In Annex B of the SDP Public Housing Plan,
Housing A Nation: Holistic Policy for Affordable Homes, we describe in some detail how poorly structured housing grants serve as an impediment to productivity. This might sound strange because the PAP government has continually asserted that its policies are based on sound economics. In this article, we present an ideology-free discussion of housing grants based on micro-economics.
Consider the current set of housing grants as diagrammed in the figure below. These comprise both the
Additional CPF Housing Grant and the
Special CPF Housing Grant.
The diagram reveals “threshold disincentives” for lower income workers to take on higher value work. To illustrate this, a low income worker with an income of $1,475 will decline a pay raise of $50 in return for taking on higher value work, as it would reduce his housing grant by $10,000, a loss that would take him more than 16 years to make up with that pay increment. This is a very sharp disincentive, and there is a series of such disincentives. In fact, a similar disincentive exists for upper middle income households with regards to crossing the income ceiling. It is arguable that these are temporary, but having these disincentives operating at a national scale is not good for the economy.
To address that problem, we can interpolate. This produces a continuous grant curve as shown below.
Current Housing Grants Modified with Interpolation
However, even with interpolated grants, if the rate of decrease in the housing grant, with respect to household income, is too rapid, then similar, but less severe, negative incentives exist. This occurs because each additional dollar earned is worth more to a lower income household than to a higher income one, a principle that has been widely validated. Even modified with interpolation, the current housing grants feature faster rates grant decreases for housholds at lower levels of income. This runs completely counter to basic economics.
Since each grant dollar in housing grant money is valued more by a household with lower income than by one with a higher income, it is necessary that the rate of decrease in the housing grant be lower at lower levels of income to reduce the chances of incentive bottlenecks for moving up the value chain. We apply these principles in the grants proposed in the SDP Public Housing Plan which are shown in the figure below.
Proposed Grants for 2-Room and 3-Room Flats for Households with Average Gross Monthly Incomes up to $4,000
While the incentive problems mentioned above disappear after one has booked a flat, not all low income workers may buy flats. Those that rent face similar adverse incentives on a monthly basis. As such these principles should also be applied to reform the rates for subsidized rental . A recent article titled “$50 raise? No, thanks” (The New Paper, 2 July 2012) highlighted a specific case where a low-wage earner turned down a pay increase as it would have put her in a higher income bracket, which would have led to a net loss after accounting for the increase in rent. This goes to show that these incentive issues are real and should be properly addressed.
The modifications proposed in the SDP Public Housing Plan will make the grant system more economically sound by greatly reducing the incentive barriers which obstruct efforts to raise productivity, and, as such, would be beneficial to the economy at large.
Jeremy Chen is pursuing his PhD in Decision Science at the NUS and is a member of the SDP’s housing policy panel.