By Bernard Hickey
The flurry of news this week about Labour calling for the abolishment of Auckland's rural-urban boundary buried a potentially more important idea that could eventually do more to solve the housing crisis than rubbing out any lines on a map.
Phil Twyford proposed Auckland be encouraged and allowed to start issuing infrastructure bonds to pay for all the roads and pipes and street lights and footpaths to go with all these new housing developments that a boundary-free Auckland could generate.
If the Council was able to issue these bonds and tie them to rates targeted to the residents of these new developments then it could kill a couple of birds with one stone. Currently, the Auckland Council is up against its limits for borrowing if it wants to keep its AA credit rating, and it faces intense political pressure from ratepayers in general who worry they'll have to pay the interest on the debt taken on for these new developments.
So quarantining the debt to these developments reduces that financial and political fear. These infrastructure bonds serviced from targeted rates would also make these new houses more affordable because developers would not have to pay big development contributions up front that they simply pass on to buyers at the moment. Currently, those home buyers then have to borrow the money from their bank at the usual mortgage rates to pay up-front and indirectly for the roads and pipes they need to live there.
By using infrastructure bonds, Councils can therefore reduce those up-front costs to home buyers and use their strong credit ratings to borrow at cheaper rates. For example, Auckland Council was able to borrow NZ$250 million from 'Mum and Dad' retail savers for four years at 3.04% in late March. The Government itself can currently borrow for 10 years at 2.6%, whereas most mortgage borrowers are having to pay well over 4% to borrow to pay for those development contributions. Longer-term infrastructure bond yields would be even lower.
That gap of over 1.5% may not sound like much, but over the 50 to 100 year life-span of a development, that saving amounts to a big number that is capitalised into lower land prices, particularly if it's connected to the welcome removal of an artificial boundary that has enabled the creation of monopolising land bankers.
All this sounds foreign and like some sort of a too-good-to-be-true type of financial engineering. Indeed, Nick Smith described these infrastructure bonds late last year as "creative accounting" and "nothing more than fool’s gold."
However, that's not what the local and international experts on housing infrastructure funding say. Former Reserve Bank Chairman Arthur Grimes, who did the research showing how Auckland's rural urban growth boundary distorted land prices, said such bonds paid for from targeted rates were mainstream internationally and worth investigating.
"I can't see major fishhooks in them and they're definitely worth looking at," Grimes said this week of the proposal for infrastructure bonds paid for through targeted rates.
Versions of these bonds are an accepted part of the development landscape in parts of the United States where the house price to income multiple is closer to four times income, not the ten times income seen now in Auckland.
The borrowing side of the equation is clearly calling out for a solution to an economic and political problem. But it is the saving side of the equation which is equally desperate for infrastructure bonds. Like many developed economies, New Zealand has an ageing population of baby-boomer savers who are madly socking away their incomes in their late 50s and 60s into bank term deposits and Government bonds. Naturally, as they near retirement, they are looking for a safe and stable investment that won't dive dramatically in the months before the retirement moment and will generate a reliable return for many years. It's one reason why demand for Government bonds is so high all over the world right now.
Greying savers in Europe and Japan are so desperate to get their hands on these sorts of bonds that they have bid up prices up so high that they now are getting negative yields. That means they're happy to pay their governments to look after their money, as opposed to the other way around. The prices of fixed interest securities like bonds move in the opposition direction to yields or dividends. This is why New Zealand's stock market, which has stocks that pay healthy dividends, has been the best performing in the world this year.
KiwiSaver and other fund managers regularly tell me there is a huge shortage of infrastructure, Council and Government bonds to invest in. That's reflected in the ever-falling interest rates for such bonds. Infrastructure bonds serviced from targeted rates would help quench that demand.
The greatest irony is that the loudest campaigners against Council debt and Government debt are the same baby boomer savers who are complaining about low term deposit rates. Allowing Councils and the Government to issue infrastructure bonds would solve both of those complaints in one fell swoop -- as well as fund the housing infrastructure boom that is just as desperately needed.
A version of this article was also published in the Herald on Sunday. It is here with permission.
20 Comments
Sure, this is one way of going about it. I like the idea of the funding of it being targetted. If so, lets hope it would stay permanently targeted and not absorbed by Council if some future Mayor comes along and makes an ad hoc decision to do that.
But are you kidding me, that by offering some bonds like this that the demand will go down and the interest payable on all bonds will go up! How many bonds are you talking about!!!
