Investment needs to be encouraged
Long gone are the days when senior bureaucrats made and kept their decisions behind closed doors. Now we have jawboning and public attempts to influence commercial and investment decisions. Judging from recent statements, there's the desire to talk the dollar down further to as low as US80¢, and suggestions that there may be little downside risk to regulatory controls to reduce the rapid growth of investor borrowing.
In making this latest claim, the Reserve Bank governor, Glenn Stevens, focused on the double digit rate growth of investor loans now dominating new loan approvals. He also highlighted the popularity of interest-only lending in an environment of rising house prices, particularly in major locations. Apparently the Reserve Bank sees re-regulation of the banking system as an alternative to addressing the fundamental cause of the surge in investment borrowing: the generous incentives for taxpayers to maximise their tax deductions.
Investors may even find these latest statements reassuring, further encouraging their assumption that changes to negative gearing are not on the agenda. Behind their closed doors, former senior bureaucrats in both Treasury and the Reserve Bank have recognised the misallocation of resources resulting from the unlimited generosity of the taxation arrangements. Negative gearing provides large taxation benefits not from saving but instead from borrowing other people's savings including borrowings by the banks from overseas.
The popularity of this tax strategy has been increased dramatically over the past few years by the large cut-backs in the allowable superannuation tax deductions and the re-introduction of a 15 percent super surcharge on taxpayers earning more than $300,000 a year. The relative stability of property prices during the GFC compared with that of shares and managed investments has also resulted in more investment borrowing being directed into residential property. Unless and until the government addresses the fundamental cause of the popularity of interest-only heavily geared investment borrowing, regulating bank lending procedures won't help those who are really disadvantaged by the tax subsidies for investors, home buyers.
Perhaps this helps explain why the Reserve Bank sees re-regulation as an alternative to raising the cash rate. The people most hurt by higher interest rates are home buyers servicing their mortgages out of after-tax income. Higher interest rates only serve to increase the negative gearing losses of investors with variable rate loans.
For top marginal rate investors, the effective cost of a 5 percent interest rate is only 2.5 percent a year. A 2 percent annual rate rise which is possible if the dollar plunges more than the Reserve Bank hopes would only increase that after-tax rate cost to 3.6 percent. It's time that our senior bureaucrats closed their doors and developed policy options that encourage savings and productive investment.