Rising rents and appropriate responses

by dominicq2 min read18th Apr 202111 comments


PoliticsRent controlWorld Optimization

I was recently involved in a discussion related to real estate and rising rents. A friend proposed this policy: "We should limit the extent to which the city can expand, and we should have rent caps so that the prices don't go up." I responded: "That means that purchase prices will go up dramatically, if the influx of new citizens doesn't stop." She said: "Yes, but that will be temporary - the prices will stabilize at some point, they cannot grow forever."

I agree that they cannot grow forever. The prices will stabilize, that much is certain, but they will stabilize at a very high point. I proposed that there are essentially two futures: you either have a San Francisco scenario, where new construction is very difficult, but since people still want to come and live there, the prices for renting and owning are incredibly high OR you have a Tokyo scenario, where you tear down old neighborhoods to make place for gigantic complexes which allow very dense living (and still have high prices because the demand still exceeds the supply).

What happens if you institute construction limits and rent control? Ownership prices go up, and rent goes up in the surrounding places. People want to go to hubs so much that they will forego the benefits of living in other areas. The opportunities in the city simply outweigh what they can get elsewhere.

Given a constant influx of new citizens to a hypothetical city:

If you institute construction limits: this hits the poor the most, because now everyone is competing for a very limited resource (available housing).

If you institute rent control: this helps the poor temporarily because the prices are more affordable, but since you now limit how much construction companies can earn, there will be less construction. How much less? Difficult to say.

If you institute both: prices of owning will rise, and mobility among those who rent will drop (every rental property charges the maximum possible rent and is already rented out - which means you cannot just move out of your apartment and easily find a new one). If the influx of citizens remains constant, with time, all housing will be bought up (by those who can afford it) and there will be very little for renting (again, hitting the poor the most because if you're poor, you have to rent).

If you do literally nothing at all: construction companies will build as much as they can, people will buy/rent as much as they can. The density will grow, and since individual construction companies don't have an incentive to care about urban planning, just their own projects, you will get ugly neighborhoods and questionable infrastructure. There's no guarantee that this will happen, but I've seen it happen in my city. Maybe, if you're lucky, decision makers in construction companies will care about urban planning despite not being incentivized to do so.

Therefore, you probably have to do something. The force of people wanting to move to the city is very strong, and simply placing limits will not stop it (at least not without unintended consequences). What to do?

  1. Build new hubs. Make it unreasonable for businesses NOT to move to this new hub: offer generous tax cuts, zero rent for employers, cover employee relocation etc. If people see a lot of opportunity to achieve their goals in your new hub, they'll maybe move there instead, lightening the load on the old hub.
  2. Have urban planning for new development. This will curtail new development a little bit, but not so much as an outright ban. And you will hopefully end up with neighborhoods that aren't ugly and that have infrastructure.

I'm kinda disappointed because I have just invented a generic government: that's precisely what governments are already doing (or claim to be doing).

Regardless, I'm posting this here with three requests:

  • Please criticize my model! I don't know what exactly I'm wrong about, but I'm reasonably certain that I'm wrong about something.
  • What are the experts disagreeing on? What are the deeper questions?
  • Finally, what are some good resources to learn about these topics?


11 comments, sorted by Highlighting new comments since Today at 9:16 PM
New Comment

Your friend's argument is basically the opposite of Georgian economics. It is a set of policies that maximizes land speculation at the expense of capital investment and even rent seeking. If you want to maximize value for incumbents then restrict construction without establishing rent controls. If you want to keep rents accessible to an influx of poor people then allow construction. You cannot provide housing for an influx of residents while restricting construction. There won't be enough living space to go around. The only way to provide sufficient housing while keeping prices low is to restrict immigration, which San Francisco lacks the sovereignty to do.

Every country wants their own Silicon Valley. Few have succeeded in creating one. Building new hubs is hard because there are massive network effects. In theory, it is possible. (Many countries have built massive industrial sectors via government-led industrial policy.) The problem is that centralized decision-makers are bad at urban planning in general and bad at building startup hubs in particular .

Can you speak to this: 
The density will grow, and since individual construction companies don't have an incentive to care about urban planning, just their own projects, you will get ugly neighborhoods and questionable infrastructure. There's no guarantee that this will happen, but I've seen it happen in my city.

AFAIK, every major city developed like this. If anything, there seems to be evidence that absent development planning you get organic development which leads to massively desirable places to live (NYC, LON, SF)- where almost all the existing constrution was before significant zoning restrictions.

