Why the GOP's Tax Gimmick for Homebuyers Won't Help One Bit

Editor's note: This article originally appeared in PEEK, AlterNet's blog section.

Update: After this post was completed, the Senate tacked a $15,000 tax credit for new homebuyers onto the stimulus package.

According to the New York Times, "Republicans and Democrats are suddenly competing to bail out financially struggling homeowners." What fine news!

But let's look at their competing visions because the Devil, of course, is in the details* ...

There is a growing consensus among lawmakers in both parties that the deepening collapse of the housing market is at the heart of the country’s acute economic downturn.

But beneath the consensus over helping the housing market, there are huge differences over who should benefit under the competing plans. Democrats want to aim money directly at people in the greatest distress; Republicans want to aim money at almost all homebuyers, on the theory that a rising tide will eventually lift all boats.

Specifically ...

Senate Republicans are seeking new tax breaks and up to $300 billion in mortgage subsidies to attract homebuyers. Democrats want to spend at least $50 billion on federal programs aimed at reducing mortgage foreclosures.

First, the obvious: the Times piece is misleading: Democrats proposals are aimed at aiding homeowners, and Republicans want to give cash to <s>perspective</s> prospective homebuyers. Of course, that would help a small number of homeowners who are trying to sell in this market, but it's hardly the same thing as trying to help the 16 percent of homeowners who are now struggling under the weight of loans that are worth more than the value of their properties. And it won't help those whose adjustable rates have adjusted through the roof.

And the GOP's approach is based on the theory that a "rising tide will lift all boats." A simple question: how's that theory been workin' out for ya?

But let's forget about ideology for a second, and look at this from a commonsense perspective ...

An enormous housing bubble grew over the past 7-8 years. An asset "bubble", in simple terms, arises when prices get all out of whack from the basic relationship between supply and demand. Yale's Robert Shiller found that for a hundred years, going back all the way to 1895, average home prices tracked more or less with the rate of inflation (which makes sense, right?). But then, between 1996 and 2006, home prices increased rapidly, by 80 percent after adjusting for inflation.

And, as economist Dean Baker notes in his excellent new book, Plunder and Blunder: The Rise and Fall of the Bubble Economy (I'll have an interview with Baker  next week), if the rise in housing costs had been due to increased demand or decreased supply, then the rental market should have risen along with average sales prices (more or less). That didn't happen -- while home prices were almost doubling, rentals went up by just 4 percent. Baker estimates that at its peak, the bubble part of the real estate market was worth something like $8 trillion dollars, or $110,000 for every homeowner in America.

More common sense: that which is unsustainable shall not be sustained. The bubble burst, and now we're dealing with the aftermath of a massive loss in wealth. at least wealth that existed on paper (which is real, because it tells people what their net worth and what they can spend, and allows people to borrow cash against their equity).

Bien. So let's return to these competing interpretations of what it means to "bail out financially struggling homeowners."

We can try to reinflate the bubble. That means stimulating demand. You can do that by driving down interest rates. But the Fed has slashed its rates to next to nothing, and has signaled that it'll keep them there for the next few years, so that bullet's been fired.