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The Case Against Subsidizing Housing Debt

Summary:
SINGAPORE – At the end of the first quarter, according to the Federal Reserve Bank of New York, American consumer debt for the first time exceeded its previous peak (in dollars), reached in the third quarter of 2008, just as the global financial crisis erupted. Although car loans and student debt have been rising especially rapidly, housing debt remains more than two-thirds of the .7 trillion total. As a share of income, household debt is nothing like the threat to the national economy that it was ten years ago. But the new statistic is a reminder that American households don’t save enough. Some would attribute Americans’ tendency to spend – while Asians, for example, tend to save – to cultural factors. But there is an important policy component as well. US

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SINGAPORE – At the end of the first quarter, according to the Federal Reserve Bank of New York, American consumer debt for the first time exceeded its previous peak (in dollars), reached in the third quarter of 2008, just as the global financial crisis erupted. Although car loans and student debt have been rising especially rapidly, housing debt remains more than two-thirds of the $12.7 trillion total.

As a share of income, household debt is nothing like the threat to the national economy that it was ten years ago. But the new statistic is a reminder that American households don’t save enough.

Some would attribute Americans’ tendency to spend – while Asians, for example, tend to save – to cultural factors. But there is an important policy component as well. US government policy is designed as if to encourage Americans to take on as much housing debt as possible.

Economists hesitate to explain to people that they should borrow less. The advice sounds too schoolmarmish. It seems to lack empathy for those whose incomes are not keeping up with the standard of living that historical trends had led them to expect. But it does no one any favors to encourage over-indebtedness as a matter of policy, as the millions who lost their homes in the aftermath of the 2008 crisis discovered.

Owning your own home is said to be an essential part of the American dream. There is nothing wrong with dreaming. But there is nothing wrong with renting, either. Buying a house is typically a consequence, not a cause, of a family’s prosperity.

Advocates of an “ownership society” argue that homeowners take better care of their property than renters, with positive externalities for the neighborhood. But public encouragement of homeownership also weakens labor mobility. In the last US recession, many who lost their jobs could not move to other parts of the country where jobs were more plentiful, because they couldn’t sell their homes. There is good evidence that the housing crisis boxed in job seekers.

Encouraging home ownership isn’t cheap. The overall effective annual subsidy to US housing debt has been estimated at roughly 1% of national income. The largest component of this subsidy is the tax deductibility of home mortgage interest, which costs a lot of revenue and is hard to justify on distributive grounds: the benefit goes only to those with incomes high enough to itemize deductions.

If US President Donald Trump manages to get any economic legislation passed at all in the coming year, it is likely to be a tax cut. Congressional Republicans say they want revenue-neutral, efficiency-enhancing tax reform, which is properly defined as lowering marginal tax rates but simultaneously eliminating distortionary deductions, thereby keeping revenues and the budget deficit stable. In that case, the deductibility of home mortgage interest should be among the first targets for reform. Yet the Trump administration has explicitly ruled out curtailing it.

Particularly suspicious in the case of Trump is his support for giveaways in the tax code that benefit only real-estate developers like him. One such loophole lets developers deduct losses that exceed their investments. Another is the use of “like-kind...

Jeffrey Frankel
Jeffrey Frankel, a professor at Harvard University's Kennedy School of Government, previously served as a member of President Bill Clinton’s Council of Economic Advisers. He directs the Program in International Finance and Macroeconomics at the US National Bureau of Economic Research, where he is a member of the Business Cycle Dating Committee, the official US arbiter of recession and recovery.

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