Prosper Australia

photo credit: azrainman

Occasional commentary # 9

27 March 2009

Bryan Kavanagh

Let’s say labour joins with capital to produce wealth. The locational rent of land arises as a by-product, simply from the existence of the community.

Say, for some reason or other, you wanted to create an economic depression. How would you go about it? OK, then let’s tax labour and capital to reduce their wages and interest. But don’t collect the land rent for government, because we’re trying to get a depression happening, remember?

So you fine labour and capital for working, but you don’t capture the land rent, is that it? Yes, but that’s only the beginning. It’s what happens next with the rent you’ve left in private hands that’s the most important consideration. That’s because if you’re really trying to create economic depression, you’ve got to set up a vast disparity in wealth, and to squeeze the middle class and the poor. You choke off what they call ‘effective demand’ by putting them into impossible debt.

Now, as the wealthy own the most valuable properties, and usually more than one property, they also control much of the land rent. That means that every red cent they pay in taxation is clawed back by the increases in land rent which is then capitalised back into the value of their properties. They may pay more tax than the poor, but they’ll certainly get it all back via their escalating land values. They simply translate it into their asset values by privatising rent.
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An occasional commentary on the depression # 8

5 March 2009

Bryan Kavanagh*

There’s something happens when people get together in groups. Their IQs halve. If the most obvious fact an outsider puts to the group is incomprehensible to them, the interloper should be set upon and duly removed by the group’s designated attack dogs.

Take for instance what happened during the onset of this economic depression. Economists obviously aren’t to blame. How could they be? Nobody could have possibly foreseen this financial collapse approaching. (A veritable cyclone, the Prime Minister calls it.) Those one or two blowhards, such as Steve Keen, who claims to have foreseen these debt levels to be ‘impossible’ are simply publicity-seekers. Did they actually want to destroy confidence in the economy? They ought to know that mountains of debt are a house of cards, waiting to fall if they utter the wrong words! Why didn’t these individuals accept their responsibility to see the economy as ‘a matter of confidence’?

Access Economics has played a much more respectable part throughout. Chris Richardson patiently and simply explains what has already happened to the economy. There’s no harm in that, so long as it’s well and truly after the event. That’s the way it should be if we are to retain peoples’ confidence in the financial system. Albeit we may allow economists to take a guess at next year’s increase in GDP, and the overnight cash rate that might apply at this time next year, that’s just a nice game. You may conclude with absolute certainty that anyone who claims to see where we’re really headed, especially if they see dark clouds looming on the economic horizon, is most certainly an imposter, a fraudster, not at all worthy of the profession.

And take the example of the political parties. They may seem to be at odds as they cut each other to shreds, but they still honour the group rules. Neither major party may support any action of genuine reform, because that simply gives the other side too much leverage for criticism, and that only ‘scares the horses’. It’s common, in fact, to accuse the other side of scaring people. And some people are clearly too simple to have truth thrust upon them. So, the status must remain pretty well quo. That’s really what confidence is all about, isn’t it, being concerned to leave things more or less as they are, whilst giving the appearance that things are going along smoothly with all the legislation and stuff?
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photo credit: cobalt123

An occasional commentary (for Australia’s federal politicians) #5

2nd February, 2008

Bryan Kavanagh LVRG, AAPI

Early this morning Australian time, the BBC featured a well-credentialed panel in Davos discussing the world economic meltdown. As usual, none had workable solutions. None ‘saw the cat’, the real estate bubble, painted in camouflage within the global economic picture. Each of them nevertheless provided some useful insights: Nouriel Roubini merited a congratulatory pat on the back for having called the downturn; similarly, Laura Tyson, an advisor to Barack Obama, for suggesting that it’s pointless to seek scapegoats when there’s a systemic problem that needs to be urgently addressed. But there were no answers, because participants couldn’t get down to the root causes of the unfolding economic depression.

It was accepted that central banks failed us by not turning back the credit spigot before the real estate bubble began developing. And, golly, if only we had our time over again, this wouldn’t have happened! Nonsense! Easy credit may have exacerbated the real estate bubble, but it didn’t create it, and it would have occurred even under a tighter credit regime – because that’s where the capital gains and tax advantages were to be found, the cost of money notwithstanding.

The real problem is our double standard on real estate speculation. Although property bubbles precede and underpin each and every crash, politicians know that many of us get a warm inner glow when our property values increase, so they’re certainly not going to interfere by telling us there’s a line to be drawn on the increase in land price until it self-corrects in a recession. After all, a man’s house is his castle, isn’t it? So, it seems that real estate speculation and rampantly escalating land price increases are only ever to be condemned after the event by politicians and economists. But, even then, nothing must be put into place to ensure that these events can never happen again!

It is not only politicians and economists who can still praise land price escalation as one of the ‘benefits’ of the private ownership of land whilst condemning the lack of affordable housing out the other side of their mouths. Even at law, real estate has come to be regarded as ‘private property’, and charges thereon as something approaching some sort of aberrant nonsense – although this flies in the face of well-established dicta that even freehold land is distinguished from ‘private property’ and that ‘quit rents’ used to be payable on freehold titles. So, speculative accretion in land values are rarely questioned or condemned from within the law either.

