COVID-19 Locking Australians into an Undetected Rental Trap

An edited version is published here

COVID-19 has resulted in an up to 15% increase in property prices in Australia, further exacerbating the Australian housing affordability crisis and locking millions of Australians into the rental trap. The average Australian knows that paying rent instead of being a home owner puts them in a disadvantaged position. Unlike mortgage payments, which are effectively savings, money wasted on rent will never be used on a family’s education or health. Therefore, the average Australian would be surprised to learn that when researchers and the government quantify Australians’ equality of opportunities, they ignore the fact that some people have to pay rent while others do not.

In this study, I demonstrate the significance of this omission. Using data for Australia, the US, and Germany, he finds that only Australia sees a noticeable reduction in the equality of opportunities after accounting for the fact that some people spend money on rent and others do not. The findings challenge the Australian government’s claimed success of providing citizens with equality of opportunities and show hidden and ignored inequalities.

“Intergenerational income mobility” refers to the degree to which an individual’s position in the income distribution persists or changes from one generation to the next. For example, a society in which an individual’s adult income is altogether independent of their parents’ income is a highly mobile society. A society in which one’s percentile in the income distribution is always identical to one’s parents’ percentile is completely immobile.

In a practical sense, intergenerational income mobility demonstrates how individuals’ economic well-being is determined by a factor they never had a chance to influence: their parents’ economic well-being. Intergenerational income mobility is a measure of equality of opportunities. This measure, similarly to GDP, is routinely calculated for all countries in the world. Ranking of countries by this measure is an occasional source of pride for Australians.

The accepted practice while measuring the extent of mobility is to use disposable income. A rarely mentioned problem with this practice is that using disposable income risks misinterpreting the evolution of standards of living because economic well-being is determined not only by the goods one can buy in the market but also by sources of incomes that are in-kind (such as publicly provided health and education services) and non-monetary (such as imputed rents for owner-occupied accommodation and the consumption of one’s own produce). For that reason, income measures that include in-kind and non-monetary sources of income are conceptually superior.

One component of non-monetary income that has particular quantitative significance is home ownership. One’s home is a financial asset and a source of services that influences standards of living through various psychological and consumption benefits. Since those who do not own their accommodation have to pay rent to access similar services, and the fraction of home owners differ across countries and within countries across time, ignoring these differences can produce time-series and cross-sectional comparability problems. One way to solve these problems is to assign a monetary value to home ownership. This hypothetical income stream is known as imputed rent. The imputed rents are often ignored in microlevel studies because they complicate the analysis.

Consider, for example, two individuals with an annual income of $50,000. One lives in a $2 million house, the other with his/her parents. The first person could have rented their house out for a substantial amount of money, and the rent imputation method would include this hypothetical payment into their income. Conversely, ignoring imputed rents suggests that both individuals are equally well off. Figuratively speaking, homes are legalised “offshore accounts” that allow hiding wealth. Other researchers have shown that this is a common method to access the Australian means-tested government system of benefits, as owner-occupied accommodation is exempted from those tests. This behavior encourages excessive home ownership, exacerbating further the affordability crisis.

My paper is the first to demonstrate that excluding imputed rent might noticeably mute the intergenerational transmission of income for some countries and not others. The imputed rent substantially decreases intergenerational relative income mobility in Australia by 22.03%, whereas the effect on mobility in both the US and Germany is negligible (not statistically different from zero).

The results should be understood in the context of the ongoing Australian housing affordability crisis. The results show that “the Australian dream” of owning a house within city limits competes with the country’s egalitarian aspirations. Actions that reduce imputed rent relative to income would also likely increase intergenerational mobility in Australia. The reasons for currently high imputed rent are likely structural. In Australia, unlike Germany or the United States, higher-paid jobs are spatially concentrated in a few locations, while the urban population density is low.

The Australian example cautions against using only readily available disposable income for international or time-series comparison as this measure does not include home ownership. Australian public policy explicitly aims to ensure that children growing up in the poorest households have the same adult earnings prospects as children from more affluent families. These aims are unachievable without resolving the housing affordability crisis first.

A noticeable increase in housing prices during COVID-19 would, in reality, exacerbate the equality of opportunities further, yet as standard measures of mobility ignore home ownership, this exacerbation will go undetected by both researchers and the Australian government. At the same time, higher-paid workers, those who did not lose their jobs during the lockdowns, and those with access to parental financial help, will concentrate home owners in their hands with a potential to extract rent from less fortunate but no less hard-working Australians.

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