“…humans have a poor record of understanding risk in complex systems, full of interdependencies, feedback loops, and nonlinear responses. Perhaps humility and caution and consideration are warranted.”
My new job is in a building with a revolving door, and spinning that thing around a few times a day will get you thinking. We already know that revolving doors have the potential to save a not-insignificant amount of energy through climate control efficiency. But I wanted to know the answer to a more ambitious question – if we made every door in the United States a revolving door, and attached a turbine to them, how much energy could we generate?
I’m not such a science whiz, but fortunately I had a little bit of help – the inestimable Randall Munroe had already tacked a similar question, and his calculations were a good guide to the information I needed to know.
Fortunately, the MIT study cited in both the above links had already done a decent chunk of work, calculating that an average revolving door requires, in foot-pounds, fourteen times the length of the door, which is also the radius of the circle which incloses it. Browsing this brochure, a decent estimate for the average diameter of a revolving door is 2700mm, and from there we can do a little simple math and deduce that on average it takes 0.023 watt hours to open a revolving door (and let’s assume the turbine can perfectly convert work to electricity for now).
Next, I had to guesstimate how many times Americans would enter or egress through revolving doors, assuming revolving doors were the only ways in and out of all buildings except single-family houses. Using some data from the BLS time use survey (augmented by NMHC data) I came up with a few coefficients using the venerable technique of “meh that seems rightish” and came up with a daily aggregate average of 5,221,919,613.23. This works out to about 21 spins per person per day, which seems more than close enough to estimate. Then you just need to do some multiplication and then attach a price to electricity (Randall used $0.15, but I’m going to go with a dime based on this EIA data). Once you’ve done that, you get a grand total of….$4,451,115.65.
If this sounds underwhelming, it is. Revolving doors start at $2,500, and therefore the Fermiest of estimates suggests that retrofitting every building in America with one might be a $20 billion job, meaning your ROI here is, generously, two-and-a-half basis points.
The reasons for this, fundamentally, is that it just doesn’t take very much work to push a revolving door relative to the energy needed to power modern society. A kilowatt hour is enough energy that, if you hit a golf ball with that much force at St. Andrews, you could sink a hole-in-one at Pebble Beach. Going through a revolving door only generates one fifty-thousandth or so of that much energy; but your average American house uses thirty times that much energy every day.
What does this all add up to? Our whole social, economic, and political order is built, on a very fundamental level, on massive production and consumption of energy beyond that humans and animals could supply directly with their body. Finding sources for that energy is hard, and even if you could capture all the adult humans in the United States exert, you’d probably only be generating at most $20 billion a year, which is still not even 10% of the energy residences alone consume annually. This, semi-coincidentally, is also why The Matrix was pretty dumb.
Anyway, to really meet our energy needs as we wonder whether fossil fuels will run out before or after we’ve trashed the planet beyond the point of no return, we need to turn to much vaster sources of energy. You know, like the sun.
On Monday, Ray Rice was fired. After an initial decision to suspend the Baltimore Ravens’ running back for two games earlier in the summer, the National Football League revised its decision to indefinite suspension after TMZ published a video leaked to them showing, not merely its aftermath, but the actual moments of horrible violence Rice committed against his now-wife Janay. Today, the Associated Press disclosed that, contrary to their claims, the NFL had this video in their possession since April. The NFL, for the moment, denies this is so.
Maybe it’s true. But either way this video clearly existed, and if the NFL didn’t have it, it was not out of an inability to procure it but an affirmative desire not to possess it, to see what it contained, to be forced to expel an exceptional talent from a team that won the Super Bowl just the year before last. This incident is horrifying, despicable, and dispiriting for a tangled myriad of reasons; but one thing it clarifies is that there is a rot in the heart of American professional sports, and it is a rot with only one solution – full and complete public ownership.
The reasons such a nationalization (for lack of a better term) of American sports – centrally, the big four sports leagues, the NFL, NBA, NHL, and MLB, as well as all their teams and other properties – is not just desirable but necessary are manifold and interweaving. They are economic, political, social, and even spiritual. I will attempt to tackle them in as organized a fashion as possible, but especially since I already do not believe in clear or obvious delineations between these various spheres of human life, I will move in an order that may be primarily guided by emotional sense.
