Debt & deductions

Here's more musing about whether it's really necessary to offer tax deductions for taking on debt. Or helpful. The topic has been around for years, but it's getting more attention these days given how debt has/is putting a stranglehold on economic growth. The New Yorker's James Surowiecki points out that the government nudges homeowbers and companies into debt, quite needlessly.

There are a couple of peculiar things about these tax breaks--which have been around as long as the federal income tax. The first is that they're unnecessary. Few people, after all, can save enough to buy a home with cash, so home buyers naturally gravitate toward mortgages. And businesses like debt because it offers them tremendous leverage, making it possible to put down a little money and potentially reap a huge gain. Even in the absence of the deductions, then, there would be plenty of borrowing. The second thing about these breaks is that their social benefits are pretty much nonexistent. Advocates of the mortgage-interest deduction, for instance, claim that it increases homeownership rates. But it doesn't: in countries where mortgage deductions have been eliminated, homeownership rates haven't dropped. Instead, the deduction simply inflates house prices.

Don't hold your breath on changing the system. I mean, adjusting Prop 13 is a non-starter - could you imagine the pushback on taking away our God-given, all-American mortgage deduction!!!

The clearest hurdle to these changes may be political, but the bigger hurdle is, in a way, psychological: because tax breaks on debt have been around so long, we can hardly imagine what it would be like if we changed them, and we tend to underestimate their influence in shaping our behavior. Subsidizing debt seems harmless simply because we've always done it. But the fact that you've had a bad habit for a long time doesn't make it less dangerous.