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The term 'housing crisis' has recently been associated with rising foreclosure rates and tottering financial institutions, particularly in the US and Europe. However, in many emerging countries, the housing crisis is about urban poverty, unplanned settlements, overcrowded slums and homelessness.



Background and Overview

1. Background and Overview

Cities have historically served as centers of religion, politics, commerce, education and economic growth. They are the locations where agglomerations of activities facilitate the unleashing of energies of creativity, innovation and entrepreneurship. Cities offer the hope of education and learning, employment, social relationships and stimulating leisure activities.1 Dense social and business networks and close interactions lead to unforeseen opportunities that transform individual lives and the future of start-ups.
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Why Housing Finance Systems Matter


2. Affordable Housing

Housing is not “just another commodity”. It is distinguished from most other goods by its heterogeneity, its durability and the high transaction costs of moving. Because of this heterogeneity, it is a challenging task to define what is meant by a unit of housing for purposes of comparison across space and time. Individual dwelling units differ in size, layout, style, utilities and the quality of the interior and the exterior. Choice of housing also involves choice of neighborhood and location, choices which in turn impact access to jobs, schools, local public goods, social networks and amenities, as well as environmental quality. The United Nations Human Settlements Programme (UN-HABITAT) has as its most laudable mission “to promote socially and environmentally sustainable human settlements development and the achievement of adequate shelter for all”. Given its heterogeneity, the “right to adequate shelter” has been defined by the UN to comprise seven key criteria:
  • legal security of tenure;
  • availability of services, materials, facilities and infrastructure;
  • affordability;
  • habitability;
  • accessibility;
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3. Market Failures

Economists define market failure in a very specific way: market failure occurs when the allocation of a good or service by the free market is inefficient. In theory, competitive markets provide the conditions required for economic efficiency in production and consumption, as well as in exchange. Cities are generally viewed as being subject to market failures, with numerous situations where competitive markets do not work and where natural monopoly, externalities and public goods are commonly found. Government intervention, which is often justified on the grounds of efficiency, is supposed to result in an improvement in welfare for each of these traditional instances of market failure. Cities are also locations where poverty is often concentrated and where government intervention on grounds of equity, human rights and social justice is often called for. However, the presence of some form of market failure does not always justify government intervention. Taking into account regulatory, administrative and compliance costs, as well as the possibility of government failure, the outcome of an intervention may not always be superior to nonintervention.
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Review of Housing Policy Instruments


4. Taxes and Subsidies

This chapter reviews the use of taxes and subsidies as instruments of housing policy as these are the most commonly utilized instruments that operate through markets. The housing sector is affected by a large variety of taxes and subsidies. Other than direct taxes and subsidies, in many developed countries, subsidies are funded through tax relief in the form of exemptions, deductions and credits (collectively known as tax expenditures). These provisions vary greatly across countries, depending on government policy objectives with regard to housing. These objectives include (i) support for low-income households; (ii) support for homeownership; (iii) housing supply and investment incentives that are tenure neutral or favor either renting or owning; (iv) raising revenue for local governments, (v) reducing housing wealth inequalities; and (vi) ensuring less-volatile house prices.
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5. Housing Market Regulation

This chapter reviews the government’s market regulation of the housing industry and the purposes behind such regulation. Regulation is the use of government power to restrict or constrain the decisions of economic agents. Regulations and regulatory agencies can exist at both national and sub-national levels. Government regulation can be generally categorized into three main areas: regulation of competition (antitrust), economic regulation and social regulation.1 Antitrust regulation supports competition and encompasses concerns with collusion or coordinated behavior, abuse of dominance and mergers that might arise when industries are concentrated. Economic regulation refers to government-imposed restrictions on firm decisions over price, quantity, quality, and entry and exit that are necessary in natural monopoly industries. Social regulation is justified where externalities, misaligned incentives or imperfect information may hamper decentralized markets from achieving the results deemed to be desirable by society.
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6. Regulation of Housing Finance

The housing finance system involves many households and firms, as well as industries which lie beyond the boundaries of the housing sector. Firm failure can generate disaster for affected customers, depositors and investors, as well as have harmful consequences for the rest of the economy. Regulation of financial institutions, including insurance companies and pension funds, is therefore imperative to prevent or mitigate the risk of firm failure. Government mandated deposit and mortgage insurance also necessitate additional regulatory oversight to keep lending institutions from taking on excessive risks. The regulation of financial products, institutions and markets is a major and highly complex topic in itself and has become a policy issue of global concern since the financial crisis of 2008. This chapter focuses on those aspects of the regulation of housing finance that have an impact on affordability and investments: the mortgage instrument and its origination, contractual savings housing schemes, as well as alternative methods of funding housing via mortgage securitization, covered bonds, liquidity facilities, real estate investment trusts and institutional funds. Macro-prudential regulation of the housing market will be considered in Chapter 10.
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7. Housing Institutions