I will begin, though, with cold hard economics. Sports leagues are natural monopolies. Barriers to entry are extremely high, and like other natural monopolies such as utilities, increased competition often means doubling or tripling investment to chase roughly the same quantity of revenue. The XFL cost at least $50 million ($67 million adjusted for inflation) to start up and likely much more, and its failure was instructive. Fundamentally, it was competing against a well-resourced, deeply-entrenched incumbent, and could not offer top-tier talent. That so few competitors of any substance have broached taking on the major leagues in the decades they have been dominant economic, social, and political institutions is in-and-of-itself evidence that competing against these leagues is inherently all-but-doomed. Admissions to spectator sports in the United States alone totalled $22.3 billion in 2013, which doesn’t include the additional billions from television rights and merchandise. Even excepting the MLB’s exemption from certain antitrust laws, one has to imagine that, were it possible for a competitor to profitably challenge the dominant leagues for a slice of that fortune, they would. But alternative leagues would offer poorer players, poorer officiating, and a lack of the earned history that builds the kind of devotion that keeps fans returning year after year – not to mention a concerted effort by the existing leagues to destroy them wholesale.
In other realms of life, natural monopolies are regulated, or at the very least the topic is up for discussion. In sports, however, not only are leagues not regulated, they are bathed with public subsidy of all kinds. The most obvious and widely condemned are the vast giveaways to support ever larger and grander stadia, not merely at staggering opportunity costs but at the cost of the neighborhoods which house the facilities themselves, which in all but the rarest and most careful cases tend to laughably contradict the eager promises of economic development by politicians and team flakes, instead leaving hollow neighborhoods in their wake. But these modern monuments are just the tip of a much larger iceberg of public funds vacuumed by the oligarchs atop the rapidly-narrowing hierarchy of professional sports. Municipal resources and cooperation devoted to propping up teams add up rapidly, everything from crooked land deals to arrange for stadia to police officers managing traffic in and out of games or inevitably dealing with rowdy fans. Broadcasting is another – the various waves and tubes that bring sports into the homes of millions are either public property or implicitly or explicitly supported by regulation (or lack thereof). Taxation is another – the NFL and NBA are, hideously, non-profit trade associations and thus exempt from taxes; the MLB was until 2007, when it decided it preferred opacity to filing an increasingly-embarrassing 990.
In each of these cases sports leagues are able to use the unique nature of their monopoly power, just as real yet much more flexible than laying miles of underground pipes, to create a network of dependencies, each one reliant for funds and support of leagues and teams to justify their positions – networks, mayors, and secondary and tertiary business owners increasingly need the continued patronage of national leagues or local teams to stay afloat, and each is helpless before threats to vacate existing obligations should a new stadium not be built, or a more favorable broadcast contract be signed. In each case that public or semi-public moneys and resources flows into these leagues, there is a corresponding relationship of peonage on which the pyramid of professional sports relies. Watch local officials, egged on by local media and local businesses, flail in panic every time a team threatens to vacate for more lucrative waters – if you can stand to.
By far the largest and most corrosive of these dependencies is our university system. Almost always exempt from taxation when not themselves public entities, our nation’s colleges and universities function in all but name as subordinate leagues to the professionals atop the pyramid. These leagues are in many ways even grander exploitations of public trust, and of socioeconomically vulnerable populations, than the professional leagues themselves, but they are also fiercely codependent with those same leagues. Public resources in monumental quantity are shoveled into the zero-sum activity of talent discovery, for which the schools and their administrators and faculty are handsomely compensated and increasingly dependent, but for which the laborers themselves are paid with nothing but an education in-kind – an education that is more often than not a perfunctory justification for their presence on campus, providing no skills or knowledge to equip athletes in the overwhelming probability that their collegiate athletic career will fail to lead them to a career in the big leagues.
