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ECONOMICS

Labor's negative gearing heroics alone won't save us

  • 26 February 2016

It is not often that federal political parties exhibit courage. Labor's decision to change the rules on negative gearing is a rare instance. It targets directly what is most dangerous and unfair in our financial system. Expect howls of protests from powerful lobby groups if it ever looks like becoming policy.

The implications of the existing negative gearing policy — in combination with former treasurer Peter Costello's decision to introduce a 50 per cent discount on capital gains — have been evident for some time.

Australia has some of the world's highest house prices relative to income. Household debt is 123 per cent of GDP, making the nation's households the most indebted in the world.

There is a massive generational divide between the older people fortunate enough to own their home and the young who have been priced out of the market. The split will have lasting social consequences.

It also makes the fate of the economy more precarious because far too much depends on one asset class, land. Not only is more than $3 trillion tied up in housing — about twice the value of the stock market — the big banks, which account for more than a third of the stock exchange, are heavily exposed to the residential mortgage market.

Australia is punting far too heavily on the continuing health of the housing market, whose fate becomes more uncertain as prices and debt continue to rise.

In theory, there is nothing wrong with negative gearing. It is simply the principle that the interest costs on debt are tax deductible, a rule that is applied widely. The argument of those defending negative gearing, that taking it away from property investment is discriminatory, has some validity.

But look a little closer and it becomes clear what the problem is. The logic of allowing deductibility on interest costs is that it is a way of enabling the flow of credit to encourage productive economic activity. That would apply to new housing investment, which has to be 'produced'.

But it is far less defensible when applied to existing housing (although renovation could be seen as 'productive') because it is really an investment in land value. Land is not 'productive'; it is unchanging.

The problems are not unique to Australia. They have been evident throughout the developed world, suggesting that higher house prices are as much to do with the behaviour of banks as with lax Australian tax policy. Lord Adair Turner,

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