Housing Minister Clare O’Neil made the ‘controversial’ comment that property prices will, and should, rise over the long term. I write ‘controversial’ because her comments triggered a backlash. The thing is, she’s right. We do need sustainable price growth around which prices might oscillate up and down.

Let’s start with what Clare O’Neil said. She indicated that housing prices should increase over time in an ‘ordinary’ manner. Supply should increase. However, supply should increase organically and the market will provide supply over time. This is a relatively standard approach to markets. Let the market produce more supply and it will do so if it makes financial sense.

The controversy was the implication that prices should increase.

Now, let’s unpack what her detractors seem to say. Some assert that prices can dip and oscillate in any market. Thus, the idea that prices ‘always’ increase is silly. And, attempting to force an increase is bad policy. This too is true, in general. However, there are some caveats, which we will see below.

The major issue arises with the counterfactual and the seeming implication that house prices should not rise, that house prices should fall, and, by implication, that the government should force such declines. This appears to be the crux of the animus towards Clare O’Neil. She did not say the ‘correct’ or ‘trendy’ thing for a certain section of the loud online commentariat. In turn, the detractors imply that the government should force down prices.

The detractors appear to believe that it is not enough to increase supply. Rather, the government must actively drive down prices through policies that are tantamount to engineered deflation and implicit price ceilings. For example, the government could do so by hiking taxes or supposed concessions, which are not really concessions but are characterized as such by people who like high taxes.

The first major problem is deflation is bad for markets. The reason is easy to see. If you know an item will cost less tomorrow, you will buy it tomorrow rather than today. Knowing this, sellers will produce less because they anticipate demand will be less. In an ordinary market, this will resolve by ordinary supply and demand.

But, what happens if the government says – or implies – it will force prices to keep falling and not rise? Well, here, developers know that if they build now, they risk losing money on a build. Thus, they will not build. Owner-occupiers will know that they could buy cheaper next year, so they will not buy. Investor will now that their investment will fall in value, so they will not invest. Thus, the quantity of new supply will fall. Now, in an ordinary market, this would cause prices to increase. Then, supply would increase. The market would resolve.

But we have a problem: the people who want prices to fall implicitly want a price ceiling to keep prices falling. This appears to be a declining price ceiling. At least until they have bought a house, then they’re happy for prices to start increasing, it seems. In any case, we now have the problem of price ceilings. This is a textbook issue: in a price ceiling the quantity supplied will fall well short of the quantity demanded. This exacerbates the housing supply issue.

What happens when new supply crunches? Well, it is a challenging issue. Presumably, government policy would be the bulwark that breaks and we would need an about-face. But, that is a large risk. Until then, rents would rise, which might help to offset the capital loss that the government had inflicted. In turn, this might force more people to reside in each dwelling, reducing the appearance of demand but also reducing the happiness of individuals.

The sum total of this forced deflation proposal is disaster. Supply gets worse. Because there is an implicit ceiling or control stopping prices from rising when supply falls, the market cannot resolve itself.

The implication of this is that Clare O’Neil is right because the counterfactual leads to bad results. We need an ‘ordinary’ level of inflation, much like we do in any market. There is a reason central banks avoid deflation. There is a reason price controls do not exist: they are bad policy. The best approach is to leave most policies alone. The continued musings about negative gearing and CGT do not help matters: they raise the risk of the aforementioned adverse situation. And, risks matter. The government should just allow more supply so that the market can resolve itself organically.