QUARTERLY ESSAY 92 The Great Divide



Joseph Walker


For many years, I’ve been waiting for somebody to write the canonical treatment of Australia’s housing mess. Maybe a young Aussie Robert Caro would emerge and take a microscope to every corner of what is becoming our most urgent public policy problem. Such an account would no doubt amount to the literary equivalent of urban sprawl.

The Great Divide is neither canonical, such is the nature of word limits, nor is Alan Kohler, after a long and distinguished career in finance journalism, a millennial. But his Quarterly Essay is sober, necessary and broadly correct in its conclusions; and perhaps its message is best conveyed by a baby boomer like Kohler, whose vision is anchored in memories of a more functional past.

It is a fact of life that the cost of the structures we live in – or, more accurately, the land under them – keeps going up, even as the prices of the stuff we fill them with keep coming down. Over the past twenty-three years, house price-to-income ratios have doubled, from 3.5 to seven. According to the 2023 Demographia report, Sydney and Melbourne are the second and ninth least affordable cities on Earth.

Something that should be a national shame is, judging by the popularity of real estate TV and the size of crowds at weekend auctions, actually a national sport. As a friend quipped to me: America is number one in the world in healthcare costs, and it’s a disaster; Australia is (almost) number one in housing costs, and it’s celebrated.

So, what started the party? Or at least: what set off the most recent boom? The capital gains tax discount, Kohler answers. On my podcast in 2020, I discussed this possibility with Nobel Prize–winning economist Vernon Smith. As Smith explained, the story in the United States was similar; he identified the Taxpayer Relief Act of 1997, Clinton’s act, which exempted from capital gains taxes the first $500,000 of any home sale, as the trigger for the US housing bubble.

Howard’s 50 per cent discount was even more investor-friendly. By sweetening the deal on the resale value of housing, the effect of the tax break in Australia, as in the US, was to shift perceptions of what could be achieved with property.

For all this, Kohler’s astute historical analysis bleeds into a dubious economic argument; he writes as if the CGT discount is one of the – if not the – most important drivers of prices at current margins – a separate and less substantiated claim (indeed, a claim incompatible with some of the other research he cites).

If the CGT discount lit the spark, what has been fuelling the blaze? Kohler gives a comprehensive if not complete accounting of the myriad factors that have been swelling demand or dampening supply (missing, for example, are foreign investors). Haunting his analysis of the demand side are Australia’s one-million-strong negatively geared property speculators.

Kohler does not, however, get sidetracked in circular debates about bubbles. This is just as well. Demand and supply are like the blades on a pair of scissors.

Prices are set not by one half or the other but by their interaction. A corollary of this basic economic insight is that even if demand-side changes have been the proximate cause of the price rises of recent decades, as they surely have, their impact can be absorbed by the supply side.

In principle, that is. In practice, Australia’s housing supply is chronically inelastic.

If Kohler’s essay has a flaw, it’s that he doesn’t prosecute his own argument vigorously enough. He outlines the obvious or first-order harms of high house prices, namely declining home ownership, a “lack of security” and, importantly, rising inequality. But beyond that, his treatment of the downside risks is cursory. Two pages are given to discussing the decline of pet ownership among renters – a sad trend, to be sure, but in that passage he spills as much ink on cats and dogs (552 words) as on three of the worst repercussions of housing unaffordability: crippled productivity, macroeconomic fragility and falling fertility (553 words). It’s worth underscoring these harms in turn (to say nothing of the many other ills of housing unaffordability, such as the misery of long commutes and the environmental damage wrought by urban sprawl).

First, high house prices in our major cities stunt national productivity. Cities are engines of entrepreneurship. They facilitate specialisation and the sharing of information (what economists call “knowledge spillover effects”). As Ed Glaeser puts it in Triumph of the City, “ideas cross corridors and streets more easily than continents and seas.” By pricing our fellow citizens out of our most productive places, we don’t just deprive them of better wages; we deny our country greater wealth.

