zoning

Why will no one listen to economists on rent control?

pnrj current events, inequality, market failure, public policy , , , , , , , ,

Sep 22 JDN 2458750

I am on the verge of planting my face into my desk, because California just implemented a statewide program of rent control. I understand the good intentions here; it is absolutely the case that housing in California is too expensive. There are castles in Spain cheaper than condos in California. But this is not the right solution. Indeed, it will almost certainly make the problem worse. Maybe housing prices won’t be too high; instead there simply won’t be enough homes and more people will live on the street. (It’s not a coincidence that the Bay Area has both some of the world’s tightest housing regulations and one of the highest rates of homelessness.)

There is some evidence that rent control can help keep tenants in their homes—but at the cost of reducing the overall housing supply. Most of the benefits of rent control actually fall upon the upper-middle-class, not the poor.

Price controls are in general a terrible way of intervening in the economy. Price controls are basically what destroyed Venezuela. In this case the ECON 101 argument is right: Put a cap on the price of something, and you will create a shortage of that thing. Always.

California makes this worse by including all sorts of additional regulations on housing construction. Some regulations are necessary—homes need to be safe to live in—but did we really need a “right to sunlight”? How important is “the feel of the city” compared to homelessness? Not every building needs its own parking! (That, at least, the state government seems to be beginning to understand.) And yes, we should be investing heavily in solar power, and rooftops are a decent place to put those solar panels; but you should be subsidizing solar panels, not mandating them and thereby adding the cost of solar panels to the price of every new building.

Of course, we can’t simply do nothing; we need to fix this housing crisis. But there are much better ways of doing so. Again the answer is to subsidize rather than regulate.

Here are some policy options for making housing more affordable:

  1. Give every person below a certain income threshold a one-time cash payment to help them pay for a down payment or first month’s rent. Gradually phase out the payment as their income increases in the same way as the Earned Income Tax Credit.
  2. Provide a subsidy for new housing construction, with larger subsidies for buildings with smaller, more affordable apartments.
  3. Directly pay for the construction of new public housing.
  4. Relax zoning regulations to make construction less expensive.
  5. Redistribute income from the rich to the poor using progressive taxes and transfer payments. Housing crises are always and everywhere a problem of inequality.

Some of these would cost money, yes; we would probably need to raise taxes to pay for them. But rent control has costs too. We are already paying these costs, but instead of paying them in the form of taxes that can be concentrated on the rich, we pay them in the form of a housing crisis that hurts the poor most of all.

The weirdest thing about all this is that any economist would agree.

Economists can be a contentious bunch: It has been said that if you ask five economists a question, you’ll get five answers—six if one is from Harvard. Yet the consensus among economists against rent control is absolutely overwhelming. Analyses of journal articles and polls of eminent economists suggest that over 90% of economists, regardless of their other views or their political leanings, agree that rent control is a bad idea.

This is a staggering result: There are economists who think that almost all taxes and regulations are fundamentally evil and should all be removed, and economists who think that we need radical, immediate government intervention to prevent a global climate catastrophe. But they all agree that rent control is a bad idea.

Economists differ in their views about legacy college admissions, corporate antitrust, wealth taxes, corporate social responsibility, equal pay for women, income taxes, ranked-choice voting, the distributional effects of monetary policy, the relation between health and economic growth, minimum wage, and healthcare spending. They disagree about whether Christmas is a good thing! But they all agree that rent control is a bad idea.

We’re not likely to ever get a consensus much better than this in any social science. The economic case against rent control is absolutely overwhelming. Why aren’t policymakers listening to us?

I really would like to know. It’s not that economists have ignored the problem of housing affordability. We have suggested a variety of other solutions that would obviously be better than rent control—in fact, I just did, earlier in this post. Many of them would require tax money, yes—do you want to fix this problem, or not?

Maybe that’s it: Maybe policymakers don’t really care about making housing affordable. If they did, they’d be willing to bear the cost of raising taxes on millionaires in order to build more apartments and keep people from being homeless. But they want to seem like they care about making housing affordable, because they know their constituents care. So they use a policy that seems to make housing more affordable, even though it doesn’t actually work, because that policy also doesn’t affect the government budget (at least not obviously or directly—of course it still does indirectly). They want the political support of the poor, who think this will help them; and they also want the political support of the rich, who refuse to pay a cent more in taxes.