The previous chapters on “taxes and subsidies” and “market regulation” considered market-based instruments which are utilized to solve the problem of market failure. In this chapter, we examine housing institutions that are established and owned by the government in order to facilitate the flow of financial and other resources into the housing sector. Governments may set up housing institutions as a strategic instrument, particularly when there is a need to grow an embryonic market and/or where there is a gap in the coverage of provision. There are many variants of state-owned housing institutions that differ in scale, powers and scope — driven by financial policies and shaped by the local environment and its evolution. These include public housing authorities as well as government housing banks. Some agencies operate in the retail housing finance market, others in the wholesale market with or without regulatory powers. Some are specialized housing banks, yet others are part of a universal commercial bank. Some combine retail housing loan services with real estate developer functions. Others are state-owned enterprises competing in the same market space as private housing developers or commercial banks.
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8. Public-Private Partnerships

A public–private partnership (PPP) is a formal contractual arrangement entered into between the public sector and the market in order to deliver a well-defined output or service. It is distinct from privatization inasmuch as there is the continuation of government engagement through some form of regulation by contract. PPPs have deep roots in the USA, where the scope of state-owned enterprises has been limited. In the 1980s, privatization of state-owned enterprises and assets started in the UK under the Thatcher government and subsequently became a worldwide phenomenon. Recognizing that complete privatization was not possible or desirable in some sectors, PPPs were first popularized in the early 1990s in the UK as private finance initiatives (PFIs) for asset-based infrastructure. During the past two decades, the PPP has been widely embraced by many governments as a method for the delivery of a wide range of services in sectors such as roads, rails, electricity, water and health.1
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Housing Bubbles, Crashes and Policy


9. From Housing Cycles to Financial Crises

Housing markets have always been cyclical with regular booms and busts. Similar to other assets, housing asset prices should equal the discounted stream of expected future housing returns in the long run. To the extent that actual and expected rents and components of the discount factor (in particular interest rates and capital gains) are affected by macroeconomic shocks, policy and sentiments, these shocks are reflected in house price changes.
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10. Policy Response to Housing Booms

Recent studies provide extensive evidence that housing booms and busts are an important cause of banking crises.1 The IMF has devised four measures to estimate the costs of financial crises: fiscal costs arising from financial sector rescue packages, output losses, increase in public debt, and peak non-performing loans. In 2009, an IMF estimate placed the total cost of the 2008 world financial crisis at an astonishing US$11.9 trillion, or the equivalent of approximately one-fifth of the entire globe’s annual economic output,2 while another estimate was that up to 45 per cent of the world’s wealth had been destroyed in less than 18 months. Although costs estimates have since been revised downwards substantially, the potential outlay still dwarfed any previous cost estimates of financial crises.3
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Government Failures


11. Unintended Consequences of Housing Policy

While governments may have the best of intentions in putting in place housing finance policies to address the problems of market failures, there are numerous examples of housing policies that either have resulted in unintended consequences or could pose potential problems in the future. In this chapter, we consider the following policies:
  • Fixed interest rates;
  • Financial sector deregulation;
  • Direct mortgage interest subsidy;
  • Design of government-sponsored housing finance institutions; and
  • Foreign currency mortgages.
For each identified policy, an example of problems encountered is drawn from the US experience and from a non-US country (see Table 11.1). The USA has a long history of interventionist housing policy that has evolved with the goal of promoting homeownership. Amongst the advanced economies, the IMF index of government participation in housing finance for the USA is higher than for any other country with the exception of Singapore.1 As such, the US experience provides an excellent source of examples for unintended consequences of housing policy.
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12. Regulatory Failures and Regulatory Capture

As bank failure can have serious consequences for individual customers, depositors and investors, as well as the economy, financial institutions are subject to a wide array of prudential regulations and supervisory review (see Chapter 6). Regulators, however, may fail to succeed in a number of ways. They may fail to regulate entire sectors of the housing finance system (regulatory blindness) or to exercise adequate supervision of the lenders and their intermediaries (regulatory myopia). Regulators may also be naive in failing to appreciate the risk of systemic crisis from the failure of too-big-tofail institutions or the risk of contagion across markets and countries. This chapter presents cases and examples that will be discussed under various types of regulatory failure (see Table 12.1). As was the approach in Chapter 11, for each type of failure, one example of problems encountered is drawn from the US experience and a second from another country’s. Another source of potential regulatory laxity and failure could arise from “regulatory capture”, when officials charged with overseeing business entities end up protecting the interests of the companies instead of the interests of taxpayers and the general public.
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Complexity and Risks


13. Smart Practices for Housing Finance Systems

Having reviewed the various forms of housing market failures and policy interventions, as well as major government failures, in this concluding chapter, we consider how the lessons learned can translate into smart practices for housing finance systems.1 Housing finance systems vary significantly across countries, and a policy that works well in a particular context may not have the same successful outcomes when transplanted to another setting. Thus, instead of the term “best practice”, with its connotation of specific techniques which apply in a blanket fashion across jurisdictions, I have chosen to use Eugene Bardach’s term, “smart practice” instead, as this draws attention to the importance of relevance of the environment and context in which housing policy operates. Looked at in this light, different housing policies will apply in different ways by themselves, as well as in conjunction with other policies, depending on the environment and context concerned. Specific housing outcomes in any given jurisdiction are therefore the result of the dynamic interplay between the general housing policy approach and the social, political, historical, institutional and regulatory contexts.
Sock-Yong Phang


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