Second, high house prices make us macroeconomically fragile. In particular, excessive household debt coupled with high house prices render the risk of a balance sheet recession – the nastiest form of recession – at least plausible.

Australia has the second-highest household debt-to-GDP ratio in the world. Most of that debt is tied up in residential mortgages. While much less of our mortgage debt is held by subprime borrowers than was the case in the United States, marginal propensities to consume out of housing wealth don’t approach 0 until closer to the top 10 per cent of the income distribution anyway, according to research by economists Amir Sufi and Atif Mian. That is, 90 per cent of income earners can still be expected to tighten their belts if prices collapsed. So, we’re not exempt from this risk, however robust our position may seem.

Third, expensive housing is preventing couples who want to have kids, or have more kids, from having them. Children usually need bedrooms, and every extra bedroom means a bigger mortgage.

At the individual level, this is frustrating. At the societal level, it’s disastrous. As Kohler notes, our fertility rate is already below replacement level. This seeds structural imbalances wherein fewer workers must support more retirees. It undercuts productivity: our best economic growth models imply that population growth drives technological progress (since more minds means more Einsteins). And it frays the thread connecting society to its future – a condition that, unlike the others, can’t be postponed by mass immigration.

High house prices are a plague not just in Australia but across the Anglosphere. Indeed, their consequences are both so perverse and so pervasive that housing advocate John Myers and economists Sam Bowman and Ben Southwood coined a term, “the housing theory of everything,” to explain how housing unaffordability undergirds so much of the deep dysfunction we observe in the West.

What can be done? The Great Divide is really an essay about three great divides, all of which have conspired to put solutions out of reach. The first is the titular divide, between those who own homes and those who do not. For most Australian homeowners, housing forms the greater portion of their wealth. Since losses loom larger than gains psychologically, this group resists policies that put their nest eggs at risk with a passionate intensity that can’t be matched by aspiring homeowners.

Proposals for reducing house prices that are not accompanied by compensation to these owner-occupiers for lost equity – however undeserved that equity may be – are unlikely to shake the “generational tyranny” of the boomers (or the resistance of younger people who have managed to buy into the homeownership club before prices rose).

The second divide is between local residents and would-be residents. Local zoning rules, such as they are, give cranky NIMBY residents effective veto rights over new construction in their neighbourhoods.

There is an imbalance. Locals have both the capacity and the incentive to block new development. They can coordinate easily because they’re both physically proximate and few in number. And their reasons for enforcing the status quo, ranging from risk aversion to heritage preservationism (sincere or otherwise), are powerfully motivating.

On the other hand, non-residents looking to rent or buy in a city area would hypothetically be YIMBYs, but how can they organise to express their preferences? They’re spread across a city, or outside of it, if they even think of themselves as potential residents of a particular area at all. Moreover, the housing affordability costs of any one development not getting built are thinly spread and provide inadequate impetus for these strangers to overcome their coordination problems. This entrenches a fallacy of composition that hobbles efforts to increase housing supply. Any one rejection of new construction by NIMBYs at the local level may be both comprehensible and negligible. But scaled up to the national level, all those local decisions sum up to a housing shortage.

The third divide is, as Kohler laments, between two political impulses. The housing problem has become an ideological Rorschach test, in which the left, with its focus on equality, blames demand-side greed, whereas the right, with its belief in markets, prefers supply-side explanations.

But there are signs that the third divide – and hence the second – can be bridged. There is growing recognition on the political left that zoning is inherently inegalitarian. In the United States, liberals such as Ezra Klein and Derek Thompson have begun pushing for a “supply-side progressivism,” wherein the left redirects some of its energies from the demand side of the ledger to the creation of goods and services; in Klein’s words, it’s the “stupidly simple” thesis that “to have the future we want, we need to build and invent more of the things that we need.” Above all, that includes housing.

