Last week I proposed that the government’s long-term housing strategy should be to increase homeownership. I proposed a scheme for doing so by unifying the existing Public Rental Housing (PRS) and Homeownership Housing Scheme (HOS) into a single Subsidized Housing Scheme (SHS) and allowing rental households to purchase their homes outright.
Today I consider the wider benefits of greater homeownership and how to overcome another factor affecting homeownership, that of the availability and development of land. I summarize with five issues that should be addressed in formulating Hong Kong’s long-term housing strategy.
SHS homeowners will be in a better position to adapt to Hong Kong’s changing and evolving future. Their savings will be protected by property values whose fortunes are tied to the fortunes of the local economy. Moreover the substantial land values embedded in SHS properties will be a source of security for households weathering the effects of business cycles.
Benefits of a City of Homeowners
Households with their own property can make better choices for themselves when presented with important decisions that emerge over the life cycle, such as whether to accept a better job in another part of the city or overseas; where to send children for schooling; how to pay for expensive schooling overseas, fund a new business, help children finance their home purchases, pay for unexpected health care bills that insurance does not cover, support retirement in old age; bequeath assets to the next generation, and so on. The prevalence of divorce in recent times makes it another source of housing demand.
Households living in PRH and HOS units currently face constraints in dealing with these challenges. For example:
(a) They cannot easily move their homes,
(b) They have little or no equity in their homes, and
(c) They cannot freely dispose of their homes when it is in their interest to do so.
SHS households therefore would enjoy better opportunity to synchronize consumption and investment decision over their life cycle, thanks to bona fide homeownership and the substantial gain in equity value that that implies. More importantly, the benefits they gain would not be at the expense of anyone else because the land used by the public housing sector has no alternative use other than to accommodate SHS units.
The benefits of the SHS are thus not limited to the SHS household. The SHS can also help resolve other pressing problems in Hong Kong.
I. Free to Deploy Embedded Housing Value
Because SHS households capture the land values embedded in their housing units, these resources will be more efficiently utilized. The gains will have spillover effects for the entire population of Hong Kong. In 2011, 15.90% of households lived in HOS units and 30.30% in PRH units. The effect of unshackling the land values locked into 46.2% of housing units would be very sizable. Trillions of dollars of assets would be liberated. Estimates I have conducted show that the GDP growth rate each year could be increased by 0.5-1.0%. This factor alone explains a large part of why the historical and present GDP economic performance in Singapore, which allows full ownership of subsidized housing units, is better than Hong Kong.
And it costs society nothing to unlock these values. The lands occupied by PRH and HOS units have no effective alternative use. By transferring them to the occupant at a cost they can afford, they would be returned to economic use to the benefit of all. Hong Kong would then have a more valuable portfolio of propertied assets that belong to the people. The government would also gain revenues from the transfer of land values even though these would be discounted because of the subsidy. At present it hardly collects any such revenues because most households do not settle the unpaid land premium on HOS and TPS units.
II. Have Rod Can Go Fishing
An immediate benefit is that the housing problem would be resolved without incurring public expenses. This would make more resources available for other pressing needs, such as improving the quality of health care, investing in education, providing for the elderly poor, and mobilizing more resources to help those who are poor through no fault of their own.
Social upward mobility would be greatly improved if property assets were held by over 80% of the households. The fundamental reason why social upward mobility is lacking for those who are able and diligent is their inability to convince strangers to invest in their future. Unfortunately their parents do not have the means to invest in them. “Your dad is poor” sums up the capital market imperfection problem. Microfinancing tries to address this problem in developing economies. In Hong Kong it could be alleviated by becoming a property owner.
People have often asked me if it is fair to give away the land value to PRH and HOS occupants at such a low price. They have been given shelter already, why give them an asset? Is it not a double benefit? But calling it a “double benefit” is entirely arbitrary. The Singapore government gives the “double benefit” in one go and Singaporeans think of it as a single housing benefit. The Hong Kong government in effect provides an incomplete benefit and makes people dependent on it for shelter for the rest of their lives. There is a well-known saying, “give a person a fish and he returns to you for the same the next day; give him a fishing rod and teach him how to fish, and he goes away to fend for himself”.
The real contention over fairness may be due to two other reasons. If it is related to eligibility criteria, this can be readily addressed. The rent and price charged could in principle vary across categories of households depending on their income. More households would become eligible but the level of subsidy provided would vary with household income.
It may be, however, that the objections over fairness are an excuse for holding onto the status quo. This is becoming an increasingly untenable proposition because of the growing insecurities of the population and the rising gap between the “haves” and the “have-nots”.
III. Fresh Source of Housing Supply
If PRH and HOS units are permitted to be turned into SHS units owned by the occupants, then some of those units will come on the market either for sale or rent. This would provide a fresh supply of housing at a time when society is trying to address the problems of a “housing shortage” in the face of rising property prices, for example, the often cited case of households living in sub-divided units. We know there are households in the public housing sector who have more than one unit where they can live and simply changing ownership and disposal restrictions on PRH and HOS housing could free up such units. We don’t know exactly how many, but it is unlikely to be a small number.
