The Political Economy of Housing Financialization

Gregory W. Fuller

• Publisher: Agenda Publishing
• Year: 2019
• ISBN:
  9781788212359
• Topic: Economics
• Subtopic: Macroeconomics
• Index: Economics

The US subprime mortgage crisis, by nearly causing the collapse of the global financial system during the 2007–08 financial crisis, clearly revealed that household debt management is critical to the stability of the international economy. The configuration of mortgage finance systems of European economies, from the UK to Sweden to Spain, have profound effects on national macroeconomic and political outcomes.

In this book, Gregory Fuller reveals how national housing systems diverge in terms of their commodification and financialization: mortgages are far more common in some systems than others; some encourage families to treat housing as a tradeable asset while others do not; and certain states provide extensive social housing programmes while others offer virtually none. These differences are shown to have an impact on households' economic precarity, macroeconomic volatility, and ultimately on their political preferences. Drawing on these comparisons, Fuller offers a number of policy suggestions intended to weaken the links between housing, economic instability, and inequality.

1

Housing and the great debt transformation

Housing markets play a key role in shaping political, social and economic outcomes across the developed world. For many European families, the family home is the most valuable asset they will ever own – and the mortgage used to buy that home will be their largest debt. Across the European Union (EU), there are €7 trillion in residential mortgage loans outstanding (EMF 2018). That is just under half the EU’s annual gross domestic product (GDP), smaller than the €10-trillion market for non-financial corporate loans but far larger than the €2-trillion European market for those companies’ bonds (OECD 2018). Moreover, €7 trillion is a significant understatement of the financial importance of European households; banks create secondary assets derived from consumer lending, especially from mortgages (i.e., “derivatives” like mortgage-backed securities or collateralized debt obligations). This effectively results in the creation of multiple layers of financial-sector liabilities sitting on top of a smaller amount of household debt. As more of these mortgage-derived financial products are bought and sold across borders, malfunctioning housing markets in one major country increasingly have profound global consequences – as the late 2000s financial crisis definitively revealed.

In short, housing matters. When assessing the drivers of economic volatility and of inequality, housing must be part of the discussion. When analyzing the effects of capital sloshing from one national financial system to another, housing must be part of the discussion. And when debating the politics of risk and distribution, housing must be part of the discussion. More and more, experts from a variety of backgrounds have begun to realize this, generating a growing wave of studies into the social, political and macroeconomic consequences associated with housing institutions and policies. These investigations have clustered around two core arguments. First, housing market structures can generate both national and international macroeconomic volatility; second, policies and institutional configurations within housing markets can affect inequality (particularly wealth inequality). Two 2014 academic books that each caught mainstream attention present a good starting point for these arguments.

Atif Mian and Amir Sufi’s (2014) House of Debt forcefully made the case that malfunctioning housing markets cause macroeconomic instability. Using local housing data from the 2000s housing boom in the United States, they showed that neighbourhoods with more indebted households suffered more pronounced economic downturns; basically, where households took on more debt, families were forced into more severe bouts of deleveraging (i.e., saving in order to pay down previous debts). It turns out that this pattern is consistent with the findings from a number of other boom-bust postmortems over the decades, each of which tended to show that countries with greater private debt accumulation in good times tend to experience sharper recessions (King 1994; Jordà, Schularick & Taylor 2013).

Housing debt can also fuel instability by encouraging greater levels of external indebtedness. That is, banks can sell mortgage-derived financial products to foreign investors, helping an economy bring in the foreign currency needed to sustain a current account deficit (Fuller 2016). This is important because of what Ricardo Caballero, Emmanual Farhi and Pierre-Olivier Gourinchas (2017) call the “global safe assets shortage.” In brief, there is more global demand for safe financial products than there is supply. Globally, low interest rates and slower growth have combined to generate lots of liquid capital and relatively few decent uses for it. Mortgage derivatives can soak up some of that liquidity, as Herman Schwartz (2014) has found with pension funds, for example. Fully funded pension schemes must buy savings products with decent returns in order to function, meaning that household-derived financial products and funded pension structures are complementary to one another. This complementary relationship is not necessarily confined to within national systems, either – investment funds in one country can invest in the mortgage derivatives produced by another country. This means that instability in housing markets can contagiously spread, given the right conditions.

Turning to inequality, Thomas Piketty’s (2014) shock bestseller, Capital in the Twenty-First Century, unintentionally thrust housing into the centre of an intensifying debate over wealth distribution in advanced capitalist economies. Piketty was himself not terribly concerned with housing. Instead, he wanted to lay out a new set of capitalist “laws” revealing that the return to capital tends to rise faster than economic growth in general (in his formulation, that “r > g”) – a trend that was only briefly reversed during the immediate postwar period. In assessing Piketty’s ideas, however, supporters and critics alike have identified housing wealth as the key driver of this phenomenon. When housing prices rise faster than economic growth, aggregate wealth levels rise faster than ordinary wage incomes. Indeed, when housing wealth is excluded from these calculations, the relative jump in capital income that Piketty found becomes far less pronounced (Bonnet et al. 2014).

There are, nevertheless, substantial disagreements over what has caused housing prices to rise. Ben Ansell (2014, 2017b) has echoed an established argument within the community of housing scholars by maintaining that families have grown increasingly reliant on housing wealth as a substitute for disappearing welfare-state spending (Malpass 2008). The more sceptical Matthew Rognlie (2015) disputes this, maintaining that housing price changes simply reflect the increasing scarcity of attractive housing in certain areas. From a strictly classical economic perspective, some argue that “rent, not housing prices, should matter for the dynamics of wealth inequality” (Bonnet et al. 2014). In other words, the true value of housing should be determined by the present value of future rents, not current market value. If we look at housing wealth in this way, the increase in wealth-to-income ratios disappears; rents, it turns out, have not grown to the extent that housing prices have. Beyond large landlords, however, there is an open question as to how many real-life actors actually view housing wealth this way.

