property

The Homestead Fantasy

It is something of a ritual for young 20-somethings to read Walden; or A Life in the Woods, and pine for the simple truths of life to reveal themselves while amongst nature, to follow the path laid out by the 19th century transcendentalist, Henry David Thoreau:

“I went to the woods because I wished to live deliberately, to front only the essential facts of life, and see if I could not learn what it had to teach, and not, when I came to die, discover that I had not lived. I did not wish to live what was not life, living is so dear; nor did I wish to practise resignation, unless it was quite necessary. I wanted to live deep and suck out all the marrow of life, to live so sturdily and Spartan-like as to put to rout all that was not life, to cut a broad swath and shave close, to drive life into a corner, and reduce it to its lowest terms.”

Combine this spiritual quest with the modern incarnation of the American frontiersmen, the Tea Party constitutionalist, who wishes to escape the clutches of the bureaucratic police-state, and be left alone to fly his Gadsden Flag and watch Alex Jones, and you have the 21st century Neo-Homesteader. (more…)

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Is the well running dry for Leveraged Property Investment?

 

We’ve all heard of leveraged property investment, or ‘negative gearing’ as it is known in the UK and Australia. The government will reduce your tax bill for the interest payments and maintenance costs of your speculative play on land values. Due to high marginal tax rates, writing off 40, 50 or 100k in investment ‘losses’, while your property increases in value by 10% or more like clockwork sounds like a pretty good deal. Indeed it has been, especially for baby boomers and their parents who have seen the value of their initial purchases more than triple in some cases, and have allowed  them to use the ‘equity’ (read: more debt) to refinance larger or additional purchases.

Unfortunately, this was underpinned by a once-in-a-century credit boom, the vast majority of which found its way into consumer spending, including the existing stock of houses. This has done little to create more houses needed to actually house people, helped by restrictive land planning policy, and has sent the cost of buying through the proverbial roof. Our friends in Australia over at MacroBusiness have done a great job on covering this issue here and here.

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Generation wars

Demographics. At any point in history where significant change is occurring, demographics or more specifically, generational differences, will become more apparent. Viewers of AMC’s Mad Men will appreciate the portrayal of young people in the 60’s and their stark contrast with the WWII generation – zany, experimental fashion, their anti-establishment attitudes and alternative lifestyles compared to their conservative, serious and patriotic parents and employers.

But the effects of generational divide go far beyond the aesthetic. A significant factor in the standard of living you will experience throughout your life is the period in which you were born. It sounds obvious if one were to pick an example like post-war Germany or Soviet Russia, but most people seem oblivious to the demographic crisis facing the west today.

Factor:1 Tax revenue

With a huge sector of the workforce retiring, there will be fewer workers to generate income to pay tax. It is unlikely that governments will be able to raise the amount of tax revenue that they currently do twenty years down the track. The enormous expansion of the welfare state in developed western economies in the post-war period has meant that governments need many times more tax revenue per citizen than in the past to balance the budget – not that they do. The structural deficit, combined with mounting public debt (and its accompanying compound interest) spells for a dire situation, with future taxpayers shouldering the burden of a never-seen-before inter-generational wealth transfer.

Factor 2. Government spending

With all of these old people not paying tax, guess what they choose to do instead? Get sick and draw pensions! That’s right, an inordinate amount of the healthcare costs of a nation are spent on the elderly, the very same group that is given is paid income for not working (pension)! And don’t give me the ‘but they’ve worked their whole lives and contributed’ drivel. Every generation will work and contribute. Social security (including healthcare programs) is a Ponzi scheme – this is not hyperbole – the technical definition of Ponzi finance is that new investors are required to make contributions that are used to pay off earlier investors. In the private market these schemes naturally collapse (a la Bernie Maddoff), and those responsible are criminally charged. This is not the case with public entities – a subject worthy of another post. The curious thing about Ponzi schemes is that not everyone gets ripped off. Many early and mid stage investors, even the ones who weren’t clued into the game, will make a tidy profit while the rig is still running. It’s only when there are so many who have already made their investment who all want to receive their returns, that there aren’t enough new investors to kick the money upstairs to their predecessors.

Factor 3: Asset-price deflation

Much of the wealth accumulated by baby boomers (and their parents) is due to the price inflation across all asset classes in the past forty years. Houses, stocks, commodities have all boomed, largely due to enormous unrepeatable credit expansion. This inflationary period with its growing levels of debt, has allowed older generations to save for retirement buy purchasing these assets relatively cheaply, and watch them rise in value. When they all stop working and need to fund their retirement, how will they turn these assets into holiday cruises and reclining massage chairs? By selling the assets they have accumulated – this will put downwards pressure on the value of all of these assets – meaning that millennials will not see the value of their homes and investments rise as though it were a given.

The more important resulting phenomenon however, its the lack of the ‘wealth effect‘. As asset values increase (especially real estate), people feel richer. They borrow more, spend more and have confidence in markets. Bank balance sheets expand, allowing for more lending (spending and investment). In banking terminology, this a process known as mortgage hypothecation. This is a ‘positive feedback loop’ that works well, until the credit dries up and young people cannot afford to buy into the over-inflated market.

So what is the younger generation to do? Since there is clearly a rort going on, how is one to avoid being the unwilling benefactor for the state-sponsored baby boomer largesse? I would recommend reading Aaron Clarey’s Enjoy the Decline for some ideas. Personally, avoiding the housing market (in the Anglosphere), internationalisation of assets and operating your own business (rather than being an employee) would be a good starting point. Post in the comments section any original ideas.

Gustav