Athletics are an unusual case in our society because they are one of the few fields in which almost all observers would agree that success truly is overwhelmingly driven by merit; and further that a necessary-if-not-sufficient condition of that merit is natural talent, for which no amount of training or socialization can substitute. Nevertheless, the cost of identifying and training this talent to perform at a level competitive with other professional athletes is enormous and entials, frankly, an enormous amount of waste – the opportunity costs of the time and resources spent discovering which few dozen of the tens or hundreds of thousands of youth who this year have put on their first helmet or glove, skates or high-tops, are staggering, and despite frequent protestations to the contrary, the skills, knowledge, and socialization gained through extended participation in sport in school, from elementary to university, are often useless in modern society, or at the very least somewhere between equally and vastly less useful than the skills, knowledge, and socialization gained through other extracurricular activities, activities with essentially no meaningful financial or institutional support compared to sports. The athletic experience, especially as one gets older and moved into more competitive spheres, may even be counterproductive. Locker rooms, especially but not only male locker rooms, are potent incubators of some of the worst in society and humanity – homophobia, xenophobia, racism, exclusivity, aggression, militarism, unthinking hierarchicalism, and of course, misogyny. For every athlete who comes away from a locker room with positive memories of camaraderie and cooperation, many more likely come away bullied and scarred, damaged and ready to inflict damage on others.
The NFL is an extreme but clarifying case. Approximately 60,000 students at any given time are playing NCAA football. These individuals, disproportionately drawn from the most disadvantaged corners of our society, are immersed in the toxic environment of the university-athletic complex – a hierarchy of corruption and blind fealty that is precisely the type prone to the sort of scandal witnessed at Penn State – and sent out to collide their bodies against others, day after day, perhaps for years. They will receive not a dollar in fungible wealth to their name for doing so, and fewer than one in fifty will play a single day in the NFL – yet how many will find themselves with lifelong damage to mind, body, or soul from the experience?
In the greatest irony, the very rarity and irreproducibility of athletic talent makes players zero-sum resources that, as they emerge from the vast many as one of the elite few, causes them to be lavishly pampered and zealously protected, living lives without reproach or accountability. Your average NFL player is more likely to be penalized for harmless antics on the field than actual violence off the field. This lasts as long as a player is productive, after which they are effectively discarded. A few end up on television, the rest are trotted out occasionally for interviews, signings, local events – presuming they can still walk and speak.
The sum effect of all of this is to create a vast and complex network of corruption, venal dependency, and exploitation, in which the labor of hundreds of thousands of athletes and the funds of millions of fans, and beyond that every American citizen, is sucked away as efficiently as possible to be divvied up among a handful of oligarchs – the purest of rentiers who simply collect tremendous rents and produce no new innovation or value – whose pyramid of wealth resembles nothing more than Bronze Age temple economies, in which public power, private industry, and religious authority were fused into monumental institutions which touched, if not dominated, almost all of society. Our systems of public finance, public justice, and public management of public or quasi-public resources are all compromised by these leagues and their enmeshing into the fabric of American life.
This all works because sports play a vital social function. Beyond the genuine value they do provide to participants, at least before those participants become nearer to the toxic core of the industrial sports complex, they play a key role in modern social cohesion that should not be underestimated or dismissed by intellectuals who puzzle over why Americans can memorize batting averages yet know so little about geopolitics. Sports are our common denominator, the thing so many of us might have in common with so many others with whom we might share so little. In almost every conversation I’ve witnessed or participated in between American males from vastly different socioeconomic backgrounds, sports inevitably arises as a topic into which all can join, a lingua franca in which all knowledge and opinion is equally privileged and in which all have an equal emotional and spiritual stake. The rise of city-branded teams alongside the increasing urbanization of America is not a coincidence – as we found ourselves in strange new metropoli surrounded by strangers with different histories, religions, and even languages, we all latched on to what we could share. No matter what else, if you and I are from the same city, we likely root for the same team (or share a passionate but collegial rivalry between neighboring teams). As traditional social bonds dissolved or decayed, sports were there; as American cities evolve, often towards homogeneity, teams are repositories of distinct identities, not just in their names but often in their mascots, merchandise, and arena traditions and concessions. As Americans go to college, move from one city to another, and increasingly meet people from different backgrounds, sports is something that can break ice, forge bonds, and power not just pairings but repeated larger groupings of people essential to human societies. This is the element that makes professional sports teams so anticompetitive above-and-beyond those found in an economics textbook. You could find any forty good baseball players and bring them to Boston and call them Boston’s team, but only the Red Sox are the Red Sox and only Fenway is Fenway. If you don’t have that, you have nothing; if you have that, you have everything.
