Moshe Kahlon has bet his political chips on bringing down home prices. Will he succeed? Or will he become the latest politician to discover the Finance Ministry can be dangerous for his career?
By SHLOMO MAITALMoshe Kahlon(photo credit: MARC ISRAEL SELLEM)
“WE HAVE a severe, large-scale housing crisis, and I have not created it,” Finance Minister Moshe Kahlon said recently, in an interview with Globes business daily. “I got it as it is. …We will supplement supply, will not stop building and eventually this will affect home prices. In the home crisis, we will build and build until there are more homes than people. …Everyone invested in real estate does not wish prices to drop, including banks. This is obvious. Once the buyer fixed-price program is realized, it will affect the market. Otherwise, I will return to first grade.”In November, the Central Bureau of Statistics reported that the “Housing Price Index in Israel increased to 403.5, reaching an all-time high” and more than three times the level in February 1994. Housing starts were 12,163 units (April-June), a third of their previous peak (23,491); building permits, too, were at a third of their previous peak.The housing bubble is alive and well. But is it a bubble? We should hope not. A study by the International Monetary Fund shows that when housing bubbles burst, i.e. when housing prices collapse suddenly, deep economic crises emerge. A gradual decline in housing prices (a “soft landing”) is rather rare. So, we should hope that Kahlon manages to land our bubble gently by stabilizing prices. But there are growing doubts.Israelis continue to regard housing as a favored investment and, therefore, prices continue to rise. Bank of Israel adviser Dr. Kobi Braude argues that Israel’s housing supply has not kept up with demand since 2007, and this excess demand, along with low interest rates, led to soaring prices. Meanwhile, interest rates are rising; the average rate on loans linked to the Cost of Living Index is 4 percent.Why then did Kahlon predict the housing bubble will burst and bet his political career on halting it? A similar collapse in the United States and Britain brought major economic crises. It’s the last thing we need.Dr. Efrat Tolkowsky, of the Interdisciplinary Center Herzliya, told The Jerusalem Post last July that “Economics is about future expectations. So [Kahlon] thinks maybe he can change expectations, and if he cries ‘bubble, bubble, bubble,’ it’ll change.”This might scare investors into selling, or not buying. But they are not easily alarmed.So clearly, the housing bubble bogeyman threatens to sink Kahlon’s once-promising political career, as it nearly did that of Yesh Atid leader Yair Lapid.In this column (“When the Bubble Bursts” June 16, 2014), I reported on then-finance minister Lapid’s hapless plan to lower the price of flats by exempting first-time home buyers from Value Added Tax. I described the plan as “battling a blaze by pouring gasoline on it”; if you raise demand without boosting supply, you get higher prices, not lower ones.Lapid, a former journalist, had no experience in politics, business or economics.His housing plan failed. But he was actually not a bad finance minister. He introduced an unpopular austerity budget that slashed the deficit and he paid the price in the March 2015 Knesset election, as Yesh Atid fell to 11 Knesset Members from 19 in the previous Knesset.It is now beginning to look like Kahlon may have a similar fate. If so, it would be tragic.Kahlon is no Lapid. The fifth of seven children born to Libyan Jewish parents, Kahlon launched a successful business importing car appliances. He became a Member of Knesset in 2003, and in 2009 was appointed Communications Minister.In this role, he created the revolution that opened cellular communications to competition, drastically slashing cellphone bills.This won him Prime Minister Benjamin Netanyahu’s iconic admonition to his cabinet: “Be like Kahlon!” Kahlon resigned in 2013, formed a new party “Kulanu” and won 10 Knesset seats in the 2015 election, running on a focused platform that promised affordable housing and a lower cost of living. Kulanu joined the Netanyahu coalition and Kahlon became finance minister.Kahlon has placed all his political poker chips on fulfilling his election promise.His ministry, together with Construction Minister Yoav Galant, has backed plans to control housing inflation. The flagship plan is called mehir lamishtaken (Price for Occupant). An earlier plan, initiated by former construction minister Uri Ariel called mehir matara (Target Price), was canceled.Kahlon also has proposed a controversial proposal to tax individuals who own three or more apartments (several Knesset Members qualify).Here is how the two Kahlon plans are supposed to work and why they will probably fail.● Price for Occupant: Developers bid, in tenders, to build housing for the lowest construction price per meter, according to defined standards, in return for a substantial discount on the price of government land.Those eligible for these properties are firsttime home buyers and those who want to improve their current residence. Housing is allocated by lottery. Some 6,000 housing units are in the lottery, or soon will be, for cities from Kiryat Shmona to Yeroham and Dimona. Incidentally, some homes built under this plan have already had serious problems with low quality.