An alternative public housing scheme

Jeremy Chen

I would like to explore a counterfactual state of affairs. Suppose that in Singapore, public housing were more tightly controlled by HDB in the following fashion: (1) purchase and sale transactions could only be performed with HDB itself; (2) prices were controlled so as to preserve only market forces based on location-based desirability to individual buyers while, at the same time, removing the speculative component. Let me elaborate on how this might be achieved.

Firstly, the resale price for a flat would be fixed upfront, according to its type and floor area. Thus, a 1000 square feet four-room flat in Marine Parade would be sold back to HDB for the same amount as a 1000 square feet four-room flat in Pasir Ris. Furthermore, these resale prices would be kept low. (This may be tweaked to account for age and recent upgrading work.) The purchase of flats would be done by sealed-bid auction, with the previously mentioned resale price as the reserve price.

Auctions as a Market Mechanism

Although at first glance, it might appear that the use of auctions would punish poorer Singaporeans based on the historical use of auctions for selling collectors’ items, one of their functions has been to determine the value of certain types of items that are difficult to properly appraise a priori, such as collectors’ items whose market value is uncertain. In that sense, auctions serve as a direct mechanism to mark to market.

Homes are similar to an extent; HDB and banks cannot properly assess how much value a flat has to a buyer as work location(s), where friends and family reside, and a host of other factors contribute to this.

It might be argued that current market prices cannot be said to be true free market prices. They are essentially monopoly prices set by the “housing establishment” which includes developers and banks who both profit from “high valuations”. Current prices also include premiums for potential future gains

In contrast, if buyers know they cannot resell flats to HDB for much more than the set resale price (as only small corrections might be made due to inflation), then the premium they would indicate that they are willing to pay over the reserve prices would really comprise just the benefit derived from the availability of the flat to them for their planned time horizon of ownership.

In the auction of this counterfactual scenario, a bidder pays at most the bid price, and if there are subsets of an issue which are not oversubscribed, essentially everyone (bidding for those flats) pays the reserve price. Only when there are wildly oversubscribed segments can prices get high, and only for flats in those segments. Such an auction mechanism can be constructed from the well-known (and well-studied) Vickrey-Clarke-Groves (VCG) Mechanism.

In essence, the reserve price is intended to be a statement by HDB of cost or cost+, and that HDB will not sell for anything less than that. It should reflect the economies of scale associated with good contracting practice and good management of outsourcing contracts (i.e. costs should be low).

The VCG Mechanism described above is also structured such that individual bidders are incentivized to truthfully bid the maximum amount they are willing to pay for each flat. They may do so knowing that the auction mechanism will not use that knowledge against them. To give a concrete example, if only 800 bidders compete for an issue of 1000 “identical” flats, regardless of how wildly high some bidders might bid, all bidders bidding at least the reserve price pay the reserve price for their flat.

One criticism of the VCG Mechanism turns out to be a strength for allocating public housing: revenue from VCG-based auctions compares poorly to that from other auction forms. This arises as VCG enforces the property of truthfulness by charging winning bidders the lowest amount they could have bid and been allocated a flat, an amount typically much lower than the amount bid. Since the mission of HDB is to “provide affordable homes of quality and value”, it may be said that selling flats at the reserve price is a mark of successfully meeting housing demand in an affordable fashion.

Curbing speculation

On top of the auction mechanism, if an owner of a HDB flat comes to own any private property in Singapore (through purchase or bequest), that person must dispose of either the HDB flat (to HDB) or the private property. This serves to prevent the possibility of renting out a HDB flats from factoring into flat prices, and makes the statement that public housing is meant to be owner-occupied.

Due to the low, fixed sale prices, there would be no incentive to purchase HDB flats for speculative purposes. Presently, there is a loophole where some foreign nationals (PRs and those with dual citizenships) are essentially able to buy to rent, reducing the strained public housing supply and profiting off the misery of the “flat-less”.

To reduce actual foreign speculative pressure, consider requiring all flat owners holding any foreign citizenships (non-citizens and citizens with dual citizenships) to certify their occupancy of their flats by certifying, in person, every quarter (or some suitable time interval), their occupancy of their flat at their local town council. This will not be onerous as town councils are typically located close by.

On the other hand, to avoid market distortions where a flat is priced at the same amount as a less desirable one, sale of flats will be done by (country-wide) auction (with a reserve price dictated by the nature of the flat). It is intended that buyers make bids for available flats of all types in all locations so as to eliminate dillemas of whether to participate in an auction for flats of a second choice type or in a second choice location. All this would serve to “defragment” the public housing market and ensure that the premium paid over the reserve price reflects desirability due to location, and does not contain a component pricing potential future speculative profit.

The philosophy behind this counterfactual system is that residents derive value from public housing based on the housing space and the location. The actual public housing market, comprising the buyers, is best equipped to price this premium. Hence the auction mechanism. The premium paid over the resale price would reflect the value derived from the flat consumed by the owner over the tenure of residence and, as such, would not be returned when the flat is sold back to HDB.

Regulating the cost of public housing

Another key component of this counterfactual housing system rests upon managing the cost of public housing.

Procurement and the management of outsourcing contracts must improve to ensure that costs to HDB, and hence flat buyers, do not increase in an unwarranted fashion. Public officials in such roles should have their incentives explicitly linked to ensuring that costs do not go up (or go down due to productivity improvements). This is aimed at eliminating the mentality that as long as the lowest cost alternative in the tender gets the award, the job is done. Such a mentality demonstrates the “not my own money” view of using public money and should be eliminated using proper incentives.

Public officials in such roles should be rewarded for keeping costs in place, and given large bonuses when costs go down (as they have generated huge value for the public). These officials should be replaced when cost increases are not supportable by market conditions. Furthermore, exclusion clauses should exist to prevent them, for a period of time, from working for construction firms, firms in closely related industries, companies linked by a parent company or in a parent-child relationship with such firms. All this serves to prevent collusion that harms the public.

Implications for Economic Vibrancy and Investment

It follows then that without a concomitant increase in prices and without an accompanying fall in wages, lower housing prices will result in higher household savings. (The former two do not appear to follow from lower housing prices.)

The upshot of this is that funds would be available for the enterprising to start businesses. The less entrepreneurial would have funds to invest in those new businesses. With less funds tied up in property, the economic landscape would be fertile enough to encourage new businesses to spring forth and be nourished by the increased availability of funds.

It is not too much of a stretch to project that a number of these new businesses would introduce innovative business models and new uses of technology, thus bringing a new vibrancy to the economy. With this, investment in Singapore will be less property driven and more innovation led, as befits a knowledge economy.

The counterfactual public housing system I have proposed has a number of positive features. However, the problem is how to get from the present state to this one. In my mind, the way forward entails a number of steps (i) legislate that the divestment requirement for all public housing to take effect in a number of years (as existing legislation to that effect is not retroactive), (ii) begin a two-speed public housing market where the sale of all new flats will be based on this paradigm and current flats can be sold to other buyers or to HDB at the aforementioned resale price.

Step (ii) will result in a gradual conversion of the public housing market to the counterfactual system. In decades to come, as newer, more desirable, flats are rolled out, the prices of current flats will naturally decline due to the greater availability of cheaper flats, as well as their age. Eventually they will be sold back to HDB at the dictated sale price, reducing the share of flats held in the old housing system.

Will this take place? It depends on the priorities of the government and the electorate.

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Photo courtesy of Wikimedia Commons. Edited by Min Cheong.