House price stability via direct government intervention

A comment I made here about the Australian housing bubble:

If the government is serious about cooling off house prices they need to be a little bit more proactive and not just focus on demand but also on supply. If the government can enter a market on the demand side by fiddling with tax laws and tax rates and, through the Reserve Bank, interest rates and the money supply, then perhaps they should also enter a market on the supply side as well.

This would mean that the government (at all levels, but mainly Federal) would actively build properties for the purpose of selling on the open market. With an increase in property supply, prices are more likely to cool off. Moreover, government built and owned housing could be refrained from sale in order to prop the market up if it ends up crashing. This would require counter-cyclical economic behaviour by the government since it would involve selling properties when prices are high and holding back on sales when prices are low. The government could even choose to purchase private properties on the open market.

Of course the goal of such an ongoing intervention in the housing market would be to maintain price stability and to prevent booms and busts. We don't want overpriced housing but we don't want a crash either. In a sense such an intervention would be akin to monetary policy except it is aimed at a specific market rather than the entire economy.

Nevertheless, affordability should be a major goal. House prices at the moment are ridiculous and a correction is needed. Two metrics would need to be used to determine fair property value. The first being the rent/house price ratio which, according to The Economist, shows Australian houses to be 50% or more overvalued. This metric is similar to the p/e ratio used in the share market. The second ratio should be a wage/house price ratio to ensure that house prices do not overshoot the owner's ability to repay it.

Of course such an intervention would be a radical departure from policy since the 1980s, yet in essence it is simply another way to maintain price stability by intervening in the market. Similar interventions in other parts of the economy (eg the share market) could also be made to prevent boom/bust cycles in specific markets.

This is an idea that's been floating around my head for a while: Price Stability to prevent unreasonable booms and busts may not just be solved by monetary policy (changing interest rates) but also by direct government intervention in specific marketplaces that would aim at both supply and demand.

For example, to adjust demand, the government could offer tax incentives or subsidies for buyers - which is what Australia does with Negative Gearing and the First Homebuyers Grant. To increase demand, more subsidies/tax breaks could be given; to decrease demand, tax increases or levies could be put into place. The government could also adjust demand by direct purchases or direct selling.

To adjust supply, the government could enter the market and simply create more - in the case of the housing market this would mean the government buying up land, building houses and then selling them.