Yet it is this precise confusion between public identity and private gain that makes our social and spiritual reliance on sports so dangerous. There is an irreconcilable contradiction between our love of, and need for, sports, and the fact that the overwhelming share of the material wealth poured dollar-by-dollar by fans of every class and creed finds its way into the pockets of fewer men – and they are almost always men, rich, white, and old – then could fill even the bleachers at your average Little League game. It is the central and perhaps even vital role that sports plays in our social fabric that allows for the popular defense of these leagues and teams even as they inevitably corrode everything that comes too close – the neighborhoods bulldozed, the public channels of information corrupted, the education system rendered helplessly dependent, and the minds and bodies of players – and, most tragically, often those closest to them as well.
Fortunately, the solution to all this is obvious; unfortunately, it is unlikely to transpire, at least not without both major blows to the leagues specifically and a broader transformation in American values and attitudes more generally. The irony of this is that there is, of course, living proof that nationalization of professional sports can not only work but flourish; it sits in Green Bay, Wisconsin, a city of scarcely a hundred thousand, yet home to one of professional sports’ most successful franchises. The Green Bay Packers are profitable; they win (two of the 28 Super Bowls in my lifetime); and they are ‘owned’ by 360,584 fans who receive no pecuniary consideration, nor the possibility of such consideration, from their shares – only the right to hold the team accountable and have direct input into its fate.
Municipal or cross-municipal corporations exist across America and, though not without their problems, they generally work, certainly well enough to dispel any reason to think they are inherently doomed to failure. Whether structured as a metropolitan authority or placed directly in the hands of citizen shareholders, for professional sports teams to be essentially public property easily passes any potential test of feasibility one could imagine. It is also the only way to permanently bring sports teams and leagues – which are today essentially public institutions being operated purely for private benefit – into alignment with the interests of the public who fund them, support them, and should have every right to hold them accountable directly. Until then, expect the endless litany of scandals to continue unabated – doping, abuse of players, abuse by players, abuse by coaches and other officials, racism, exploitation of public funds, the cover-up and the protection and the facilitation of criminal and vile behaviors of all kind, and any more you care to imagine. The only way to fix sports is to make sports work for the fans and for the people – and the only way to do that is to make them truly ours.
PS: I am well aware that the NHL, NBA, and MLB have teams in Canada. This is a purely logistical obstacle, and one that, in the event broad ‘nationalization’ occurred, would be easily rectified. There’s no reason Toronto can’t own its teams, too.
This is the dumbest post I have ever written. You have been warned.
Bitcoin except videos of cats are money.
— Left Outside (@leftoutside) August 20, 2014
Isn’t one pet-meme cryptocurrency enough? RT @leftoutside Bitcoin except videos of cats are money.
— Squarely Rooted (@squarelyrooted) August 20, 2014
@squarelyrooted no I mean we exchange credits and debits to a access to cat videos. A cat standard.
— Left Outside (@leftoutside) August 20, 2014
I found that last bit…intriguing. Backing our currency with cat videos would, of course, be very difficult to work (backing a currency with something whose marginal cost of replication of zero is probably not a recipe for stability)…but what if we backed our currency with actual cats?
The biggest question to answer is ‘how many cats would the government need to hold in reserve to make the standard work?’ So I went back to look at how much gold the government had when it had a gold standard, and then, in need of a denominator, indexed it as a ratio to national income (using Piketty & Zucman’s data).
Rather than over-analyze the data, I just took the average value of all the individual year values, came up with 1.98%, and multiplied that by national income today (just over $14.5 trillion) to estimate that the government would need to hold in reserve $288.7 billion in cats to maintain a cat standard.
This means we have a problem. The Humane Society estimates that there are 95.6 million owned cats in America, and that there are another 30-40 million stray or feral cats. That means an outside estimate of ~135 million cats in the United States. Which means even if the government eminently domained every living cat in America, that would still imply a valuation of over $2,000 per cat, which is an order of magnitude more than the current market price. This would, among other things, be highly disruptive to the cat market. It would also be hard to sustain, since rescue cats are largely sold by non-profits at the marginal cost of vaccinations, microchipping, etc.
So what the government needs to do is breed cats. Lots of cats.
