The Housing Bubble and Government Spending
When it comes to the real-estate market, the mainstream press has focused primarily on (1) whether a bubble exists, (2) whether the bubble will soon burst, and (3) how widely such a downfall will extend. Among macroeconomists, the debate has touched on whether the Federal Reserve’s post-dotcom moves paved the way for this “side effect.”
But another relatively overlooked issue concerns fiscal policy. With rising home prices come higher property-tax collections, which enhance government coffers. Will local officials subsequently engage in aggressive spending that could create long-term budgetary problems?
Much of the funding for these projects is coming from the booming real estate market, either from rising property taxes or fees on real estate transactions. Indeed, as housing prices increase dramatically, mayors are garnering funds for projects dry-docked after the dotcom bust. New roads and sewage lines are suddenly off the drawing board and causing traffic tie-ups.
For many communities, the windfall couldn’t come at a better time: Their budgets are still recovering from the recession.
“Without this increase in property-tax collections, many communities would be in dire straits,” says Chris Hoene, director of research at the National League of Cities in Washington.
Nationally, property-tax collections rose about 6 percent last year after several years of rising about 5 percent. But for some localities, the numbers are much higher. Montgomery County, Md., for one, estimates its revenue from real estate transfer taxes and a tax on recording deeds is up 80 percent.
States in red-hot real estate territory are also taking part in the boom. In Arizona, for example, property-tax collections were up 13 percent in 2004 compared with 2003, according to census data. Overall, the state reported an increase of 77 percent in individual income-tax collections this April over the prior year.
Officials are attributing the surge at least partly to the capital gains that individuals are taking on their real estate. “It’s an important factor,” says George Cunningham, deputy chief of staff and Gov. Janet Napolitano’s top budget adviser. “But Arizona really has been on the rebound for the last two to three years.”
Like other places with an unexpected increase in revenues, Arizona has lots of ideas on how to spend the money. Some lawmakers would like it to go to additional English-language instruction. Some money might go toward a reserve in case the forest-fire season is severe, and some money may be used to fund the third-year phase-in (out of five years) of all-day kindergarten. Funds might also go toward increasing the salaries of state employees. “Our employees are 20 percent below the market in salaries, and they are getting hired away at a fast rate,” says Mr. Cunningham.
While the data on this issue are still somewhat lacking, I nonetheless fear that short-sighted politicians will build ambitious programs based on unsustainable revenue streams. Thank goodness for people like Craig Clifford, the chief financial officer of Scottsdale, Arizona, who understands that “it’s a lot harder to cut than to add.” Otherwise, I’d be even more concerned with budgetary situations in “frothy” markets.