Want to make housing affordable? Real estate needs to become a mediocre investment

Prime ministerial interviews aren’t usually comedic material, but Prime Minister Justin Trudeau’s chat this past month with The Globe and Mail’s City Space podcast did offer up a chuckle or two.

On the one hand, Mr. Trudeau insisted his government was going to make housing more affordable for younger Canadians. On the other hand, he also declared that housing would retain its value for existing homeowners.

Got all that? Apparently, home prices will fall for the young, but stay stratospheric for everyone else.

Um, right. Anyone who listened to the Prime Minister bob and weave around the topic began to understand why Canadian housing policy is a maze of contradictions.

To be fair, though, many of us would not do a whole lot better than our country’s leader if we were asked the same questions.

I know this because I’ve been asking friends how they would like to see home prices perform over the next five or 10 years. The answers vary hugely and they’re not necessarily any more logical than the Prime Minister’s responses.

Why does this matter? Because the first step in devising good housing policy is deciding where we want to go. At the moment, most of us are still in the early stages of grappling with the realities of what it would take to bring Canada’s housing crisis under control.

Lots of the people I talked to said they would like to see home prices tumble by 25 per cent or so, thus allowing young people to enter the housing market. But what should happen after that? Most people would also like to see a resumption of strong home-price gains to reward homeowners.

That sounds innocuous enough. But if you think about it for a moment, you may begin to see a problem.

If home prices were to fall 25 per cent tomorrow, then immediately resume climbing at their average pace of the past couple of decades, we would be right back where we are now within five years, with home prices once again hitting unaffordable levels.

This unfortunate math underscores a fact of life that rarely gets said out loud: The better that housing does as an investment, the worse it does at providing affordable shelter.

To put that another way, the only way to durably guarantee affordable housing is to do our best to make real estate a long-term mediocre investment.

I realize this is not a platform any politician wants to run on, but it’s hard to argue with the numbers. So long as home prices climb faster than people’s wages, affordability tends to deteriorate.

If household incomes rise by, say, 3 per cent a year while home prices shoot up by 6 per cent a year – which is more or less what has happened in Canada over the past 20 years – home prices move beyond the reach of the average person.

To be sure, falling interest rates can make this math work for a while, but interest rates can’t keep falling indefinitely. Eventually you wind up in crisis – which is where we are now.

Owning a home has never been so unaffordable in Canada, according to an index compiled by Royal Bank of Canada. Falling interest rates over the next year will help improve affordability a little, but they won’t change the picture substantially, according to the bank’s calculations.

So what can we do? Some of the answers are straightforward if not exactly easy. First and foremost, we should build a lot more homes to address our gaping housing shortage. A massive wave of new homes would presumably mean an end to big price gains on existing homes.

What might be an equally big challenge, though, is changing psychology. Canadians have grown used over the past quarter-century to thinking of their houses as gushers of wealth. Maybe it’s time to ease back on the dreams of painless real estate wealth and once again think of homes as simply shelter.

It would help if our political leaders acknowledged the tension between affordability and real estate profits. It would help even more if policy makers made the case for why the country could benefit from a prolonged period of flat home prices.

It’s not as scary as it sounds. If home prices were to stay where they are for five to 10 years in nominal terms, the combination of inflation and rising real salaries over those years would make them much more affordable in real terms. Yet the majority of Canadian homeowners would still be sitting on gains accumulated in earlier years.

You may, of course, disagree with this. You may want homes to continue being a hot investment. But if so, I challenge you to put a number on your beliefs and think through the implications.

The nub of the problem is that it’s difficult to imagine a scenario in which young people can afford to enter the real estate market but in which today’s lofty home prices don’t have to fall or at least stagnate for a long time. Politicians don’t want to tell us that unfortunate truth, but we shouldn’t be surprised by it.