These vagaries about the role and responsibility of holding land in modern society are supported by the theory of real estate valuation having been written out of the study of economics – so that we never become too condemnatory about excesses in real estate markets, nor the recurrent economic busts that inevitably flow from them. These cycles of boom bust are far from ‘the essence of capitalism’, as is often portrayed.

It is not generally understood that the value of a piece of real estate may be established by capitalizing its net rent at the yield (or rate), indicated by the market. Were valuation theory widely understood, it would be seen immediately that a ‘market’ yield of 3% and less (that is, greater than 33 years’ purchase!) on residential property is entirely speculative. It follows therefore that a bursting has to follow the bubble, so that yields can return to commercial levels.

In valuing real estate for 38 years it has often struck me that more than a few real estate agents and many valuers develop a feeling for impending economic recession well before economists do. And, no doubt, real estate agents and valuers, amongst others, will have had a derisory chuckle at last week’s announcements from Access Economics and the IMF that economic growth might tail off during the course of 2009. Some ‘forecast’!

The ludicrous state of affairs exists that economists can only ‘forecast’ after the event because, whereas property professionals do understand the theory of valuation, economists don’t – because it’s not part of their neo-classical economic training.

But so long as real estate professionals’ fees are based upon a property’s value, they’re not going ‘to blow the whistle’ on the damaging effects of real estate bubbles on the economy, either – even though it may surely be argued that an ongoing healthy and vibrant real estate market is preferable to one characterised by repetitive booms and busts. They defensively pose the question whether it’s the role of real estate agents and valuers to second-guess economic analysts, anyway? And “surely it’s not for real estate agents’ or valuers’ institutions to get ‘political’ [read ‘honest’] on the role of real estate within the economy?” Thus has the science of political economy been reduced to a standing joke by the contrived separation of real estate from the economy.

Until policy makers can assert that real estate speculation destroys economies, the chances of remedying the current economic depression are zero. On the other hand, we’ll know we’re back on track when framers of public policy do acknowledge the need to capture more publicly-generated land rent and less taxation to the public purse. It’s beyond time that they did so, because taxing thrift and industry and inflating land price bubbles have obviously proven antithetical to healthy economies for more than 200 years now.

To corroborate that we’re exceedingly slow learners, we’ve only got to listen to the many irrational and contradictory ‘solutions’ analysts are now promoting in response to the meltdown, Chaos rules, in the name of developing ‘a global solution’.

Even though the one thing necessary for a swift recovery from the financial collapse is a simple fiscal adjustment to our revenue systems, it seemed a remote possibility when I listened to the BBC this morning. So, we’d better batten down for the long haul, and trust that ‘The Powers That Be’ don’t prefer again to wage war rather than to make this simple adjustment, as they did 100 years ago.

The economic depression: an occasional commentary # 4
10th January 2009

Bryan Kavanagh, LVRG

[If you wish to keep things simple and ignore unnecessary explanation, please proceed to the final, italicised paragraph.]

The form of reductionism that has provided DNA sequencing of the human genome is leading to enormous gains in medical science; but reductionism in economics has taken the science of political economy into the dead end of an occult art. There’s no overview to put matters economic into perspective. When economic analysis misses the forest for the trees as it has so blatantly in the case of the financial meltdown, it’s time to apply the blowtorch of Occam’s Razor to the debt-bloated carcass of the US economy. We’ve got to ask some basic questions to come to sound conclusions. It has become fashionable for economist to say “There are no easy solutions”: but they’re wrong.

What’s the real problem? Why did these tremendous levels of unsustainable mortgage debt, from which the US economy needs to deleverage, arise in the first place? Monetary theorists would say that money was too cheap. Although that argument clearly has some merit – because money represents produced wealth and the cost of borrowing this wealth was indeed too cheap – it still doesn’t quite cut it in terms of Occam’s Razor, if the bad pun may be pardoned – of getting to the most simple and accurate explanation. Who is to say what the precise rate of interest is that would have stopped a real estate bubble from developing? We should first get down to defining and quantifying what constitutes a real estate bubble, because, as precedes all economic downturns, the US certainly did experience an enormous real estate bubble. And bubbles do burst!

We should first ask: What assets were offered as security for loans? Real estate: either the value of the particular piece of real estate being purchased, or other real estate held by the borrower. OK then, let’s understand that the price of the security consisted of two components: 1) the value of the buildings, and; 2) the value of the land. The value of buildings is easily assessed and may be confirmed by checking the replacement cost of buildings and applying a level of depreciation (if that applies). But how do we assess the value of the land itself?
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An occasional commentary on the economic depression # 3

5 January 2009, New Year Insights

There’s amazing synchronicity in the centenary year of the “People’s Budget”, delivered in the UK under the Liberal Prime Minister Herbert Asquith, that never so much since as now has the world needed fiscal policy capturing a greater part of our annual land values if we are to correct out-of-control economies.

