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The author, Bart, is the owner of the blog "Perspective Unlimited". He can be reached at thia3003 [at] gmail [dot] com
In recent weeks, it has become clear that the red-hot property market has made the government uncomfortable, even as ministers strenuously deny any plans for demand-side intervention. Instead, 'non-interventionist measures' such as releasing more information and ramping up land sales have been mooted.
Two fundamental rules are generally accepted in the formulation of good economic policy. Firstly, less discretion may be better, especially in circumstances where policy conflicts might arise. Secondly, too much change in policy might not be optimal when there is a high level of uncertainty regarding policy outcome.
Set in this context, one could postulate that the recent escalation of property prices might have been avoided if policies had been more consistent and if policy-makers had less discretion to tinker with the market situation as it evolved.
Macroeconomic Stability versus Reserves Protection
To advance the argument, let me propose that the two main roles of the government are: (1) a macro manager of the economy (2) a custodian of our national assets.
Boom and bust cycles create real adjustment costs for the economy. Over- or under-valued asset prices result in the misallocation of resources for the economy. It is therefore natural that the economy's macro manager be concerned about asset price bubbles and busts.
What about the government as a custodian? During downturns, asset prices are low. Selling land (or other national assets) during these periods would attract low bids, which would be tantamount to diluting the country's reserves. As recent as two years and half years ago, the government was still refusing to release land that did not match its reserve price[1]. Conversely, during a market boom, the custodian has the temptation to sell as much land as possible so as to boost reserves.
Trouble is, there is a lead time of 12-18 months from the release of land, the completion of bidding, and finally to the launch of a project. After the launch, it is another 2-4 years before the project is completed. All in all, it takes around 4-5 years from the release of land to when the housing units are finally made available to the market. The property market works in these very long cycles, which to a large extent explains why the pipeline of housing supply often does not coincide with demand.
Given this lag structure in supply, the release of large amounts of land during a boom could potentially store up for a bust later. Releasing land now does nothing to address current shortages. By the time the completed units become available 4-5 years into the future, the market would have presumably corrected itself. The glut of housing units then simply accentuates the down cycle. As mentioned, current shortages could have stemmed from the reluctance to sell land at lower prices earlier in the cycle[2]. The policy reaction of the custodian can therefore come into conflict with the macro-manager.
Use of CPF and Pro-Cyclical CPF Contributions
Let me turn to the use of CPF for private housing purchases. Those who understand finance will know that there is effectively a call option with the deferred payment scheme. With deferred payment, only a 10 per cent down payment is required to purchase a property with no further payment required until TOP. A 30 per cent appreciation in property prices therefore translates into a 300 per cent capital gain (before factoring in cost).
In mid 2005, the government further relaxed the use of CPF for housing purchases, reducing the cash up front from 10 to 5 per cent. It marked the start of the current property boom. Though the policy change looked minor, its effect was not trivial. In essence, cash needed up front was in effect reduced by 50 per cent. A little cash with deferred payment now allows one to take a speculative position into the market upside. Since speculators often need to cash out before TOP, should we be surprised that the number of sub-sales is increasing? As the government ramps up land sales today, should we not be worried about what would happen to the market when the large number of units reach TOP in a few years time?
Even though CPF is meant for the long-term objectives of retirement and housing, contribution rates are almost always used to adjust short-term business costs. The government as even used it as a signaling device to manage business costs[3]. Employer's CPF contributions are often cut during recessions and subsequently restored during booms. The use of CPF contribution rates as a tool to manage short-term business cost adds another reinforcing factor to the cyclicality of the housing market. CPF contributions are a pro-cyclical source of liquidity in the property cycle.
Unexpected Policy Changes and Timing Difficulties
Discretionary policies often have unintended consequences. Take the sudden hike in development charges recently as an example. The increase in development charges, which is effectively to an increase in land cost, should actually cause prices to go up (not down). Though the policy rational was explained, the market perceived the move as a government reaction to rising property prices. As the market now cannot discount further policy changes, it becomes more erratic even as the government works to stabilise it.