Assuming we’re not talking about a purebred standard, the kind of cats the government might be keeping in reserve would probably have a market value of around $100/each, which means we would need the government to hold, in reserve, twenty times as many cats as exists in the United States today – 2.7 billion cats. Firstly, that could take a little time – depending on how large a cat base the government started with (presumably they wouldn’t catnap every cat in America), as long as a decade. This is not the insurmountable obstacle, though.
Cats, by nature, are kind of territorial.
That same study showed that outdoor cats have quite a substantial home range – as large as 1351 acres, though the average is just 4.9 acres. Even applying that average across the board, to 2.7 billion cats that gets you to 20.7 billion square miles – over a third of all the land area on Earth.
So let’s assume substantial overlap – even if you assume 100 cats per home range, that still gets you to 200 million square miles, 5-6 times the size of the United States. To get all those cats into, say, Wyoming, you’d have a density of 27,602 cats/square mile – which is shockingly close to the human density, 27,779 people/square mile, of New York City.
Wyoming, in other words, would look like this:
And it turns out Wyoming land isn’t cheap – if you apply the $450/acre for ranch land quoted in this article, over $28 billion.
Of course, total land value in the United States is probably over $15 trillion at this point so we could just have a land standard. That would be a lot easier. A whole lot easier…
Than herding cats.
Basically, they inverted the BEA’s Regional Price Parities and mapped it – cool!
It needs a bit of context, though. Specifically, there’s something very clearly driving this outcome. Fortunately for us, BEA subdivides the RPPs into Goods, Rents, and Other Services, and provides us with a good-enough guide to how it weights them that we can create a parallel “non-housing cost” index and see what happens. And what do you know?
Once you exclude housing, the distribution of outcomes is much narrower and much more clustered around its central tendency. Or more bluntly – everywhere costs a lot more like everywhere else when you don’t consider housing.
Of course we should consider housing! It’s really important! But we should also be clear what expensive housing means – lots of people want to live somewhere. Often because wages are high. And guess what? If we graph the state rent index against state per capita income:
It becomes pretty clear that higher wages (or at least higher average incomes) are likely the reason housing prices are high.
So if you live in DC, you’re probably not paying that much more for most things than an Alabaman is; you’re just paying a premium to live in a high-wage area that can’t – or won’t – build enough housing to keep up with the demand to live somewhere wages are high.
A typical cow in the European Union [in 2002] receives a government subsidy of $2.20 a day.
And if your next thought isn’t “of course he’s going to reconstruct this figure” then you haven’t read this blog before, have you?
Turns out, though, that doing so was surprisingly challenging, in part because it meant recreating all the assumptions behind that figure and in part because European agricultural policy is an epic rabbit hole (cow hole?). But, after some slogging and some tweaking, I was able to recreate the methodology that produced the original $2.20/day (and subsequent $2.60/day) figure, but it came with a wallop of a surprise:
I didn’t adjust the currency because that’s it’s own field of cow holes, but yes, those 2002 and 2003 numbers basically check out. But look what’s happened since then!
Before you get too excited about the EU attempting a radical break with subsidizing agriculture, it turns out that this is a consequence of the ‘decoupling’ – the shift in EU ag policy from subsidizing specific commodities to subsidizing practices and benchmarks that cut across commodities, which has lead the OECD to basically throw up its hands in terms of trying to derive consistent commodity series. Don’t worry, though, I used a rough previous average of milk as a share of total ag subsidies to impute the recent numbers:
And given the wealth of data and anecdotal evidence that dairy farmers in Europe are still getting plenty of government (don’t say cheese don’t say cheese)…tofu?…anyway, there’s no reason to think European cows are getting too shafted, even though it does seem like 2002-03 was perhaps peak season for cow bucks.
But this doesn’t get into the larger issue with this number – that the vast majority of the total subsidy to dairy as computed by the OECD doesn’t come in direct government-to-producer payments but in implicit support, for example through tariffs, whose impact is much harder to quantify – they impute it through trying to measure negative consumer surplus. As Jacques Berthelot wrote at the time, their methods are far from bulletproof. Either way, the figure gives the at least somewhat-misleading impression that the $2.20/cow/day is received entirely in the form of cash transfers, which I suppose is misleading to the extent that you draw a distinction between the two.
