A new report by the Progresssive Policy Institute puts forward the argument that Internet technology can "empower consumers, slash costs, and transform the real estate industry." The report suggests how to get an industry to streamline the transaction for the benefit of consumers and submit to additional government supervision, while ignoring any incentives the industry has to participate in its disintermediation.

To view the report in its entirety, Click Here.

The Progressive Policy Institute is the "think tank" for The Democratic Leadership Council, "an idea center, catalyst, and national voice for a reform movement that is reshaping American politics by moving it beyond the old left-right debate," according to its Website.

"We are funded by donations from corporations and individuals, much like other Washington think tanks but we are much smaller than, say, the Heritage Foundation or the Cato Institute," says Shane Ham, one of the two authors of the report. "Our influence derives from our extensive political network of New Dems in Congress and the states, though many of our ideas have also been adopted by the Bush administration directly."

The authors of the report, Ham and Robert D. Atkinson, find that a "number of industries," including residential real estate, "have made little progress on the path to e-transformation, which they find "troubling" and that the slowness of e-transformation suggests that "overall digital transformation of the U.S. economy and the attendant productivity gains are likely to be slowed considerably."

They point out that a number of "market or political failures" stand in the way of e-transformation, including "active political resistance to change by entrenched actors; lack of incentives by middlemen to develop digital transformation tools; producers who are too dispersed or small to drive e-transformation; and lack of key government investments, standards, or regulations to support private sector transformation."

The report focuses on the residential real estate industry which still relies largely on "face-to-face transactions, paper-intensive processes, and middlemen to negotiate the myriad and complex facets of a typical purchase." The authors estimate that real estate transaction costs could be cut in half, including brokers' fees.

Yet, hedge the authors, the intent of promoting e-transformation isn't to disintermediate a "particular players in the industry," but to "enable buyers and sellers to make choices for themselves, instead of having those choices dictated to them by powerful forces in the industry."

The authors believe that e-transformation will not be likely in the real estate industry without public policy intervention. "First, middlemen (mortgage brokers, Realtors, and title companies) exercise control over large parts of the real estate transaction either through favorable laws and regulations or control of key assets such as the Multiple Listing Service...." The authors acknowledge that home sellers are a "disorganized industry," which lessens pressure on the industry to build IT systems that streamline the transaction. Last, title search and insurance, is "held back by the lack of government effort, in this case the establishment of electronic recordation systems for real property records." Lack of e-transformation will cost consumers hundreds of billions of dollars, says the report.

The Progressive Policy Institute estimates that on a typical $150,000 transaction, the average home buyer could save $2,000 from a typical sales commission of $4,500 (one transaction side) after e-transformation.

Among the recommendations of the report is the unbundling of the functions of real estate agents by encouraging competition for brokerage and listing services and disclosing alternatives to buyers and sellers. At an average six percent commission rate, argue the authors, commissions cost American homebuyers as much as $48 billion in 2001, adding $9,000 to the cost of a $150,000 home. Technology can "dissaggregate" many services provided by the agents: "Internet searches for listings, databases displaying home values, smart software for boilerplate contract language, personalized Websites that manage the complicated transaction, and so on, and allow consumers to pay for only those that they want."

What the report does not take into consideration is how the real estate industry, already down to a profitability margin of less than five percent, according to Richard Smith, CEO of Cendant Real Estate Services Division, should be encouraged to invest in expensive technologies and then reward itself for its consumer-friendliness by cutting its commissions.

The authors address this issue by agreeing that "it is unlikely that the industry will develop these tools on their own, since doing so would incur costs in both investment capital and a reduced number of working real estate agents. Expecting real estate agents to move forward with e-transformation is like expecting auto workers to design, build, and pay for the robots that will replace them on the assembly lines."

