Submitted by liberta blog [4],
In our previous article we explained [5] why buying a house is often a very silly financial decision, especially for people who are young, or those that have a low net worth.
In this article we're going to explain why we think people are so infatuated with the idea of buying and owning a house, even though, if you look a the facts, it goes against many of the investment principles they believe in and hold dear.
But first, I need to address one of the myths about buying residential property...
Myth #1: Buying a house is a way to beat inflation
The theory is:
It is worth borrowing a huge amount of money to purchase a house because, not only will your property appreciate in value over time, your loan amount will also decrease in value in record time, partly because you are paying off a bit of your loan every month and partly because inflation eats away at the value of the amount you still owe!
And it is true – borrowing R1,000,000 to buy a house may seem like a scary amount right now, but a few years later, R1,000,000 will be considered a small amount of money.
If you would like to see just how effectively inflation destroys the value of money over time, plug a few numbers into the inflation calculator and see for yourself.
I have to admit: this theory makes for a very convincing argument.
But it is not.
The elephant in the room
The hole in the buying-a-house-is-a-way-to-beat-inflation-theory is the fact that the interest rates commercial banks charge their customers have always been higher than the inflation rate.
If you take out a loan, you pay more in interest to the bank, than you gain through the devaluation of the amount outstanding on your loan due to the effects of inflation.
The only real winner in this equation is the bank who was kind enough to grant you a loan to buy your property.
And when I say winner, I really mean it, because not only is the bank earning an above inflation return on the money they lend to you, they also create the money they lend to you, right there on the spot, out of thin air.
If I had to behave like a bank and you were a customer to whom I was granting a home loan, it would be pretty much the same as if I had a printing press in my basement, where I would quickly print up R1,000,000 in counterfeit currency to lend to you, make you sign a contract with dire consequences to yourself should you ever miss a loan payment and then, to make sure I get the best deal possible, charge you an above inflation interest rate on the counterfeit money I lend to you.
If you or I behave like this, it is called a scam and, of course, it is illegal.
When banks behave like this, it is called fractional reserve lending and, whether you like it or not, it is perfectly legal.
The wonders of fractional reserve banking
I know what you’re thinking.
[6]
But this is no conspiracy.
The fact that commercial banks create money when they grant loans is not a secret.
Not at all.
In fact, commercial banks create over 90% of all the money that circulates in our economy. It is just the way the system works.
If anything is suspicious, it is the fact that everybody uses money, but almost no-one understands where the money they use comes from.
How to make money from a Residential Property Boom
Once you understand the way the system works, you’ll understand that one of the best ways to make money out of a residential property boom is not to invest in residential property, but to invest in commercial banks that grant loans to people who buy residential properties.
During a residential property boom, banks are creating massive amounts of money out of thin air and lending it out, with interest, to many many customers who are lining up to buy the rapidly appreciating residential property.
If you own a part of the banking action, you can make a lot of money while the boom lasts.
There is only one problem with this approach: like all good parties, it eventually comes to an end and, the next day, you wake up with a massive hangover.
Booms usually lead to bubbles, and bubbles eventually pop. When bubbles burst , the very same banks who were raking in record profits just a few months prior to the bubble bursting are all suddenly bankrupt. A good example is the 2008/2009 housing bubble collapse.
But have no fear.
There is an even better way to make money out of a residential property boom, with just about zero risk:
At the start of a housing boom, find a job with a commercial bank and negotiate your salary in such a way that your bonus is linked to the profits the bank makes on residential property loans.
Trust me. It’s a slam-dunk.
So, who is spreading the propaganda?
This is pure speculation, but since bankers are the main beneficiaries of the fractional reserve banking system, I won’t be at all surprised if they are also the main players responsible for spreading propaganda about the home ownership myth I have attempted to debunk with these articles.
And if you’re a banker, who better to get on your side than the government?
Much has been written about the way politics work (especially in America), how lobbying costs money and how big business is the main contributor to political campaigns, so I’m not going to add my own thoughts here.
What I will say is this: if these concepts are new to you, perhaps it’s worth re-reading this article one more time. Perhaps click on some of the links and watch the youtube videos to make sure you understand everything.
Then, if you just want to feel patriotic and inspired, take a look at the video below. I’m sure you’ll love it. It nearly drove me to tears. Heart wrenching stuff.
Over to you
When, after many years of being an investor, I finally figured out how the monetary and banking systems work, it massively changed my perspective on investing.
Since the money we use is something that affects everybody on a daily basis, I find it astounding that so very few people understand where money comes from. I encourage you to do your own research. Reach your own conclusions.