This is the text of a letter by Dr Gavin Putland published in the Australian Financial Review on Tuesday 5 October 2010:

BAILING OUT PROPERTY OWNERS

While I share Lucio Conte’s concern about bailing out banks (Letters, October 5), I can’t help noticing that the Australian way is to bail out the property market before the problem reaches the banks. That was the purpose of the First Home Owners’ Boost (FHOB). The catch is that when the effect of the FHOB is seen to have been temporary, buyers will be unlikely to fall for the same trick again.

Yes, I said “when”. Mr Conte refers to “recent calls… that the housing market is overvalued by 35 to 50 per cent”. My estimate is 45 per cent. If we scale the ABS home-price index to per-capita GDP, we find that it was almost stable from 1992 to 1994, when interest rates bottomed at about their present level. But the scaled index dipped as soon as interest rates rose. It is now about 45 per cent above the “almost stable” level.

In my view, the only way to avoid a substantial price correction is to shift the tax burden from the current account to the capital account, e.g. by abolishing the GST (to increase the capacity to service loans) and replacing the revenue by extending capital gains tax to all assets at the full marginal rate, with no exemptions and no grandfathering. Any grandfathering would tend to reduce prices because the tax would not discourage selling as much as it discouraged buying.

Hitting property owners with a tax on already accumulated capital gains may seem harsh, but not as harsh as letting them make capital losses. And while voters won’t necessarily give the government credit for avoiding a capital loss, they’ll certainly give it credit for abolishing the GST.

Dr Gavin Putland

Land Values Research Group