Anyway, in conclusion – we no longer know how much subsidy European cows get, and maybe we didn’t really know at the time.
A final thought – a dairy cow in Great Britain will put you back, roughly on average, $2,500 (or just under 1500 GBP, or just over 1,850 EUR). So you could always try this yourself.
Wonkblog’s Matt O’Brien had a great reminder last week that Eurozone policymakers’ obsession with low inflation is fueling a monetary policy that is extremely damaging to the broader European economy and the lives of millions of Europeans. A recent paper, though, suggests the problem may be even worse then we thought.
Jessie Handburt, Tsutomu Watanabe, and David E. Weinstein recently published a paper that purports to have assembled “the largest price and quantity dataset ever employed in economics” to assess how well the official Japanese CPI is measuring inflation. The answer is ‘not so good’ – but the reason for that answer is scary. To wit:
We show that when the Japanese CPI measures inflation as low (below 2.4 percent in our baseline estimates) there is little relation between measured inflation and actual inflation. Outside of this range, measured inflation understates actual inflation changes. In other words, one can infer inflation changes from CPI changes when the CPI is high, but not when the CPI close to zero.
What does that mean? They draw two clear conclusions. Firstly, that national CPIs routinely overstate inflation – here is their (better) measure stacked against the official measure:
Since 1993, the official Japanese statistics show a net decline in prices of just a few percent, whereas the authors’ numbers show a decline close to 15%.
The other conclusion is that, even though over the long term the CPI overstates inflation, when inflation is low, the CPI is basically no better than a random guess as regards any particular measurement.
This means that while, on average, the CPI inflation rate is biased upwards by 0.6 percentage points per year, one can only say with 95 percent confidence that this bias lies between -1.5 and 2.8 percentage points. In other words, if the official inflation rate is one percent per year and aggregate CPI errors are the same as those for grocery items, one can only infer that the true is inflation rate is between -1.5 and 2.8 percentage points. Thus, a one percent measured inflation rate would not be sufficient information for a central bank to know if the economy is in inflation or deflation.
In case it wasn’t clear enough, Europe is definitely in the ‘flying blind’ zone:
As is more and more of the developed world in general:
This is, errr, kind of terrifying. Because what it all adds up to is the conclusion that monetary policy makers are throttling growth because they’re relying on data that is both inaccurate and imprecise. The inflation fears that have crippled Western recoveries for half-a-decade and running are based purely on phantoms.
My post last week on the case for homeownership as an investment has received some good feedback (the e-word is hereby banished from this blog), a good chunk of which has been constructively critical. While I responded to specifics in comments, I also wanted to supplement the post by fleshing out the remainder of the argument and adding a couple of points.
It has been pointed out to me that there are certain costs – mostly taxes, insurance, and maintenance – that weren’t included in my spreadsheet and only implicitly in my analysis. This is – for the most part – true! I did handwave away depreciation, as much for the sake of simplicity as anything, but I only touched on the other two to the extent that they’re wrapped up into the rent counterfactual. Let’s delve into that some more.
Rent – the price of shelter to non-owners – is in the simplest analysis driven by the same things that drive all markets prices: supply and demand. That means rents aren’t directly responsive to the costs of housing, but those costs do impact the supply curve. If the costs of creating and renting new housing can’t be justified by rents, then supply will not rise even if demand does, driving up prices until they are so justified. Therefore, in general we should expect the costs of renting shelter to be similar (though not equivalent) to those incurred by the owner of the same. In fact, I bet if you play around with The Upshot’s ‘Buy vs. Rent’ calculator, you’ll find that housing and rental costs are very similar.
This brings me to my next point; while people have pointed out what costs I didn’t include, fewer have mentioned the benefit I didn’t include in my analysis, even though that benefit is much vaster. I focused solely on the capital gains returns of buying a house to demonstrate the power of leverage, but the huge share of the returns to a house are the rents you receive as an owner. This is central to any complete case in favor of homeownership. It is further worth noting that these imputed rents are, in fact, an enormous share of our economy.
Net imputed rents, as I pointed out in my Piketty thinkpiece which seriously you must have read this thing by now also tend to be fairly stable, returning between 4-6% of the house’s price over time.