The concession on stamp duties, introduced during the downturn to stimulate the property market, were suddenly removed a couple of months ago. The market can only speculate on what the government will do next to cool the property sector
Often, it is difficult to get the timing of discretionary policies right. The anti-speculative measures of 1996 came on the eve of the Asian Financial Crisis. Instead of a property market correction, we witnessed a multi-year rout. The recent DC hike also came just before the stock market correction. In volatile trading, property and bank stocks have fallen sharply. Policy makers, often compelled to act at the peak of the cycle to check asset prices, can end up correcting too much too late.
Now, this is not to say that one should not be concerned about sharp asset price appreciation. How to identify an asset price bubble, let alone deal with it, remains a fiercely debated question among academics and policy-makers[4] alike.
Clearly, the best policy would be to prevent an asset bubble from forming in the first place. To achieve that would require more consistent rather than discretionary policy. As an example, a less discretionary land sales or CPF policy might just go some way towards achieving this.
Tying of the Hands
Unpredictable policy changes, even those made with the best of intentions, must count as a risk factor to citizens, investors and businesses. As with so many things in life, even U-turns are sometimes necessary when unforeseen circumstances arise. But economic cycles are just that - cycles - periods of ups and downs. Good policies, particularly those that influence the long-term competitiveness of the economy like CPF, housing and land policies, require some consistency and predictability. Too much discretionary control could end up compromising long-term objectives. Some credible hand-tying could actually be good in the long run.
Footnotes
1 "Singapore won't release any land sites on confirmed list in 1H2005" Channel NewsAsia, 7 Dec 2004. "The Singapore government has said it won't release any land sites for private residential, commercial and hotel developments through the confirmed list in first half of next year. Sites would only be made available for sale via the reserve list. . . . The government offers land for sale through a confirmed list and a reserve list. Under the reserve list system, the government will only release a site for sale if an interested party submits an application to have the site put up for tender with an offer of a minimum purchase price acceptable to the government."
2 "Sale of Exec Condo Halted as Home Price Slide" Straits Times 26 June 2004. "A slide in prices of private homes in recent years has prompted the Government to refrain from offering any executive condominium (EC) building site for sale for the rest of the year."
3 "CPF Changes a Bold Signal to Investors" Straits Times, 3 Sep 2003. "Acceptance of tough new moves proves Singaporeans' adaptability and shows 'we have a great people', says PM Goh"
4 The former Federal Reserve Chairman Alan Greenspan noted just how difficult it was to check asset price bubbles. The current chairman Bernanke essentially supports this view, but many economists remain highly skeptical about this 'do-nothing' approach. Many economists now blame Alan Greenspan for cutting interest rates too aggressively post dot-com bubble, creating a potentially more dangerous housing bubble in the process.
Comments (11)
Bart,
nice article with many good points. I tend to agree with the premise of the article, that good policy should be less discretionary and reactionary with regards to short-term events.
a) roles of govt as macro manager vs custodian - I translate these to monetary policy vs fiscal policy. One is a monetary goal (sustained non-inflationary growth) while the other is a fiscal objective (maximise revenue). Gov'ts with finite terms are generally seen to be relatively poorer at the former, which is why this role is usually given to the central bank. So I would argue that a gov't primary role could be seen to be fiscal, while the central bank should seek to manage the monetary impact of any such fiscal policies. (of course, that may be too much of a simplification) I don't find that the gov't intervenes too often in terms of credit policy (which is what many of the CPF rules regarding purchase of property amount to) The change of contribution rates is probably over-management, though.
b) don't understand how the CPF financing being a call option is bad thing. What is a bad thing is that developers fail to understand that they are selling options, and that if these options are not exercised they are in a world of pain. I don't think that many of these policy decisions should be as unexpected as you claim they are. My sense is that there is some moral hazard going on with developers taking on excess risk because they perceive that there will be intervention to the downside. That problem can partially be solved by tying hands, but arguably a better solution is to screw them over and let some die. I don't think that's how the gov't operates, though.
