Weaning America from Mortgage Interest Deductions

Encouraging higher rates of home ownership can be a worthy goal. But the mortgage tax deductions that have fueled the housing boom in part is a deleterous, market-distorting way of doing it. Hal Varian has a piece in the NY times to this effect and both Mark Thoma and Brad Delong links approvingly. Commenter Hari's thoughts at Mark Thoma's jumped out at me especially:

In an ideal world, no one would have to pay taxes. But given the need for taxes, and to do it in the fairest and the most economically efficient manner possible, the proposal to limit mortgage deductions is a very good and timely one.

The current housing subsidies:

1) Encourage and reward those taking on the largest possible amounts of mortgage and home-equity debt, as early as possible.

2) Discourage saving in general, and saving for a home purchase in particular because the savings are at a heavy tax disadvantage. The savings also lose purchasing power rapidly because the home prices are inflated by cheap and tax-advantaged credit.

3) Contrary to popular belief, make housing less affordable by inflating home prices excessively.
The proper way to make housing affordable is not by pumping cheap credit into the system while endlessly inflating prices, but by keeping house prices low and increasing supply. This will also reward those that save more while making it easier for everyone to pay off the principal (what an alien concept!?) instead of encouraging overconsumption and outsized debts.

4) Distort the economy by channeling capital away from more productive investments.

These effects are very clearly seen today in abysmal personal savings rates, and a housing bubble that is pushing people into taking larger and riskier loans.

Over the long run, limiting these housing subsidies will have a very positive effect because saving and investment will be increased, housing will be cheaper, and the economy will become more efficient and productive.

In the short run of course, there will be huge resistance to these proposals from those who stand to lose the most. Home owners have seen huge un-earned increases in their wealth in the recent past. These increases are largely a transfer of wealth from current and future homebuyers, and other taxpayers. The prospect of these unexpected wealth gains slowing down or reversing is not a compelling reason to avoid implementing a better and more equitable tax code.

Also, most opinions in the media seem to assume that rising home prices are a "good thing" to be cheered, while advocating reduced home prices is somehow completely unacceptable and almost sacrilegious. The past several years have seen enormous inflation in home prices with little income or job growth, primarily fueled by explosion of credit, tax subsidies and speculation. After 100% or more increase in home prices, if the prices are scaled back 20 or 30%, is it not something that should be welcomed? Are unlimited wealth gains for every homeowner and real-estate speculator part of a social contract that needs to be underwritten by future homebuyers, savers and other taxpayers?

Transitions can be tricky and specific measures might be looked into to ease the pain, but there is nothing more important for long run US economic health than to encourage saving and investment. These changes to the tax code are a step in the right direction.

Exactly. It would both be politically impossible as well as economically inadvisable (as well as horribly unfair) to pull the rug from under the current home-owners of America by reversing the mortgage deductions right away, but we should at least try and to get people used to the idea that mortgage deductions are not A Good Thing and need to be phased out. Sure, it puts money in your pockets if you're buying a home, but it's really a hole in the pockets of all American families because the taxes we're foregoing on mortgages really have to be found elsewhere.