"I did consider the profitability question," defends Ham, "and the answer is that I don't expect that a full e-transformation would be able to sustain the current number of full- and part-time real estate agents and brokers currently working. Of course, there will always be a market for full-service brokers, but with the proper technology tools, buyers and sellers will be empowered to do much more of the transaction themselves, especially given the amount of money they stand to save. From a macroeconomic perspective, this means that IT can be put to use making home buying more efficient, while some agents/brokers can be put to more productive use in other sectors of the economy.

"The agents themselves have very little incentive to invest in e-transformation," continues Ham. "Instead, they tend to use technology to further entrench the first-mover monopoly they hold over the MLS. In turn, they use control over access to the MLS data to leverage into a full-service commission contract. The Rube Goldberg compensation scheme (co-op commissions) helps ensure that the full amount is paid on every transaction.

"We don't advocate giving up control of the MLS (assuming it's not being used in an anticompetitive manner) but we do advocate better disclosure to buyers and sellers, letting them know that there is an alternative to the MLS and the full-commission model, and pointing them to a place where they can find more information. This will let competing listing services gain a foothold and let individuals decide for themselves which way is best."

What other industry is so accommodating to the consumer?

"As for other industries that give up "control," there are no direct analogies to the MLS," concedes Ham, "especially since the MLS carries the additional burden of being a key piece of an important public policy goal: homeownership. The MLS is an intellectual property issue. However, when you look at the way Microsoft has given up control of the Windows desktop to competing software (so Microsoft can't control what kind of video software you use), or compulsory licensing of creative content (so Sony can't decide what format your music comes in), you can see that the government is not afraid to step in and put checks on monopoly control of intellectual property when that monopoly is leveraged into other lines of business."

The true purpose of the report then is to expose what the authors feel is a monopoly run by the real estate brokerage community, but without taking into account why and how the industry operates as it does, the authors risk being biased without being informed.

For example, the report makes it sound like there is some clever conspiracy of power mongers that is evading e-transformation and suppressing new business models, when the real estate industry is really much further down Maslow's hierarchy of needs than all that. The industry is mostly at the survival level - food and water and shelter. Agents are trying to make deals, and have no more time or energy for developing infrastructure than a hunter-gatherer has for artwork. The report also fails to recognize that commissions are success-based, that agents are only paid when a home closes, which raises the risk and cost of operations considerably.

The report is also based on an assumption, without recording where this assumption came from, and that is that commissions by custom average six percent. The NAR report, "A Changing Landscape," released in April 2001 and composed of information provided by consultants to the industry and brokers, says that the net national average commission percentage realized is only 4.2 percent. Net profits per transaction are estimated to be about $150 per side.

If this is true, then the savings the authors would like to see passed on to consumers through technology have already been realized.

If this report and the intentions of its authors is really to help consumers, and not merely to break up what they may perceive as a monopoly, then the authors should be ready to show how the industry can meet suggested changes and show a profit. The industry is already at razor-thin margins. How should it pay for the infrastructure to streamline the transaction and cut its profits further to benefit consumers? How can the industry can make up those profits with fewer salespeople to bring in the listings and buyers?

There's only one way, and that is to charge the consumer.

The authors assume that the technologies they propose, just as they assume the technologies that market listings, are cheap and should be made available to the consumer at little or no charge. If the consumer wants a stream-lined transaction, the consumer will pay for it, not the industry, because it simply doesn't make economic sense for any industry to foot the bill for its own disenfranchisement. Another possibility is that the customer could be charged for services up front or along the way, which raises out of pocket costs, something consumers turn to the real estate industry to avoid.

Ham responds, "With respect to the real estate brokerage section, there really isn't much to pay for. The development of the web site and "intelligent agent" paperwork tools would fall under the HUD budget. Additional disclosures would be developed by states, so the only cost is the cost of a sheet of paper for each transaction. The legislative changes to ensure that rebating is allowed would come at no cost to anyone. And the FTC would take on the burden of closer monitoring of the industry within the confines of their budget.

"If the question is how undercapitalized brokers can afford transformation, the answer is that we do not require them to make any investments. Whether those agents will be able to compete in the new environment is an open question for the market to decide."