This chart actually understates the stability of imputed rents (as the former chart makes clear) since most of that volatility is driven by volatility in the denominator. For context, here’s the Case-Shiller index, since basically forever (with bonus real interest rate series):
While volatility has more recently increased (consider that my application for the Understatement of the Year Award), note that houses, at the very worst, tend to be inflation proof (the Case-Shiller is a real, not nominal, index) – an asset whose nominal price grows alongside inflation while consistently returning 4-6% annual net returns is, hey, not too bad, and if you can use tax-privileged leverage to buy it, not too bad at all. Especially since we’re going to pay a bundle for housing no matter what we do:
…using housing as a vehicle for savings makes an additional sense.
That leads me to an additional point on volatility; here’s Shiller’s stock price index, also since basically forever:
That looks a lot more volatile than house prices, huh? Which brings us to a key point – as asset price volatility increases, so does the importance of investment timing. This, as Neil Irwin recently noted, can make long-term averages of returns misleading.
While his examples are obviously stylized, they clearly-enough make the point that otherwise-identical savings behavior in a volatile market can achieve vastly different outcomes depending on the timing of returns even holding long-term average returns constant. Therefore, the relative stability of housing returns – prices + rents – helps savers reduce long term risks.
I want to conclude, though, by taking a major step back and examining the whole purpose of this exercise. When we’re talking about savings from a consumer perspective (not from an investment perspective) what we’re talking about is retirement; and when we’re talking about retirement, we’re always talking about the same somewhat-odd phenomenon. When a person retires, they cease all economic production through labor, yet continue to demand a share of the economic output of their society. We tend to view these claims as just and deserved because they are made by the elderly, who we feel have earned it/are unable to work/are generally venerable (as opposed to similar claims from the non-elderly poor, which we treat very differently) but that doesn’t change the underlying structural nature of the phenomenon, in which we are trying to ensure that a substantial portion of the adult population is consuming an broadly-equally-substantial portion of present economic output while providing no inputs.
Debates about savings and retirement, therefore, are all about how to structure this phenomenon – specifically, what network of programs, policies, mechanisms, incentives, and behaviors we want to establish to justify to the working and capitalists that a portion of their labor and capital outputs be directed to the non-working old, which we often do by creating mechanisms that somehow tether those portions of redistributed present income to guarantees of future income. All governments in wealth nations do this, and the ways in which they vary are influenced heavily by politics, ideology, and other socioeconomic factors. In the United States, our prevalent ideology around a certain kind economic freedom means we tend to be less generous in direct public redistribution and instead attempt to subsidize private savings through the tax code and public insurance – ergo, 401(k)s, the home mortgage interest deduction, and the Pension Benefit Guaranty Corporation. Indeed, the increasing prevalence of that ideological strain is driving defined benefit plans into extinctions in favor of defined contribution plans.
This leads us to many debates about the best savings vehicles for middle class Americans, yet those debates are to a decent extent a red herring – the vast majority of retirees receive the majority of their retirement income from Social Security, and for many, it’s all the income they have - though to be consistent, I’m nearly certain the figures in the chart below don’t include imputed rents, though I could be wrong, and this is important because 80% of seniors are homeowners:
This is very good evidence for the proposition that a vastly disproportionate share of the private-savings-for-retirement subsidy network flows to those who need it least. And it suggests that questions like “houses v. stocks” are, for many Americans, mostly a red herring – if we want to put more money in the hands of retirees, we should simply make Social Security more generous – or, in a better world, maintain it at its current level of generosity while implementing a Universal Basic Income.
This, of course, is an increasingly common view in the “internet wonk community” (one I consider myself an member of), distinct from the related and equally-prevalent view that ‘homeownership should be much less subsidized than it it now.’
This is also a view I take issue with, which you’d already know if you read my big Piketty #thinkpiece – you read my big Piketty #thinkpiece, right? right? – and one that I think needs a little elucidating and defending in detail.
There are three basic reasons that buying a house is a vastly better investment than current wonkpinion suggests. The first is that making large leveraged investments can pay off hugely even if the underlying growth rate of the purchased asset is slow. Let’s demonstrate.* Let’s take an average American buying an average house in an average way – $200,000 purchase price, 20% down, 4% closing costs, 5% interest rate. Now let’s say the value of that house grows reeeeeeeally slowly – just 0.3%/year, which just so happens to be the compounded annual growth rate of the Case-Shiller index since 1947.
