction between these fields.
Source: This article was published by the MISES Institute