But it really makes me wonder what we as economists are even really doing: If the evidence is this clear and the consensus is this overwhelming, and policymakers still ignore us—then why even bother?

Why is housing so expensive?

pnrj market failure, public policy , , , , , , , , , , ,

Apr 30, JDN 2457874

It’s not your imagination: Housing is a lot more expensive than it used to be. Inflation adjusted into 2000 dollars, the median price of a house has risen from $30,600 in 1940 to $119,600 today. Adjusted to today’s dollars, that’s an increase from $44,000 to $173,000.

Things are particularly bad here in California, where the median price of a new home is $517,000—and especially in the Bay Area, where the median price is $838,000. Just two years ago, people were already freaking out that the median home price in the Bay Area had hit $661,000—and now it has risen 27% since then.

The rent is too damn high, but lately rent has actually not been rising as fast as housing prices. It may be that they’ve just gotten as high as they can get; in New York City rent is stable, and in San Francisco it’s actually declining—but in both cases it’s over $4,000 per month for a 2-bedroom apartment. The US still has the highest rent-to-price ratio in the world; at 11.2%, you should be able to buy a house on a 15-year mortgage for what we currently pay in rent near city centers.

But this is not a uniquely American problem.

It’s a problem in Canada: Housing in the Toronto area recently skyrocketed in price, with the mean price of a detached home now over $974,000 CAD, about $722,000 USD.

It’s a problem in the UK: The average price of a home in the UK is now over 214,000 pounds, or $274,000 (the pound is pretty weak after Brexit). In London in particular, the average home now costs nine years of the average wage.

It’s even a problem in China: An average 1000-square-foot apartment (that’s not very big!) in Shanghai now sells for 5 million yuan, which is about $725,000.

Worldwide, the US actually has a relatively low housing price to income ratio, because our incomes are so high. Venezuela’s economy is in such a terrible state that it is literally impossible for the average person to buy the average home, but in countries as diverse as France, Taiwan, and Peru, the average home still costs more than 10 years of the average household income.

Why is this happening? Why is housing so expensive, and getting worse all the time?

There are a lot of reasons that have been proposed.

The most obvious and fundamental reason is basic supply and demand. Demand for housing in major cities is rapidly rising, and supply of housing just isn’t keeping up.

Indeed, in California, the rate of new housing construction has fallen in recent years, even as we’ve had rapid population growth and skyrocketing housing prices. This is probably the number one reason why our housing here is so expensive.

But that raises its own questions: why aren’t more houses getting built? The market is supposed to correct for this sort of thing. Higher prices incentivize more construction, so prices get brought back down.

I think with housing in particular, we have a fundamental problem with that mechanism, and it is this: The people who make the policy don’t want the prices to come down.

No, I’m not talking about mayors and city councils, though they do like their property tax revenue. I’m talking about homeowners. People who go to homeowners’ association meetings and complain that someone else’s lopsided deck or un-weeded garden is “lowering property values”. People who join NIMBY political campaigns to stop new development, prevent the construction of taller buildings, or even stop the installation of new electrical substations. People who already got theirs and don’t care about anyone else.

Homeowners have an enormous influence in local politics, and it is by local politics that most of these decisions about zoning and development are made. They make all kinds of excuses about “preserving the community” and “the feel of the city”, but when you get right down to it, these people care more about preserving their own home equity than they do about making other people homeless.

In some cases, people may be so fundamentally confused that they think new development actually somehow causes higher housing prices, and so they try to fight development in a vain effort to stop rising housing prices and only end up making things worse. It’s also very common for people to support rent control policies in an effort to keep housing affordable—and economists of all political stripes are in almost total consensus that rent control only serves to restrict supply, increase inequality, and make housing prices even worse. As one might expect, the stricter the rent control, the worse this effect is. Some mild forms of rent control might be justifiable in particularly monopolistic markets, but in general it’s not a good long-term solution. Rent control forces rationing, and often the rationing is not in favor of who needs it the most but who is the most well-connected. The people who benefit most from rent control are usually of higher income than the average for the city.

