>So you are replacing landlords with people who actually live there.
...who are now saddled with decades of mortgage payments, and have a high percentage of their net worth being tied up in a not very well diversified asset class.
If land prices are increasing faster than inflation it is bad unless they can get out before the bubble pops. Obviously if they bought too high that is a bad investment. Lets ignore this and assume a sane market where values mostly are similar to inflation.
While property increases with inflation are not nearly as good an investment as investments that do better than inflation, it isn't as bad as it sounds. The whole point of buying property in this case is a place to live. So in 30 years you no longer have a rent payment at all, and in between your rent never goes up. This payment situation needs to be factored in to the calculation since you will be living someplace no matter what. (unless you would normally live in a cardboard box) As a result people who invest in property to live in need to invest a much smaller portion of their total portfolio into something else. And since this is a place to live it doesn't matter how well it performs overall since you are not selling (at least not until you go to a nursing home which you can/should insure for).
Let me point out that rent doesn't increase when you own property. So if you invest just the difference between market rent and your rent over the years you will have more money to invest. Now that money doesn't have as long to grow (since it isn't front loaded as much), but owning is still a good part of a long term portfolio.
Note that the above makes some assumptions that may not be true, or that could be true but you don't want to for lifestyle reasons. That is perfectly fine - there is no one size fits all. Every situation is different, you need to make your own decisions as best you can. The first assumption above is you live there for the rest of your life (some amount of trading is allowed, but be careful as each trade is costly), the second is you pay off the dwelling.
Technically, for many owners their carrying costs do increase year over year. Property taxes, HOA, maintenance, etc all tend to increase over time. Depending on where you live, these non-mortgage costs can be thousands of dollars per month and they don't go away when the mortgage is paid off.
If you look at it in terms of portfolio construction, you would never want more than 10-20% of your net worth in your home, much less the 50+% many people have in practice. Owning your home is a pretty mixed bag, financially, and made worse in practice because people have far too much of their net worth in it. They'd benefit from renting much longer and buying much less home if it was a financial argument.
I've owned my current home for several years, and go back and forth between renting and owning. Even though I live in a "hot" property market and benefited from appreciation, I actually lost money versus renting the equivalent and investing the difference, and I do keep track.
Carrying costs are important to this consideration. They shouldn't be significant compared to rent or the payment, but in some areas they are.
I fully agree that 50% of net worth in a home is too much. Though I doubt that the people you are thinking of actually have that much net worth in a house - the house might be worth that much, but odds are they only own 5-10% of it, and the rest is net worth of the bank. By the time your house is 50% yours you should have seen enough decrease in carrying costs - compared to inflation - that you have more investments elsewhere to pay it off.
The analysis of lost money vs investing needs to compared over a lifetime not a shorter span. Your payoff comes at the end when you need much less invested in the first place to pay for the rent you no longer owe at all. If God hasn't told you the future in detail you can't know: how much will inflation be, when will you die, and other such things that affect how your lifetime investments play out.
That last also gets into life goals. if your plan is to live cheap and work for the rest of your life to leave a large sum of money to your heirs that means a different investment strategy vs someone who wants to retire early and leave nothing behind when they die. For the latter there is a difference between someone who wants to retire and spend all their time in the shop building something vs someone who wants to retire and travel the world.
Only you know your life goals today (and you don't know how they might change in the future!) so you need to make the right decisions for your. Renting and buying a dwelling both have pros and cons so there is no right decision for everyone.
...who are now saddled with decades of mortgage payments, and have a high percentage of their net worth being tied up in a not very well diversified asset class.