Actually if this were to be the case then wouldn't that be bad for these landowners: effectively a higher targeted rate than it would otherwise be!
Although New Zealand doesn't have the extreme ageing problems of Europe and Japan, there is an enormous amount of bank account building going on. Household term deposits in banks here have almost doubled to NZ$153 billion since the beginning of 2008 as ageing savers stock up on what they see as the most risk-averse investments, even though most are paying less than 3%.
Yes, indeed, the necessary liability offset to explosive, but nonetheless fabricated bank balance sheet asset growth, primarily in the form of residential property mortgages.
Let's not forget.
More importantly, the banking system does not simply transfer real resources, more or less efficiently, from one sector to another; it generates (nominal) purchasing power. Deposits are not endowments that precede loan formation; it is loans that create deposits. Money is not a “friction” but a necessary ingredient that improves over barter. And while the generation of purchasing power acts as oil for the economic machine, it can, in the process, open the door to instability, when combined with some of the previous elements. Working with better representations of monetary economies should help cast further light on the aggregate and sectoral distortions that arise in the real economy when credit creation becomes unanchored, poorly pinned down by loose perceptions of value and risks. Borio Page 17 of 38 Read more
By using infrastructure bonds, Councils can therefore reduce those up-front costs to home buyers and use their strong credit ratings to borrow at cheaper rates. For example, Auckland Council was able to borrow NZ$250 million from 'Mum and Dad' retail savers for four years at 3.04% in late March. The Government itself can currently borrow for 10 years at 2.6%, whereas most mortgage borrowers are having to pay well over 4% to borrow to pay for those development contributions. Longer-term infrastructure bond yields would be even lower.
Is this not a variation of the classic crowding out effect?
A situation when increased interest rates lead to a reduction in private investment spending such that it dampens the initial increase of total investment spending is called crowding out effect. Read more
Council funding ~3.0% is probably significantly higher than what banks currently pay for funding under one year, which is estimated to be ~83% of the total book. They (banks) have historically always borrowed short (foolishly) to lend long. View RBNZ funding tenor table.
So
Sort of like strata fees but on a sub division rather than a building.
And amortising over the average life of the works.
Works supplied and condition gteed by AAA contractor
And additional to existing rates (however works serviced/maintained to predefined operating condition)
And include a sinking fund element in order to repair ACC creditor position (presently maxed out at current cr rating level).
And sweetened with indexation to cpi (plus works cost inflation).
Has priority to normal rates and charges
Ranks ahead of mortgage repayment.
The sub division strata mgt and trustee would have approval on subsequent development and renovation (type and build standard) within the area (given works design life).
And DA approval for retail commerce and industry within the area
And property transfer, including financial structure
And tenant vetting.
We will run it, like a Swiss watch..
In my opinion Tywford is the man with a real gameplan to fix Auckland's housing crisis. He has long promoted demand solutions, like banning foreign buyers, which would place immediate downward pressure on prices and increase availability. And he is strongly promoting supply solutions which would bring the housing prices down to reasonable levels long term. Nick Smith on the other hand, has failed. And will keep failing. His special housing zones are a joke, as they are mostly unbuilt. Meanwhile the crisis boils higher.
Sideshows and deflections
All these ideas are just a side show and a distraction
While NZ encourages more migrant households into the country than it can build houses for, the problems will simply continue. All this hand wringing going on while the new-builds amount to nothing more than going to meet the needs of migrant households - nothing more - nothing less
After 7 years of turning a blind eye, Bill English finally concedes we don't have the infrastructure
While the established scribes continue with their fevered promotion of the governments favoured line I cannot see anything good coming out of this
One wonders how much backsheesh Bernard Hickey is paid to pontificate on the symptoms
Listen to the chatter
Dont know whether this is chatter or the ramblings of an insider - but, he is consistent
14 September 2015
The big boys are buying. Fletcher has a $600 million dollar fund buying up as many decent size (residential)sites as they can
https://croakingcassandra.com/2015/09/12/housing-the-reserve-bank-and-a…
April 21 2016
All the big boys, Fletcher Building, Todd developments are buying up as many housing sites as they can in anticipation of future development opportunities
https://croakingcassandra.com/2016/04/19/11214/#comment-8481
May 12 2016
When I look at the amendment pages to the Unitary Plan, Fletcher Residential pops up again and again and again. With the density rules being loosened considerably on Mixed Housing Urban, Apartments and Suburban, any developer that is not buying up Auckland Property is clueless
https://croakingcassandra.com/2016/05/12/was-the-governor-on-the-money/…
Waymad
The building-materials duopoly has to be tackled by anti-trust-style action. Let a contract to the Oz ACCC and watch the feathers fly...