● Tax on those owning three or more apartments: Those who invest in housing and own three or more apartments will be subject to higher tax, in order to reduce demand.I spoke about these policies with Dr. Noam Gruber, a researcher with the Shoresh Institution, a think tank headed by Dr. Dan Ben-David that conducts “impartial, evidence- based analyses of Israel’s economy and civil society.” Gruber has just published a new study on the key reasons for housing price increases in Israel and on Kahlon’s housing-policy initiatives.On reading Gruber’s report, it is easy to understand the reasons for housing inflation and the reason Kahlon’s key plans will fail to control it.Prices rise when demand exceeds supply.From 2008 to 2012, 33,570 additional new housing units were supplied per year, on average. But the average annual increase in demand was nearly double ‒ 35,240 new families were created, plus investors’ added demand for 25,433 units, or a total of 60,673 units. Gruber’s calculations show that the demand for housing units more than doubled, while the supply rose only 6%. That is what drives up housing prices.According to Gruber, Kahlon’s plan will not significantly increase the supply of housing, and without a substantial supply boost, prices will keep rising. Indeed, the only way to control housing inflation if investor demand remains strong is to boost supply, and that requires a revolution in the way construction is done in Israel.The Jerusalem Report: Kahlon is putting all his political capital on “Price for Occupant” just as Obama put nearly all of his on Obamacare… But you note that “the large share of the discount in the price of land will end up in the pockets of construction companies and investors.” Has this proved true so far in the early stages of “Price for Occupant?” Do you think the Finance Ministry is able and willing to listen to evidence, practice evidence-based policy, or blindly and stubbornly proceed against the facts?Gruber: “At this point, there is only anecdotal evidence. There seems to be substantial discontent on the part of the buyers about the composition of apartments being offered (too many large apartments), and there are already cases (in Lod and Raanana) where Price for Occupant apartments do not appear to be much cheaper than comparable ‘free market’ apartments. I am concerned that politicians may want to have this sort of program for appearance’s sake. The money would be better spent streamlining the supply of land for construction.”Regarding the proposed tax on housing investors, Gruber warns that there is a powerful incentive for investors to conceal their housing purchases via proxies – such as relatives who do not yet own housing units. There is evidence this is already occurring.The Report: Productivity in Israel’s construction industry is abysmal. There is a plan to bring even more cheap labor from abroad. This, you show, will not help to boost housing supply. Can you give details of your plan to raise productivity and modernize construction in Israel, which is still in the Middle Ages?Gruber: “This is very true. As your colleagues in the Technion can attest, construction in Israel is mostly conducted using Third World methods. The construction sector in Israel has become addicted to cheap labor [first the Palestinians, then foreign workers and now a mix of the two]. “When labor is cheap, you don’t need to invest in machinery and industrial processes. My suggestions would be to stop the inflow of cheap labor and to incentivize investment in construction machinery. In addition, I would suggest adopting construction regulation that is compatible with EU and US regulations and standards, and to open the Israeli construction market to all qualified foreign companies. These foreign companies should mostly use Israeli workers though ‒ they should not be allowed to import their own cheap labor.”Gruber’s assessment is supported by researchers at the Bank of Israel. They note, in the bank’s 2015 Annual Report, that “Price for Occupant” is a “small bandage on a bleeding artery” and will only increase the demand for housing, not reduce prices.The bank goes on to recommend allowing entry of foreign construction companies to increase productivity and boost the supply of apartments in the long run.Gruber’s research notes that 90% of the land in Israel is government-owned. In no other country is this the case. Therefore, most private housing is built on leased government land. A key bottleneck is the supply of land approved by the government for construction.Artificially lowering the price of land approved for construction (without increasing its supply), Gruber believes, will simply lead to excess demand for housing. He thinks construction firms will appropriate a large share of the profits from government-initiated discounts in land values.The Finance Ministry claims it can target the sale of subsidized housing units to firsttime buyers only. But the government’s ability to discern between first-time buyers and third-party “proxies” is very limited.The Finance Ministry has proven more than once to be a wasteland for promising political careers. Opinion polls in December indicated Kulanu would win only seven Knesset seats if elections were held tomorrow, down from its 10 Knesset seats today.Voters do not seem to believe Kahlon can make good on his election promises.In contrast, Lapid, who now plays a vigorous opposition role in the Knesset, largely replacing the anemic Zionist Union leader Isaac Herzog, would see his Yesh Atid party gain 25 Knesset seats, according to the latest polls, if elections were held tomorrow, making Lapid the leader of one of the two largest single parties (Likud, in the poll, would get 25 seats as well) and hence a candidate for forming the next government. How quickly has-beens become heroes in Israeli politics, and vice versa.But, with the current coalition government seemingly stable and secure, national elections are not likely to be held for at least two or three years, so Kahlon has time to revive his electoral fortunes. It would be a shame to see such a capable political leader sidelined. He should listen to the experts and rethink his housing policies. As things stand now, they will fail. And the cost of failure may be heavy for all of us.The writer is senior research fellow at the S. Neaman Institute, Technion and blogs at www.timnovate.wordpress.