How will the real estate market be impacted by Donald Trump’s victory and Republicans controlling both chambers of Congress? Though Mr. Trump is a real estate man, his policy platform has been largely vague on real estate proposals. Here are my (Lawrence Yun, Chief Economist of National Association of REALTORS) thoughts on how certain real estate issues may play out under President Trump and of their potential impact to consumers.
- There will no doubt be a short-term stimulus to the economy. A combination of tax cuts and government spending in the form of upgrading nation’s infrastructure and for national defense will provide a short boost to the economy in the first half of 2017. Inflation will likely kick a bit higher from a faster GDP growth and that will lead to modestly higher interest rates. Accompanying gains in consumer confidence will further move the economy higher. Should the faster GDP growth be sustained and arise out of higher productivity, then inflation will be manageable. Moreover, more jobs will automatically mean more tax revenue, which will lessen budget deficit. Should, however, the stimulus impact give only a short term boost and not be durable then a much larger budget deficit will force interest rates notably higher. The future generation will be saddled with more debt.
- The trade deficit will surely rise in 2017. That’s because a growing economy will allow Americans to drink more Italian wine, drive German sports cars, watch Korean dramas, and play Japanese game consoles. More vacation trips to Cancun and London are also likely. These activities always happen when consumers regain confidence about their financial well-being. Should tariffs be raised to lessen the trade deficit, consumers will face higher prices. If exports and imports significantly decline, then history has repeatedly shown that recession and job cuts soon follow. Most economists believe job training and re-training via community colleges are much better ways to help those who lose jobs from technological automation and from international trade.
- There will be more gyrations in the stock market. Wall Street will cheer because of less government regulation but will frown on restrictive international trade policies. The current leader of the Federal Reserve, Janet Yellen, may be asked to step down and this perceived intrusion into what should be an independent institution may be viewed by the financial market as unsettling. Perhaps Mr. Trump relishes in his unpredictability. But the rise of uncertainty in the financial market will hold back corporate investment spending decisions. History says that economic dynamism thrives on the rule of law and not on whims of policy uncertainty. Institutions of law matter much more than any one person or a group of people.
- Changes to Dodd-Frank financial regulation will occur in some form. A clear positive would be the lifting of compliance costs imposed on small-sized banks. Around 10,000 local and community banks have traditionally been the source of funding for construction and land development loans. With less regulatory burden, these small banks can make more loans and will boost home building activity – something that is needed in the current housing shortage situation. But changes to financial regulations on large banks like Goldman Sachs and Wells Fargo could again lead us back to the days of cowboy capitalism and consequent exposure to a massive taxpayer bailout.
- There could be a move away from stringent mortgage underwriting to more normal lending. Credit is still tight for mortgages as evidenced by very high credit scores among those who are getting approved. An important reason for overly-conservative lending is due to the exposure of random lawsuits by the government on lending institutions in recent years. To the degree that the Trump Administration makes it very clear as to what is and what is not an infraction then more mortgages will be provided to consumers. Should the Trump Administration create an environment of “we will sue you” then the lending institutions will retrench and shut off mortgage access to many consumers.
- There could be less regulatory land-use and zoning burden for home construction, and thereby lower the cost of building. In recent years, newly constructed home prices have been much higher than existing home prices. Homebuilders say that is due to all the extra cost of regulation and not necessarily from higher input cost of lumber, cement, and worker wages. President Obama’s economists in fact wrote a white paper on the topic of lifting this burden. President Trump will likely try to move this issue – though jurisdictional issues of federal versus local will be contested.
- Fannie Mae and Freddie Mac may not survive. This would be most unfortunate. Let me be clear, these two institutions made horrendous business decisions in the past to buy subprime mortgages, create an internal hedge fund, and be led by political players in an attempt to serve political goals. That mistake cost hundreds of billions of taxpayer dollars. Fortunately, after management changes Fannie and Freddie today are led by technicians providing a government guarantee on soundly-written mortgages. As a result, they have repaid all the taxpayer bailout money. Moreover, they are doing so well financially given the very low mortgage default rates, that the U.S. Treasury is getting added revenue on the backs of responsible homeowners. If anything, the guarantee fees are too high and should be reduced. If Washington’s instinct is to eliminate Fannie and Freddie because of their past sins from past managers, then mortgages will be much more expensive with 30-year fixed rate products disappearing from the market place. Consider: mortgage lending on commercial real estate collapsed by over 90% a few years ago during the financial market crisis because there are no government guarantees for this product. Imagine what the housing market would be like if there was an equivalent crash of 90% reduction in home buying. We should view supporting Fannie and Freddie in the same way as we view supporting FDIC deposit government guarantee at banks – to help smooth the financial market.
- Community colleges are likely to get more help. That is because we need more workers with trade skills such as welders, plumbers, bricklayers, electricians, nurse assistants, and x-ray technicians. Some of these graduates will go into building homes and commercial real estate development. Interestingly, even though Mr. Trump and Secretary Clinton refused to shake hands, they both agreed on the greater role of community colleges in today’s economy.
- Homeowners in flood zones and who suffer through natural disasters may get much less relief from the government. Currently this federal program to assist in wild fires, hurricanes, earthquakes, and other natural disasters is $24 billion in the hole. The government instinct could be to reduce government’s role and have homeowners pay more. All risks should no doubt be properly priced. But the current flood map for federal insurance coverage is totally outdated and not useful. Rather than lessen the coverage on federal insurance more efforts should be made on updating the maps so a better risk assessment can be made.
- There will be active discussions on tax reform. The goal would be to simplify. Currently, the U.S. tax code is said to be thicker than the Bible – but without any of the good news. In simplifying, there could be a trimming of the mortgage interest deduction, reducing property tax deduction, and cutting of exemptions on capital gains from the sale of a home. Moreover, for commercial real estate practitioners, the like-kind exchange tax deferral (also known in the industry as 1031) could easily be on the chopping block. Research has consistently shown how valuable these tax preferences are for homeownership, in protecting private property rights, and for economic growth. People in real estate and property owners across the country should therefore be on alert about any policy discussion on these matters.
One particular aspect of the tax code of note with President Trump will be about commercial real estate depreciation. In long days past, many wealthy doctors, lawyers, and other high income professionals bought real estate at the recommendation of their tax advisors to lower their tax obligation. But in 1986, a new tax code prevented these “passive losses” of depreciation. It initially also tried to limit depreciation to real estate investors who are active in the real estate business. That would have been equivalent to not being able to depreciate expensive medical equipment by doctors in their business. Makes no sense. That is why the National Association of REALTORS made it known that depreciation should be allowed as an “active loss” for those who practice real estate as their profession. The current tax code makes this distinction, and is unlikely to be on the chopping block in the tax reform discussion.
There will plenty of other issues in discussion that will also impact real estate. What to do about the tripling in student debt over the past decade? Immigration restrictions on home buying? EPA’s policy on land use? Drones? Lead paint? The Fair Housing Act? Stay tuned. In the meantime, let’s hope that Mr. Trump can surprise positively as only he can do. If he can somehow unite and rouse the country of “Making America Great Again” and significantly alter confidence and behavior then the economy can grow just from the positive outlook and will not cost taxpayer an ounce of extra penny. That would be the best scenario.