IV. New Tool for Land Assumption
Rural squatters beginning with those at Tsoi Yuen Tsuen last year have created a new problem for development projects in the New Territories. At the heart of the matter is what constitutes fair compensation. Before, when urban squatters were resettled, they were provided with a PRH unit. At Tsoi Yuen Tsuen they were offered an HOS unit; a more generous offer than previously as expectations are changing. But an HOS unit that offers partial ownership was still not sufficient to entice them. An SHS unit may well prove to be more attractive in land expensive Hong Kong.
V. Possible Alternative for Small House Policy
The introduction of SHS units provides an opportunity to craft a new framework to phase out the “small house policy”. The challenges of finding land to accommodate the supposedly 240,000 indigenous male villagers descended from recognized New Territories’ village residents in 1898 desperately needs an alternative solution. SHS units have many attractive features that “small houses” in the New Territories do not possess and will appeal to some of the village descendants, especially because of fewer restrictions on disposal rights.
Overcoming an Obstacle: Land Development
Since the mid-1980s, the number of households has become smaller than the number of housing units. The housing strategies created in the era before the mid-1980s were based on the single-minded drive to build more units to meet the shortfall in basic shelter, but this is no longer relevant. Housing property serves a much more diverse purpose. The choice between renting, owning and investing is far more fluid and is heavily influenced by macroeconomic business cycle factors often generated from abroad.
The events of China’s opening, the Asian Financial Crisis, and the Global Financial Tsunami have shown the difficulty of forecasting housing demand in an open economy that is trying to achieve dual integration with the Mainland and the world economic market. Deciding on the correct rate at which land should be supplied is a huge challenge. In retrospect we all agree that the supply of land was not enough in the decade prior to the Asian Financial Crisis, too fast after the Crisis had occurred, and too slow again after the Crisis was over. Can we do better in the future? I am not optimistic. Election politics will ensure that even small errors of judgment will be seen as exaggerated policy failures by the people.
In the Review of the Institutional Framework for Public Housing (2002) the government renewed its commitment to the public provision of subsidized housing on a scale similar to that of previous administrations. But it also broke new ground by recommending a private sector-led strategy for the development of private housing units. Long term demand forecasts were to be published periodically, not as targets, but as indications of planning requirements only. Scheduled land sales via public auctioning would be suspended and replaced with an Application List System (ALS).
Unfortunately the ALS did not work well due to a design flaw that was detailed in my earlier essay in the HKEJ of 31 October 2012. The problem of the “Winner’s Curse” was not addressed. The flaw can be corrected by taking on board recommendations made by my colleague Professor Steven Ching of the University of Hong Kong.
Another consideration behind the slow supply of housing in the period after the Asian Financial Crisis may have been the exceedingly cautious attitude of the government, which erred on the side of under supply. Almost none of the commitments in the public sector housing provision was achieved. The government had not fully learned the lessons of its previous follies and was still trying to drive housing supply, even though it claimed to have adopted a private sector led strategy. The strategy came out in 2002, four years after the Asian financial crisis, so how does that work?.
It is imperative that the government sort out its role in private housing development and align it with Hong Kong’s mission of being an open economy with dual integration. It should study Professor Steven Ching’s proposal carefully to correct flaws in the design of the ALS. A land bank would still have to be prepared, of course, but the crucial issue is how land supply is to be triggered in the private housing market.
Tangled Up in Regulation
Another important reason for high home prices is the high regulatory cost of development associated with rigid planning rules and building codes. The complexities present formidable barriers to entry into the property development industry. Development projects are also held hostage to a myriad of social and political advocacy and action groups, each with its own agenda, that ultimately work to delay projects and raise costs.
The numerous regulatory related transaction costs involved in property development, including navigating planning rules, complying with building codes, negotiating costs associated with land acquisition due to holdouts, and holding public consultations, often result in long and uncertain delays. These uncertainties make development more costly and sometimes impossible. Since 1989, according to my estimates, such regulatory uncertainties and delays have increased the gap between property prices and construction costs by about 67% on average.
Ways to lower the regulatory cost of development have to be explored, especially in today’s increasingly fragmented political environment. At the very least the zoning of land for industrial purposes should be dropped and its conversion into residential, office, and commercial uses be automatic without requiring long and complicated approval processing. The rates of compensation for land use conversion on every plot of land and by plot ratio should be pre-announced each year so that the rates would be totally transparent to all and be valid for a period of 12 months. This would significantly lower the negotiation costs in settling land conversion premiums. It would also remove suspicion and concern over the opportunity for corruption in these negotiations.
The problem has a long history. Development in Hong Kong requires extensive consultation with the government due to its monopoly control of land, the imposition of numerous lease conditions, and the use of planning rules and building codes to vet all development proposals. These restrictions mean development cannot take place easily or quickly.