I think part of the problem is that they are damned if they do, and damned if they don't. Perhaps a greater proportion of non-fiscal measures should be devolved to a stat board with a longer-term objective. But somehow I don't think that will work - it takes a long time for sufficient independence (a la MAS) to evolve.
Posted by Siu Taur | August 7, 2007 5:47 PM
Bart, great article, learned a lot from it. I am wondering though (a) whether the market was that rational as to get the intentions of the govt right, and (b) whether the govt was actually checking further asset bubbling. Correct me if I am wrong, I am only starting to learn about the mechanics and intricacies of macro-economic policies.
Concerning (a), the market was already nervous about the subprime problem in the US, and that focused attention on speculative buying of property; besides, both the general market and especially the property sector was heading for a technical correction ... all it needed was a trigger for the selling, and the govt provided it by raising the DC rate. On this point, given that market volatility is the more the norm these days given the ease of information and capital flows, perhaps the govt should be given more discretion, so as to decide on the exact timing of policy decisions (how was the timing of the DC rate raise decided? should the govt take into account of the technical cycle of the property market? what would the decision time horizon be?). But then, a market downturn is a short-term concern for the govt technocrats, isn't it? Should they be concerned about deepening the downturns if in the long run, the policy works for the better? I dun really know, just thinking aloud.
On (b), it would seem that the govt is not exactly trying to deflate an asset bubble. Accord to Minister Mah, it was about restoring the original 'fair-value' DC when times are good (22 July 07), just like the CPF part-restoration. Should we doubt the govt? The DC rate hike was not used in the 1996 measures, it was not touched since it was lowered in 1985 during our inaugural recession, so it doesn't seem to be part of the anti-speculation toolkit of the govt. Furthermore, the DC hike was announced after the govt began the releasing of more land, which was announced not as attempts to cool the market but to keep up supply for increasing demand - which if I remember correctly, the govt projects good demand for at least a few years after the IR and financial center development. The DC hike seems to be really intended by the govt to take their 'rightful' share of capital from the property developers, which have been reaping a plentiful harvest and which the govt projects to continue having a plentiful harvest for some years to come, to develop infrastructure and what not. If the market is really rational, perhaps this is a signal of confidence in Singapore's economy, when an all clear is sounded to restore DC back to pre-1985 levels, so that a fiscally hoarding but pro-business govt is back to its taxing ways.
Posted by dansong | August 8, 2007 1:38 AM
Siu Taur,
You are very sharp. I was discussing the point (b) you mentioned with an academic the other day. Indeed, developers are selling option, the risk gets passed around but does not go away.
Some developers that might have sold units a 2-3 years ago cheaply with deferred payment could be now facing escalating building material and manpower costs, as well as increased financing cost. Their projected margin might have disappeared, or worse, become negative.
Should developers selling at high price today be happy? If a price correction of more than 10 per cent takes place before TOP, it is entirely possible that buyers rather default than to pay up the remaining 90 per cent. Whether it is probable, I do not know.
But my point is that the liberalisation of 2005 has essentially allowed buyers to purchase the option using CPF or retirement funds, something not done before. We still do not know the full effect of this.
On point (a), our government certainly does not see itself, or behave as if, as one with finite term. Your examply might not be so suitable. My point is again simple.
From the revenue or reserve protection point of view, the reserve list may be a good idea. But a reserve list is essentially a price floor mechanism. Market does not clear as a result. During downturns, little land is sold because prices are not allowed to adjust downwards. 2-3 years later when economy recovers, prices skyrocket due to shortages. The effect of the price floor mechanism is something that one really needs to think hard about, whether it is good for macroeconomic stability.
Posted by Bart | August 8, 2007 9:03 AM
Dansong,
On whether the market reads the government correctly concerning the DC hike. Recall, the DC announcement was made shortly after MM Lee mentioned that we needed to "check" the rise in prices. But a DC hike should raise prices since a portion of it can be passed on to the buyers. All rather confusing innit? If the some market agents misread the govt, could we blame them?
Of course, I don't have all the answers here. But my personal opinion is that more consistency and less discretion is better.