On the other hand, removing rent control can cause a spike in prices, and make things worse in the short run, before there is time for new construction to increase the supply of housing. Also, many economists assume in their models that tenants who get forced out by the higher rents would get compensated for it, which is not at all how the real world works. It’s also unclear exactly how large the effect sizes are, because the empirical studies get quite mixed results. Still, rent control is a bad idea. Don’t take it from me, take it from Paul Krugman.

It’s also common to blame foreign investors—because humans are tribal, and blaming foreigners is always popular—even though that makes no economic sense. Investors are buying your houses because the prices keep rising. It’s possible that there could be some sort of speculative bubble, but that’s actually harder to sustain in housing than it is in most other assets, precisely because houses are immobile and expensive. Speculative bubbles in gold happen all the time (indeed, perhaps literally all the time, as the price of gold has never fallen to its real fundamental value in all of human history), but gold is a tradeable, transportable, fungible commodity that can be bought in arbitrarily small quantities. (Because it’s an element, you’re literally only limited to the atomic level!)

Moreover, it isn’t just supply and demand at work here. Fluctuations in economic growth have strong effects on housing prices—and vice-versa. There are monetary policy effects, particularly in a liquidity trap; lower interest rates combined with low inflation create a perfect storm for higher housing prices.

Overall economic inequality is a major contributor to steep housing prices, as well as the segregation of housing across racial and economic lines. And as the rate of return on productive capital continues to decrease while the rate of return on real estate does not, more and more of our wealth concentration is going to be in the form of higher housing prices—making the whole problem self-reinforcing.

People also seem really ambivalent about whether they want housing prices to be low or high. In one breath they’ll bemoan the lack of affordable housing, and in another they’ll talk about “protecting property values”. Even the IMF called the increase in housing prices after the Second Depression a “recovery”. Is it really so hard to understand that higher prices mean higher prices?

But we think of housing as two fundamentally different things. On the one hand, it’s a durable consumption good, like a car or a refrigerator—something you buy because it’s useful, and keep around to use for a long time. On the other hand, it’s a financial asset—a store of value for your savings and a potential source of income. When you’re thinking of it as a consumption good, you want it to be “affordable”; when you’re thinking of it as an asset, you want to “protect its value”. But it’s the same house with the same price. You can’t do both of those things at once, and clearly, as a society—perhaps as a civilization—we have been tilting way too far in the “asset” direction.

I get it: Financial assets that grow over time have the allure of easy money. The stock market, the derivatives market, even the lottery and Las Vegas, all have this tantalizing property that they seem to give you money for nothing. They are like the quest for the Philosopher’s Stone in days of yore.

But they are just as much a chimera as the Philosopher’s Stone itself. (Also, if anyone had found the Philosopher’s Stone, the glut of gold would have triggered massive inflation, not unlike what happened in Spain in the 16th century.) Any money you get from simply owning an asset or placing a bet is money that had to come from somewhere else. In the case of the stock market, that “somewhere else” is the profits of the corporations you bought, and if you did actually contribute to the investment of those corporations there’s nothing wrong with you getting a proportional share of those profits. But most people aren’t thinking in those terms when they buy stocks, and once you get all the way to sophisticated derivatives you’re basically in full gambling territory. Every option that’s in the money is another option that’s out of the money. Every interest rate swap that turns a profit is another one that bears a loss.

And when it comes to housing, if you magically gain equity from rising property values, where is that money coming from? It’s coming from people desperately struggling to afford to live in your city, people giving up 40%, 50%, even 60% of their disposable income just for the chance to leave in a tiny apartment because they want to be in your city that badly. It’s coming from people who started that way, lost their job, and ended up homeless because they couldn’t sustain the payments anymore. All that easy money is coming from hard-working young people trying to hold themselves out of poverty.

It’s different if your home gains value because you actually did something to make it better—renovations, additions, landscaping. Even then I think these things are sort of overrated; but they do constitute a real economic benefit to the people who live there. But if your home rises in value because zoning regulations and protesting homeowners stop the construction of new high-rises, that’s very much still on the backs of struggling young people.

We need to stop thinking houses as assets that are supposed to earn a return, and instead think of them as consumption goods that provide benefits to people. If you want a return, buy stocks and bonds. When you’re buying a house, you should be buying a house—not some dream of making money for nothing as housing prices rise forever. Because they can’t—sooner or later, the bubble will break—and even if they could, it would be terrible for everyone who didn’t get into the market soon enough.