In 1947 the unofficial members of the Legislative Council were very critical of government impediments to private development and called on the government to remove all unnecessary regulatory barriers. Professor Alan Smart who studied the 1947 government decision, concluded, “for a combination of technical reasons, bureaucratic interests, distrust of private developers as speculators, concern for government revenues, a commitment to town planning and building standards, and a concern of some officials that the workers not be exploited by high rents and low standards, the government resisted these pressures” (pp. 38-39). These impediments still remain after 65 years. The time is long overdue for a change.
Homes for Hong Kong Residents
There are five issues that should be addressed in a long-term housing strategy:(1) satisfy the demand for affordable housing, (2) address the critical role of housing assets as a store of value for upward social mobility, (3) recognize that land values will be an important component of fiscal revenue for many years to come, (4) minimize systemic risk arising from periodic property market bubbles, and (5) ensure the alignment of land and property development with the economic strategy of dual integration with the Mainland and the global economy.
The first two issues require the government to provide subsidies for permanent residents who cannot afford the high land values in Hong Kong’s vibrant open economy. The government can do this by providing SHS units in place of the current PRH and HOS system, which would also have positive spinoff effects on the economy.
The current PRH and HOS units provide no or little subsidy on land values; they are primarily subsidies on the development cost of housing as structures of accommodation. What the residents of Hong Kong cannot afford is the value of the land on which the housing units are built and not the development cost. The long-term housing strategy for Hong Kong must focus on this central fact. Government must not lose its focus in this matter.
Nailing households for prolonged periods to their original housing unit is contrary to the needs of an open economy aiming for dual integration with the Mainland and the world market economy. The long-term housing strategy today should focus on providing subsidized homeownership units for Hong Kong residents. But these subsidized housing units must be allowed to be freely traded without penalty or restriction after a 5 years ownership period. A subsidy on land values should be the corner stone of our future subsidized housing policy. It will help restore upward social mobility among our less well-off households.
The central idea of “Hong Kong land for Hong Kong people” is to provide a subsidy on land values for eligible households through the public housing sector. The focus therefore is on land rather than housing structures. The strategy would enable eligible permanent residents to capture the full value of the land they have been offered at a subsidy, by allowing the purchaser to freely transfer the unit on the market after 5 years. It would be a grave mistake to restrict these transfers in any way for it would lower the land values and diminish the value of the subsidy provided.
Broadening Tax Base and Unification of Public and Private Housing
By analogy it would also be a mistake to restrict the sale of designated housing units in the private sector to permanent residents for this too reduces the value of land held in the private sector. Government policy should not seek to lower the value of land through restrictions on the disposal and use of private housing units, but seek to maximize their value to the occupants. In so doing it would encourage the efficient utilization of an important resource. It would also secure an important revenue base, addressing the third requirement of a long-term housing strategy.
While a fiscal system wedded to property values is not an ideal system, the SHS could expand the long-term tax base. Over the next 30 years this will be necessary because government expenditure will face higher costs and lower revenues from a rapidly ageing population. In a nutshell the SHS would start off as public housing, but metamorphose into private housing at a time chosen by the occupant. The “have-nots” would become “haves” over time. The two housing sectors would become integrated without division. Households therefore would become stakeholders in the community as property owners.
SHS owners would also be shielded from some of the vicissitudes of the property market because of the cushion provided by the subsidized equity value of their property. This protects their homes from the cyclical effects of business fluctuations, thus addressing the fourth requirement of a long-term housing strategy.
At the end of the day preventing the worst of property market bubbles rests with government through regulation of the loan to value ratio on mortgage loans on the demand side. On the supply side the task of government is to ensure the regulatory and transactions cost of development should be reduced through adopting more transparent and user-friendly planning rules and building codes. The mechanism for the supply of land to the market should begin with introducing improvements to the present Application List System to encourage developers to submit bids to trigger more successful land auctions.
“Hong Kong land for Hong Kong people” is a path-breaking idea. It forms the core guiding principle for a long-term housing strategy. In 10 years not only would more housing be supplied but we can definitely look forward to exceeding an 80% target for bona fide homeownership. The siege mentality of the population would fade away as the vast majority of households in Hong Kong became homeowners with a comfortable level of home equity. Such a community would feel secure and confident to take up the challenge of dual economic integration – the fifth point in a long-term housing strategy. The people of Hong Kong would then see that rising external demand for what Hong Kong offers could align with their interests as property owners. Hong Kong’s progress towards dual integration would thus be aligned with the interests of its people.
Alan Smart, Making Room: Squatter Clearance in Hong Kong, Hong Kong University Press, 1992.
No post during July-August.
Weekly Commentary continues again on
6 September 2012.
- YueChim Richard on Economic Integration with the Mainland – Pregnant Mainland Mothers and the Right of Abode
- Jonathan on Economic Integration with the Mainland – Pregnant Mainland Mothers and the Right of Abode
- Ernest Chu on Dolce Gabbana, Apple and Nike — the Economics of Discrimination
- Scott Sumner on Easy Money, Tight Money, and Market Monetarism
- Aaron D. Hall, Twin Cities, Minnesota Lawyer on The Global Economy Shifts East