Posted by Bart | August 8, 2007 9:29 AM
Hi Bart,
1) The increase of DC rate serves to cool down the 'en bloc' fever. It's a good thing in my opinion. I don't think you can treat the real estate market as a singular 'thing' affected evenly by policy changes; it's a system and different parts of this system are affected differently by new policies.
2) I don't think the market has become or will become more erratic. In fact the new disclosure rules helps to make the market less erratic. Increased transparency is good for more rational decision-making by the players in the market (e.g. buyers).
3) I think your analysis misses out two things: globalization (you seem to be implying that it's possible for govt to prevent the prices from rising) and increase in population (this will increase demand for properties).
Posted by Heavenly Sword | August 8, 2007 10:15 AM
HS,
To cool the en-bloc fever, rather than tinkering with price of land, might be better to relook the 80% rule (many have suggested this as too blatantly against minority interest). I agree with you that more disclosure makes market less erratic. But what the market now perceives is an increase in policy risk, ie, intervention. I don't think I have said anything to the effect that Govt can prevent prices from rising. I am not even saying that Govt can control the economic cycle. The question I am raising is whether more policy consistency can reduce the magnitude of property boom-bust cycle.
Posted by Bart | August 8, 2007 10:29 AM
Bart, of course we don't have all the answers and of course this is your personal opinion - this is a blog post after all; we are amateurs, some better than other in some fields, hankering after reason. I am questioning whether the DC hike is anti-speculative, partly because, like you said, many confusing signals from the govt officials, although MM Lee probably has little to do with this since he doesn't seem closely involved in the day-to-day business of govt anymore. Minister Mah is. I dun see it as anti-speculative thus. But then, we could still read it both ways. Looking at it this way, perhaps the problem is not too much discretion, but too little consistency in signals to the market. Fed chief Bernanke had to learn this in the beginning of his term when he moved markets simply by talking a bit freely. And perhaps not enough transparency and systemization too: the hike was too sudden and simply announced without open process and calendarized review. Then again, I agree with your general argument that there should be less discretion, just not when it comes to this incident of the DC hike (empirical disagreement). Perhaps then, it should be EITHER less discretion to have more consistent policies OR if more discretion, then more consistent signaling is needed.
Posted by dansong | August 8, 2007 10:49 AM
Hi Master Bart, I think what you're suggesting is quite contradictory (with all due respect). :)
You want a lower-magnitude cycle with LESS intervention? How can that be possible? Policy changes are necessary to cope with the changes in the circumstances. In so far as the market is smart enough to recognize that the policy measures are well-thought out, I don't see why there's "policy risk" here.
Posted by Heavenly Sword | August 8, 2007 1:50 PM
HS,
Don't think I am contradictory. I have given the CPF rates as a discretional tool to control business cost as an example. It becomes a pro-cyclical source of liquidity to property market.
Posted by Bart | August 8, 2007 3:26 PM
Bart,
Permit the KTM to summarize your argument:
(a) "the recent escalation of property prices might have been avoided if policies had been more consistent and if policy-makers had less discretion to tinker with the market situation as it evolved". Implication here is that policy-makers exercised a lot of discretion.
(b) Current shortage of land is caused by failure to release more land because of reserve prices. Long lag in the release/build cycle.
(c) Reducing the required deposit and allowing people to use CPF exacerbated the problem.
(d) "the best policy would be to prevent an asset bubble from forming in the first place". Wah lao, this one really motherhood statement. Did we not agree that it's hard to tell when it's a bubble or not? (So KTM will not try to address)
First, let us be clear that w.r.t. the property markets, there are actually two things happening simultaneously: (i) rapid increase in rental for commercial properties; and (ii) increase in price for private residential properties (i.e. your condos, due to changes in plot ratios and a general 'en-bloc' fever).
Honestly, the KTM is of the view that the Govt worries mainly about the former and NOT the latter. MM's and Mah Bow Tan's statements are mainly aimed at calming investors and "warning" present landlords not to go and anyhow increase rental.
