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Reply To Rob Boyle and CA Real Estate BubblePatrick Acree I read your essay on the California Real Estate Bubble and found your plight quite similar to many young couples in the state. You are correct in your theory that cheap money (as measured by interest rates/payments) is an important factor behind the bubble. But there is another important factor in the California market, which I will get to later. First, I agree with you that potential buyers are essentially being given far more buying power than they deserve. Although they may make less income than you and your wife, because they have no regard for financial prudence or thrift, or a conscience for that matter, they are granted unlimited buying power on terms that you or I would rightfully shun. By all measures of income and class, many in this group are likely your inferiors. Yet because they are willing to gamble with other people's money, while you refrain, they get the house and you are forced to wait. You deduce that because you cannot purchase a decent home in California on reasonable terms, that the market will go down in flames. That very well may happen, but never underestimate the power of the system to keep the values propped up long after they should have collapsed. The entire financial system is built upon ever-rising home values and any disruption to the pattern will be met with all the energy the system can muster. The point is that while a collapse is inevitable, it may come at a time when it will not do you any good. When things were going bad in the early 1980s, they created the 'reverse equity mortgage' where the terms of the payment were kept low by borrowing money against future appreciation. Who knows what types of devices the banks will create in the future? As I alluded to earlier, there is another important element of the California Real Estate Bubble. That element is Proposition 13. In most of the country, if a home value doubles, the property taxes double. This cash outlay for taxes by the owner puts a natural cap on how high the home can rise. If it rises beyond the ability of individuals to pay their tax bill, they will sell and this will tend to hold prices down. Contrast the rest of the country with California. Suppose an owner bought a home 10 years ago and prices have since tripled. In most areas of the country, the tax bill would have tripled. But in California, where yearly increases are limited to 2%, the taxes would rise at most (1.02)^10 = 1.22 = 22%. So while in most places taxes would TRIPLE (a 300% rise), in California they rise a paltry 22%. So Owners, investors and speculators are under no tax pressure to sell. But once they do sell the property, the tax bill is based on the new sales price. But it gets even better. If the property is transferred to a spouse, or between parents and children, etc., it is not reassessed on sale. So in theory, a property could remain in the family over decades and never suffer a real reassessment, other than the token 2% annual adjustment. By its very structure, Proposition 13 discourages turnover of property and puts an unfair tax burden on the newcomer. It basically says 'Let's screw the newcomer.' Over time, such a policy tends to drive the newcomer elsewhere. Now that Prop 13 has been on the books for awhile, it's no surprise that California is having a difficult time retaining the talent it recruits to the state, and is losing many of its promising natives. And it's no surprise that it is much more effective at attracting renters than buyers. Hence illegal immigrants continue to flood into the state while promising college educated natives leave the state forever. Personally, I believe that Prop 13 is unconstitutional. While the state distributes services to all on an equal basis, it unfairly distributes the property tax burden. The burden is not based on the actual market value of the property, but on something as absurd as how long ago it was acquired. Then there is the problem of the public schools and community services. Two decades ago, California could lay claim to some of the best schools and infrastructure in the country. But now that Prop 13 puts artificial limits on tax revenues, the state is wallowing in debt and headed to bankruptcy. In fact, if California did not pass the bond referendum last March, the state would already be in receivership. What I find remarkable is the premium that people are willing to pay to live in California. It seems they will pay any price. I know that some have to live there for their jobs and that's just the way it is. But where there is a choice, I am amazed that more don't decide to live some place else. I see a state driven by greed that has allowed it's infrastructure and tax revenues to deteriorate to the point that it needs borrowed money to operate. I see a state that is borrowing from tomorrow for taxes that should have been paid yesterday. I see a state that is protective and covetous of Prop 13 and ever so eager to pass the tax bill to somebody else. I see a state that is sacrificing the future of its children to the god of greed. The defenders of Prop 13 are an interesting group. They likely view themselves as the last protectors of the individual homeowner and see themselves in noble terms. But I think they are quite narrow-minded and foolish. They are like the guy in the middle of the desert, who has more water and gold than he can possibly carry. He can either take less gold and more water and survive, or he can take more gold and less water and die of thirst. Invariably, he takes the later choice. That's what has happened in California. They have become overly protective of Prop 13 while they are losing the bigger war. Their civilization is dying and they do not realize they are the culprits. Yet they view themselves as heroes. When Prop 13 originally passed several decades ago, it appeared to be a winner. It reigned unfettered government spending and actually did some good. But the initial success was paved with the accumulated capital and inertia of the past. Now that a full generation has come and gone, Prop 13 is clearly a loser, with the greatest loser being the future, namely the newcomers and the young. California may collapse but it could take a long time. But as the collapse is inevitable, and the future is dim, one questions the wisdom of those who would want to call that state home. The golden days are over. So even if there is a collapse of real estate prices, if the neighborhoods and infrastructure have been reduced to drugs and crime, why would anybody want to live there? Who wants to raise their kids in a dead society? While I fully
understand you desperately want to buy a home in your native
state on your terms, I encourage you to look elsewhere. Even
with a pay-cut, you can live better in other parts of the country
than in California. It will break your heart when you leave,
and it will be tough for six months or so afterwards, but eventually
you will adjust to your new abode. In time, you will have the
satisfaction of raising your kids in a society where they matter
and in time you will see the wisdom of your choice. Jun 3, 2004 |