Despite these findings, there have been relatively few efforts to connect national housing systems to major political-economic events. The most substantial exception to this has been Ansell (2017a), who convincingly argues that housing prices were a potent predictor of whether British households would support or oppose Brexit in the referendum of June 2016. He found that homeowners whose housing prices were high and rising were far more likely to oppose Brexit – even when accounting for different wages and locations. This book follows Ansell’s lead; I maintain that inequality and instability tend to rise fastest where housing has been most commodified – particularly where it becomes more subject to financial market forces (or financialized). In sum, this book provides answers to a relatively straightforward question: what does a national housing regime tell us about both the economic performance and likely political flashpoints within that system?

This chapter starts by placing our contemporary housing regimes in historical context, establishing how and why housing finance has been so utterly transformed over the past 30 years. It then argues that this has been an insufficiently studied phenomenon within political economy – and that digging deeper into the financialization of the home will help academics and policymakers alike. Chapter 2 continues by defining what we mean by housing commodification and financialization. In academic language, it establishes the independent variable (or “cause,” in a cause-effect relationship) of interest to this project. Chapters 3 to 5 move to assessing the role of housing commodification and financialization on three key dependent variables (the “effects”): economic instability (in Chapter 3) and inequality (Chapter 4), and associated political outcomes (Chapter 5). The final chapter concludes with several suggestions – both in terms of policy and future research direction.

The great debt transformation

How did housing markets come to exert so much influence over our societies? My first book, The Great Debt Transformation, tried to answer part of that question by pointing to a fundamental change in how developed economies allocate financial resources. Over the past several decades, households have become far more integrated into financial markets. Crucially, this has resulted in households beginning to displace non-financial corporations as borrowers in developed economies. What follows is an abridged narrative of the post-1980 rise of housing-focused finance, putting today’s housing markets (and housing–finance relationships) in some historical context.

Prior to the 1980s, global financial markets were far more segmented and controlled than they are today. Not only was it harder to move capital across borders but chartering rules and credit guidelines prevented the free circulation of domestic capital as well. For instance, only certain types of financial institutions in pre-liberalization Britain – especially (but not exclusively) building societies – were permitted to engage in mortgage-lending. This meant that, in the 1960s and 1970s, the building societies sometimes reached near-100-per cent domination of the market. There were also limits on how much banks could lend overall, through mechanisms such as the UK’s “corset” scheme or the French encadrement du crédit system, both of which prevented banks from accumulating liabilities beyond specified limits. States heavily intervened in the setting of deposit and lending interest rates (such as with the United States’ longstanding Regulation Q) and in directing who would get credit at what prices (such as was particularly common under the conventionally statist encadrement).

For critics, this was akin to living under a global regime of “financial repression” (McKinnon 1973; Shaw 1973). Even so, the result was a relatively quiescent global financial system; as Carmen Reinhart and Kenneth Rogoff (2009) note, financial crises essentially disappeared during the first few decades following the Second World War. Even in financial centres like the US and the UK, bankers’ supposed “3-6-3” rule became a recurring joke – the idea was that bankers would simply pay 3 per cent interest on deposits, charge 6 per cent on their lending, and knock off work for a 3pm tea-time. In short, the financial services industry was not the hypercompetitive place it is today – nor was it nearly as profitable.

The liberalization of international capital flows ended the days of heavy financial repression. As countries like the US, the UK, Germany, and others began to allow funds to freely move in and out of their economies, it became more and more difficult to maintain controls on financial firms and activities. A sophisticated bank could avoid national lending restrictions by moving some of its assets to foreign partners. Likewise, savers and borrowers could both look to foreign lenders for more attractive rates than they could access at home. By allowing capital to move, states undermined their ability to control how (some) domestic financial actors behaved.

For financial firms, the twin processes of international liberalization and domestic deregulation were a sort of double-edged sword. For those who had argued that financial repression was choking investment and innovation, the victory was clear-cut – financial institutions found themselves increasingly free to maximize profits in new and different ways. But that same freedom meant that those firms – many of which had previously been insulated from competition through regulation – were suddenly confronted by a harsher business environment. They faced fewer restrictions on their behaviour, yes – but that also meant a host of new pressures as everyone jostled for a share of the increasingly unified financial market. The financial world characterized by 3-6-3 banking became a thing of the past.

Competitive pressures led banks to adopt three major strategies: consolidation, expansion and innovation. First, consolidation of the financial sector over the past 50 years has been marked. Across most developed countries, the drive to achieve economies of scope and scale led to a huge spike in mergers and acquisition activity starting in the 1980s and accelerating through the 2000s (Davis 2007). In the US, for instance, the number of commercial banks has declined from over 14,000 in the mid-1980s to fewer than 5,000 today (Federal Financial Institutions Examination Counci...

Table of contents

• Cover
• Half Title
• Series Information
• Title Page
• Copyright Page
• Contents
• Acknowledgements
• Foreword
• 1 Housing and the great debt transformation
• 2 Housing and financialization
• 3 Housing and macroeconomic instability
• 4 Housing and inequality
• 5 Housing and politics
• 6 Housing and the future
• Bibliography
• Index