Only a small fraction of Singaporeans are involved in the en-bloc sales and only a small minority of them are upset, so why should the Govt react violently? Well, the Govt will care or start to care when the rentals for the condos rise sufficiently that the expats get pissed and may not want to work here anymore (and also when the effects spill over to HDB). That said, the KTM is of the view that the DC is meant to both extract some of the surplus from the latest en-bloc sales as well as to dampen it a bit, since it really is getting somewhat out of whack. Evidence is in the spiralling prices of the HDB flats near the city.
This is what the KTM thinks is the current picture, but since the KTM is not an economist, he might just be spouting nonsense as usual.
Next, we need to ask ourselves (i) how much discretionary policy could have affected the economic situation; and (ii) whether the Govt has been anyhow changing policy.
As you mentioned, business cycles come in CYCLES. We all know that it will go up and down. In fact, the KTM believes that we would probably get another recession/price slump within the next 10 years. And if not 10, 20. So the business folks are not stupid. They also know. Someone once said, it's really easy to do business, "just buy low and sell high!"
The fact is, the present situation is a function of robust economic growth and give it a couple of years, the prices will stabilize even if the Government does nothing.
Personally, the KTM has no problems with the reserve price. You seem to be suggesting that the right policy is for land to be release steadily regardless of what developers are willing to pay? The KTM doesn't buy this argument. If the land is sold too cheaply, you actually dun know whether these fellas will build. They might just decide to let the land fallow and now with the hot property market, make a windfall by selling the land without doing anything, thereby bring us back to square one and the surpluses going to the developers instead of the State coffers.
In conclusion, the KTM disagrees with your claims (a) and (b). As for (c), the KTM agrees with the rest that there's nothing wrong with having an option and/or leverage. In fact, who should the Government even be deciding on the deposit to begin with. Let the banks decide lah. After all, the banks are bearing the risk what.
Even though CPF is meant for the long-term objectives of retirement and housing, contribution rates are almost always used to adjust short-term business costs. The government as even used it as a signaling device to manage business costs. Employer's CPF contributions are often cut during recessions and subsequently restored during booms.
Actually, the KTM disagrees that the Govt is using it as a signally device to manage business cost. What's actually the situation here is that it is untenable to maintain high CPF rates because costs are rising faster than real wages. "Restoring" the CPF in the latest round was really a political rather than an economic move. If the Govt could have gotten away with the increase in GST w/o restoring CPF, you think the Govt wouldn't have done it? :-P
In fact, the KTM thinks that our policies are a tad too predictable and too slow. If any, the KTM would advocate moving faster (but like you say, it's hard to recognize bubbles in time). It is because the moves are often too little too late that over-correction happens.
Posted by Kway Teow Man | August 8, 2007 10:23 PM
KTM,
Let me give a detail reply.
(a) Good regulations can overcome many of the problems you mentioned. Eg, in the bidding process, the government can specify the timeline for completion. Any hoarding could be fined. Secondly, if the bidding process is competitive, there is no concern about any developer getting a windfall gain (even for land sales during recession). Any windfall can be largely eliminated through competitive bidding. Tinkering with the market is not good regulation, it is the antithesis in fact.
(b) If you read the CNA article, it said that govt would not release land on confirmed list for residential, commercial, hotel development in 1H05. The current shortage across various property segments might be attributed to that. You would have to be more specific just how a reserve list system, essentially a price floor, is better for the market.
(c) I am largely agnostic about the use of CPF for pay for that option. But I believe it has made it easier to speculate due to the reduction in cash up front. Moreover, my understanding is that you cannot use CPF funds to invest in market traded warrants or options (can someone confirm if what I say is correct?). But if you agree that deferred payment as an option as well, the treatment here is clearly different.
(d) You claim that the market will stabilise even if the government does nothing. But the government is not doing nothing, it is releasing more land for sales. If we are unlucky, the TOP for these units will coincide with a downturn.
(e) It wasn't me who said that government used CPF cuts as a signal. It was the Straits Times, I even gave you the quote. If you are right that the government traded GST increase with CPF increase for political reasons, doesn't it come back to my point that more discretion is actually bad?
Posted by Bart | August 8, 2007 11:02 PM