http://www.interest.co.nz/opinion/81667/our-central-banks-starting-rese…
Sir James Fletcher
Roots of Fletcher Construction was building State Houses
Following the election of the First Labour Government in 1935, Fletcher established an enduring friendship with the government. Fletchers' built some of the first state houses in New Zealand
https://en.wikipedia.org/wiki/James_Fletcher_(industrialist)
Fletchers History
http://www.businesshistory.auckland.ac.nz/fletchers/key_events.html
In the 1930's 3445 state houses were built in 3 years - what could they do today with pre-fabrication
To tackle the housing crisis in the late 1930s the Labour government created the Department of Housing Construction. With the help of Fletcher Construction, 3445 state houses were constructed in three years.
http://www.nzhistory.net.nz/media/sound/state-housing-experience
The NZ government will undoubtedly continue to encourage population overshoot, continue to encourage the consumption of rapidly declining resources, continue to promote destruction of the environment, and continue to dig a deeper and deeper hole for the next generation.....until it can't. And many people, especially those who can make short-term financial gains, will continue to opine that this is all excellent.
And probably violate every security law in the country. The possible savings for a council putting bonds out to tender as opposed to simply going to the bank for a loan will get eaten up by the costs of issuing an audited prospectus, underwriting and marketing.
When a council goes to the bank for a loan they can offer specific assets as collateral. If the council defaults on the loan the bank has the statutory right to strike a special rate over the community to get its money back. I have no idea if you could offer that same security when you are issuing bonds.
Nevertheless the more or less absolute guarantee that the lender will be repaid makes these kinds of loans very attractive to a bank and makes it desirable to compete on margins to get the business. I would love to see an analysis showing how bonds could out-perform standard loans.
There's at least one organisation which, with a little tweaking, could provide just this facility: LGFA
http://www.lgfa.co.nz/for-investors/risk-management
The fly in the ointment, as evidenced on the site noted, is that LGFA supplies funds to TLA's only. This rules out, for now, the option of the separate entities that MUD's etc require. The quote:
The LGFA sole purpose will be to provide debt funding to New Zealand Local Government (i.e. the Local Government borrowing counterparty will be the Council itself and will not be any Council Controlled Organisation, Council Controlled Trading Organisation, Council joint venture or partially owned entity).
But, as constitutional lawyers like to note, Parliament has absolute authority to do whatsoever takes it's fancy, absent a written Constitution, provided enough MP's troop through the appropriate door in the chamber.
So, this eminently sensible option could be available after Tuesday's Cabinet meeting, if folks were so inclined....
The Local Government Authority is quite suited to issuing a very adequate prospectus. And could offer bonds direct to the public. Shopfronted from your local council office.
Not only would that provide an alternative investment rather than going to the banks, the mum and dad investor would have security hugely in excess of a bank term deposit. OBR makes term deposits quite dodgy.
Nick Smith is right.
That will be the only time you ever hear me say that.
Infrastructure bonds are a new label on old debt. Seriously, it doesn't matter whether a council goes to the bank for a loan or issues bonds it's still debt. If AC are up against their self-imposed debt limit giving more debt a new name doesn't change the situation at all.
All council debt is already "Infrastructure" debt. It is unlawful for a council to take a loan to pay for an operating shortfall. Debt can only be used for capital works. Notwithstanding the occasional council building, library extension or changing shed that basically means roads, pipes, pumps, wells and pooh ponds. So simply creating a new mechanism for councils to raise a loan doesn't change anything - it's still debt and still going to be spent on what it has been spent on up till now.
What is not clear from Bernard's article is what part of the development infrastructure would be paid through bonds rather than section prices. Currently developers pass on three classes of infrastructure costs: the local streets and pipes etc within a development, financial contributions to upgrade nearby council infrastructure that is impacted by the development, and development contributions which are a form of punishment for wanting to go live there. If it is all three then all developers might as well retire now because building and selling all this stuff is basically what their job is.
What Bernard is saying is that mum and dad should be able to buy some council bonds so they can get a better rate than the bank and in turn the council pays more for their money, in the end the rate payer ends up paying the bill and the council make Bernard and Phil happy as they wish to give other people's money to other people
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