This new “abundance agenda”, with its wide political promise, is instantiated Down Under in the bipartisan YIMBY groups that have recently sprouted in Canberra, Sydney, Brisbane and Melbourne, and in their new alliance to form the Abundant Housing Network Australia.

There are pockets of hope, but a broad will is necessary to transform the housing situation. Can such consensus be found? I sense a deep pessimism on Kohler’s part. Given the seeming irreconcilability of the three divides, such pessimism is understandable!

But if we’re bound to fail anyway, why not permit ourselves to fantasise a little? How about land value taxes, like the Georgists have long argued? Kohler dismisses these out of hand, but taxing the gains – or rents – of agglomeration could be a highly efficient way to redistribute revenue to, for example, the regions – to say nothing of its ethical justification. Speaking of the regions, why not found new cities – or transform Darwin into an Australian Singapore – as Ken Henry suggested to me in 2023? Or if that’s too audacious, can we not turn to the age-old saviour: technology? Just as trains and cars opened up effective supply in the nineteenth and twentieth centuries, perhaps Zoom and virtual reality will do the same in the twenty-first. With the rise of working from home, can we convert office space into residential? To address the problem of the “missing middles”, why not allow street-level votes for gentle density, as has been proposed by YIMBY groups in England and Ireland – a win-win solution that can dissolve the second great divide? Or how about establishing home equity insurance markets, as Bob Shiller has proposed, to placate the NIMBY “homevoters”?

For Kohler, no solution is tenable until we purge ourselves of the belief that “house prices always rise and that housing is the best way to build wealth.” Ideally, we would engineer a flatlining of prices for the next eighteen years, until incomes catch up. A hard landing is off the table – wise, given the balance sheet recession risk.

Kohler is right that we must dislodge property from its pedestal, though this raises the question of whether the desired soft landing would be self-defeating. If speculators, already bleeding rental losses, then no longer expect capital gains, why wouldn’t they just try to sell – threatening a mass exit that could crash prices?

There is also the question of political will. Any attempted normalisation of prices by policymakers needs to be orchestrated with an heroic gradualism that outlives election cycles and the political temptations of pumping home equity.

But these nagging questions give way to a deeper one. Howard’s throwaway comment on ABC Radio in 2003 (“I haven’t had anybody shake their fist at me and say: ‘Howard, I’m angry with you for letting the value of my house increase’”) hints at a strange connection between our fixation on property and our lackadaisical attitude to productivity.

In an age of rising income inequality and stagnating productivity growth, have debt and equity become a palliative in Australia, as Raghuram Rajan argues they have in the US since the 1970s?

Thus, if solving our housing crisis requires abandoning the idea that property is a vehicle for building wealth, perhaps it also means embracing the notion that creating valuable ideas or companies is the most noble thing a citizen can do.

This would require a complete inversion of our national outlook. Under the tyranny of tall poppy syndrome, it’s as if property is the most excusable way to get rich in Australia: if you found a start-up, you’re long on yourself; but if you invest in property, you’re just long on Australia.

But we may not have a choice. For if pouring ever-larger piles of credit into unproductive assets is a sure-fire way of doing less with more, innovation has always meant doing more with less.

Joseph Walker

Joseph Walker is an Emergent Ventures winner and host of The Joe Walker Podcast. His background is in technology start-ups, most recently as director of operations at Y Combinator–backed Forage.


This correspondence discusses Quarterly Essay 92, The Great Divide. To read the full essay, subscribe or buy the book.

This correspondence featured in Quarterly Essay 93, Bad Cop.


Lech Blaine
Peter Dutton's Strongman Politics
Alan Kohler
Australia's Housing Mess and How to Fix It
Micheline Lee
Disability, Humanity and the NDIS
Megan Davis
On Recognition and Renewal
Saul Griffith
Electrification and Community Renewal
Katharine Murphy
Albanese and the New Politics