Most people believe that as house prices rise, this is good for home-owners. It seems obvious, that if you own something, and the price of that this rises, you become richer. You have made a profit.
But it is not true.
I cover the case where all houses increase uniformly. For example x → px where p>1 or x → x+Δx where Δx>0. Conversely if the price of your house is increasing while the prices of other houses are decreasing, you can indeed make a profit, and benefit from the price change.
When you buy something, then sell it for a higher price, you make a profit. But when you sell a house, you normally selling it to buy a most expensive house. So the profit is sunk into another asset. You can never obtain your profit in cash.
If the price of your house rises while you are living in it, then you sell it to buy a more expensive house (the usual case), then the price of the new house has also risen by at least as much. You would have been as well (or better) off if house prices has remained stable.
The people who can make money from housing inflation are people owning multiple houses, people who downsize, people who become homeless, the estates of people who die and have no children. Investment funds are the big beneficiary of housing inflation, because they are free to buy and sell all of their assets.
In fact if house prices were kept stable by progressive government policy (for example continuous adjustment of to mortgage term limits, loan-to-value limits, or property taxes, similar to what central banks do with interest rates) then investment funds would sell their housing stock in favour of more profitable assets. This would be an even greater benefit to society (including home owners) from stable house prices.
The biggest loser is of course first time buyers.
There are other effects. You could argue that governments benefit from increased taxes. Estate agents and solicitors benefit from higher fees.
The other winner is banks. The profit a bank makes from a mortgage is directly proportional to the price of the house. So banks benefit not from price changes but from maximising prices. (Banks benefit even more from high interest rates and long mortgage terms, at the expense of home-owners. But these factors also influence house-prices. So the above generally true but not a simple relationship).
The above is not a unique feature of the housing market. It is an example of inflation. As assets increase uniformly in value through inflation, it seems like asset holders are making profit. When you sell the asset you make more money, but money is useless unless you use it to buy another asset. The price of the new asset has also increased by the same amount. So the holder reaps no benefit from the increase. That’s why economists say that the value of the asset remained the same but the value of money decreased.
So this result for the case of housing is not surprising. It is an example of inflation at work.
The main effect of housing inflation is a transfer of purchasing power (and in the long run, of money) from people buying and selling houses to banks and investment funds.
First, the number of people who downsize is not an insignificant amount. And as people age, many also turn to rental markets where they no longer have to maintain their home themselves.
Second, prices don’t rise uniformly. People from more expensive areas can relocate.
Third, don’t overlook the benefits of rising equity giving access to cheaper credit.
And the bottom line is, when housing prices rise, all prices rise in the market, including rentals. So even if there is little benefit, it is still better to have an asset that is also increasing in price rather than just having to pay more. Also, with fixed rate mortgages, you effectively get to lock in your housing price rather than getting repriced in the market.
They do really profit from inflation. But if they have children who then want to buy houses, overall the family loses just the same. Only investors win in the end.
It is true. I just limit the scope of the argument to uniform changes, to make it easier to explain. Including the effects of non-uniformity would make it much longer.
You mean how it is cheaper to remortgage than to get a normal loan? This is something I did not consider. Does that change anything for the overall argument?
Yes true.
There are options like a home equity line of credit (HELOC) or a cash out refinance that offered far better better rates than credit cards, personal loans, or other unsecured credit lines. But is is only accessible with significant equity. Such can fund home improvements, used cars, or other big ticket purchases.