Although the principles behind David Lloyd George’s 1909 “People’s Budget” were better understood and overwhelmingly supported by the British people than they are now, they were strongly resisted by House of Lords aristocrats, despite the fact that it had been accepted practice since the 17th century that the Lords would not reject house of commons budgetary measures. Nevertheless they vetoed the chancellor’s land ‘tax’ budget ….the government be damned! The land tax proposal was withdrawn, but preparations to devise a land tax valuation base continued. Meanwhile, Winston Churchill and Lloyd George were quick to use the people’s wrath against the upper house’s action to stop the power of the House of Lords from being again misused.

Militarism was already in the air a century ago when Germany began to overtake Britain industrially and pose a threat to her markets. The aristocracy of both countries saw war as appropriate and almost inevitable, perhaps also offering a useful way to finally resolve politically vacillating imperial boundaries. Lloyd George didn’t accept this fatalistic logic. He tried to countervail militaristic bravado by proposing a cut in expenditure on Britain’s new Dreadnought battleships, reducing their planned number from six to four. However, the Tory opposition, with illicit support from First Sea Lord Jackie Fisher, mounted a formidable campaign (“We want eight and we won’t wait!”) which saw Lloyd George defeated on the matter within his own cabinet. War was thereby ensured.
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# 2 12 December 2008

Ineffective demand: a picture of a tax-induced economic depression

In the 2nd of this most important series of commentaries warning of the looming depression, Bryan Kavanagh interprets one of his most important graphs. Mr Kavanagh lists the reasons why the GFC has occurred via an overview of recent tax trends. Essential reading.

What’s wrong with this picture?  

There’s nothing wrong with it – except for what it portrays. It depicts Australia’s gross domestic product descending into an economic depression because a badly-designed tax system has finally choked off effective demand - almost completely. This unique portrayal separates earned incomes from unearned incomes and closely approximates what has taken place in other economies.

Why is it ‘unique’? Because it at last assesses the extent of rent within the economy. In economic terms, rent is the annual value of a nation’s land. It’s literally a natural source for revenue, because no individuals have created it. It’s the value that the public and community infrastructure gives to the land as we work away at our jobs each year. Although it is a surplus value (because it’s community-generated, not a production cost), we capture only 12% of it to the public purse (less than $40 billion of $325 billion) in Australia. The graph shows that rent is now sufficient to replace taxation at all levels of government. i.e. If we were to collect it all, there would be no need to tax (or fine) labour and capital for working!  

Although it would do away with the taxation of labour and capital were we to capture our land rent rent for necessary government, we’ve permitted landowners to retain 88% of it, even though they’ve done nothing to earn it. And, of course, those who get the greater part of our rent are those who own not only the most land, but also the most valuable land. People who rent their homes receive no rent from society at all, although their presence did help to create it (not as individuals, but as a group). So, it is unfair in the extreme that rent – being generated by everyone – is collected only by the wealthier segments of society.
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photo credit: funadium

Over the next few posts we will bring you a series of reminders about how we and our colleagues have been warning about the impending financial peril for many years.

The Depression
An occasional commentary
(for Australia’s federal politicians)      #1
4 December 2008

ASTONISHING EVENTS?

At last night’s Lowy Institute lecture in Sydney, the former governor of the Reserve Bank of Australia, Ian Macfarlane, said that he found the events of the last year to have been quite astonishing.  Astonishing? But we foretold of this asset price deflation three and a half years ago!  In THE AGE of 15 June 2005, we warned the RBA not to increase interest rates because Australia was “primed to tank into a deflation” and “in the current deflationary environment” the next adjustment of Australian interest rates would more properly be down.”  

The RBA chose to ignore the warnings provided by this index though.  Also ignoring the looming price drop, it ratcheted interest rates up 1.75% over the next three years (seven times by 25 basis points). Now the RBA’s “seeing is believing” approach has witnessed it move into panic mode to lower interest rates by 3.00% in just three months! Surely this hopelessly dilatory action is the real ‘astonishing’ event, Mr Macfarlane?  It is a damning indictment of the very body whose raison d’etre is to maintain full employment and to protect Australians and their currency. By whom has the RBA been advised? Did the Bank take any cognisance at all of the Australian real estate bubble that we defined and quantified for it? No, it used its ‘experts’.

The Land Values Research Group (LVRG) hereby challenges any commercial economic forecaster, analyst or credit rating agency to match our economic forecasts. Alan Kohler noted in Secrets and Lies” on 2 December that Goldman Sachs admits to tailoring the truth a little in delivering it’s economic prognostications, because it is a commercial organisation, and, well …. it just has to! The LVRG isn’t a commercial organisation and we and our colleagues at Prosper Australia don’t have to ‘doctor’ any of our studies – so we’ll stick to telling people the truth about what they reveal.

OK, so Ian Macfarlane seems to agree with Christopher Joye and other bubble-deniers that people like us and Steve Keen are incorrect – that even though our real estate bubble may be bigger than all the others, ours isn’t about to burst next year.  Want a bet?

There are workable solutions to this horrible financial implosion.

Bryan Kavanagh
Land Values Research Group
Melbourne