If our average American sells their house after 10 years, their initial $48,000 equity investment will become $67,691.08 – which means their equity grew at a CAGR of 3.5%! If they sell after 15 years, they’ll net $92,209.57, which is a CAGR of 4.45%. Hey, that’s a lot higher than the 0.3% growth rate of the house’s price itself, isn’t it?
It sure is! The amazing power of leveraged investments is that you can turn a little bit of equity into a large return, as Matt Yglesias notes concisely here. Here, in fact, is a nice little graph demonstrating the implied return rate of selling your house after making regular mortgage payments for a given number of years, given the interest rate paid, assuming that meager 0.3% growth rate:
After 13 years, you’ll get a 3% return even at a very high interest rate; at 19 years, you’ll get a 4% return. In fact, you can assume zero growth and still get a substantial return on your initial investment – as long as you don’t count the regular payments on the debt.
Hey, what about the regular payments on the debt?
Good question! This brings us to my next two points. Because if leveraged investments are so awesome, why don’t we empower (and perhaps subsidize) average people to make large leveraged investments in stocks, which have a much larger underlying growth rate? Beyond all the other problems with that idea (not that nobody has pitched it), the thing about a house is that it has an unusual counterfactual. If you buy stocks with leverage, in theory the payments on the debt should come out of your savings, creating a counterfactual of simply saving and investing that money. But the counterfactual to owning is renting. This creates some curious conditions that lead to my next two points in favor of buying a house – inflation protection and subsidies.
There is obviously some connection between the purchase price of a house (and therefore the amortized monthly payment on the mortgage) and the rent it could fetch – regardless of where you fall on the capital controversy that dare not speak its name, there must be some fundamental link between the price of an asset and its expected returns. However, a mortgage is detached from the imputed rent (the flow of sheltering services) a house delivers, and therefore is nominally frozen in a way that rents are not. So therefore even if a mortgage today is substantially more expensive than the rent payment on an equivalent housing unit, in thirty years even very low inflation will change that drastically. Just 2% average annual inflation entails an 80% increase in the price level over three decades, meaning the annual mortgage payment declines by nearly half over that time. Rent, in the meantime, keeps going up (except in rare cases which can entail its own problems), at least as fast as inflation. Therefore even a mortgage whose monthly payment is more expensive than a rent payment today will be much cheaper than renting in a few years.
Aha, you might say, but there is a problem with this – the magic of compound interest means that the difference-in-monthly-payment savings accrued today by the renter will be much more valuable in retirement than the parallel savings accrued years from now by the owner. This is true! But that’s where the subsidies kick in. Our primary national subsidy for homeownership is to allow mortgage-payers to deduct the interest portion of their payments from their income – and the amortization structure of mortgages means the share of payments comprised of interest are highest right when the mortgage begins, and declines until the loan expires:
This benefit comes when “housing” costs – really, housing-purchase-debt costs – are at their highest, also because earlier in life is when incomes are their lowest. It is difficult – very difficult – to defend the home mortgage interest deduction as currently structured, as such a large portion of the benefit goes to such a small and disproportionately well-off group. It is worth considering, though, whether the idea at the core of the program is sound. And either way, whether you think we should have them or not doesn’t mean that you don’t consider them when considering what constitutes a good investment under the status quo.
Of course, I haven’t even touched on imputed rents once a house is fully-owned (or, conversely, actual rents), which are of course the most important return to a house, well beyond the capital gains discussed heretofore. But this leads to the most important conclusion: not that houses are such a great investment per se; just that they’re a great investment for people without a lot of capital because of their unique pathway to leverage. If you had half-a-million dollars, should you buy a house (or apartment) to rent or a portfolio of financial products? Almost always the latter. But if you only have an order of magnitude less than that to your name, it may make sense to buy something with a lower return (not to mention wholly undiversified) because you can lever up. Just another way that large capital concentrations can secure higher returns – or at least exercise more freedom of action.
Spreadsheet, as always, attached – calculate your own expected returns on your housing investment!
*All of these numbers are real and net-of-depreciation unless otherwise noted.