In my experience (Zagreb), you have this same organic development which leads to very crowded buildings with drastically different styles (like massive apartment buildings "boxing in" houses), very little pedestrian space, few parks and green areas... Some pretty messy and inhospitable neighborhoods.

Also some really good ones, so I'm wondering if the main factor is "some person in charge of a building wants to ensure that it fits the neighborhood".

Basic standard microeconomics (supply and demand) is a pretty strong model, so you're doing great! 

What you're missing is formalizing the value or disvalue being pursued or created by the system.
Right up until "If you do literally nothing at all," the discussion was about prices and quantity, but then suddenly we care about aesthetics and infrastructure. Did you know that people would also pay for that, too? This might lead to things like some neighborhoods being more valuable than others and accordingly commanding higher prices for otherwise similar accommodations.

If a lot of people want to move to the city because the opportunity is so vast and they aren't as concerned about aesthetics, developers would develop accordingly. If instead many of these people are pickier, well, developers would be too. This sounds bad because that means we can't guarantee other people live according to our preferences, but it's actually good because it's demand and supply meeting up. Where things go awry is when these market exchanges create externalities that should be internalized by the market participants. If bare wires a strewn across the streets and children are being electrocuted every day, maybe we need a government to enforce some basic regulatory code to take care of that (because in this hypothetical, I guess the neighborhood is populated by selfish singles and the children come from elsewhere to play in these oh so attractive streets, so the problem won't get fixed otherwise).

Yes, inventing a generic government can cover the really bad results (if they occur) from this market arrangement. The risk with this is that people may then seek to enforce their preferences through this government rather than letting the market handle it. That might be fine. Or it might be inefficient, maybe even unjust. "I think apartment complexes should have at least a one-car garage or two parking spaces per unit; I'm also super benevolent so developers can mix and match" leads to an absurd result when the would-be tenants just grin and bear it despite their preference for taking the available public transit or use their bikes. It just becomes a value-suck, raising prices and/or lowering supply, achieving one (foolish) objective to the neglect of the many (important) others.

I come from a mountain town - space is scarce. The government decided it would be more efficient, kinda neat in town, and better for tax revenue to implement onerous housing regulations but exempt mixed-use (residential on top, commercial on bottom, and you know it, parking in the back) from some (not all) of those regs. We got a lot more mixed use. The housing filled up since we had a shortage already. The commercial did not, wasting resources and space. This also cratered commercial rent prices, but the new building owners don't seem to cry about it. Turns out the developers were building residential space; commercial rent would just be gravy since the commercial space was just to get the desired regulatory structure applied. That's how valuable the residential space was.

I can tell you what experts aren't disagreeing on.

Discussions of rent control never seem to distinguish between rent control on new and recently constructed units (which suppresses construction), and rent control on 20+-year-old houses (which doesn't). Paying attention to this distinction suggests some easy wins, like waiving property tax for the first few years of a building's life.

AFAICT there isn't significant disagreement among experts about the effects of rent control, construction, etc on housing prices. However, I don't think local policymakers have reliable access to uncorrupted information; if they try to find out what effects policies will have, then political processes can guide them to a tiny minority of economists who will tell them whatever those political processes wanted them to hear. It might help to tell city councilmembers that they can pin an economics-department directory to a dartboard, and that throwing darts at it and emailing whoever comes up will get them more reliable information than they're currently getting.

Rent control on 20+ year old houses not affecting new construction seems like a [citation needed] sort of thing. I'm not sure how large the effects are, but rent control on old houses would reduce the value of new houses because you're signalling that new construction is very likely to come under similar regulations in the near future.

It's possible this is only "limited upside", but limiting the upside to investments isn't something that obviously has no effect. I assume the effect on limiting upside for construction would be much smaller than i.e. startups, but I'm not convinced it would be literally zero.

I don't have citations for you, but it seems relevant that income far in the future gets discounted quite a bit compared to current income, which would imply that short-term incentives are more important than long-term incentives.

(A better argument would need to be made with realistic numbers.)

When building new hubs, it's also important for the new hub to be close to the old one, since people who have the choice prefer not to move. For example, nothing is preventing everyone in SF from moving somewhere cheap in Texas, but the rich people fueling SF don't live there (or anywhere nearby).

Also when talking about planned cities, it's important to notice the many failures and consider what will make this one different.

It’s funny you mention Texas because a lot of Bay Area people in the past few years left for Austin, Texas.

The density will grow, and since individual construction companies don't have an incentive to care about urban planning, just their own projects, you will get ugly neighborhoods and questionable infrastructure.

This is only true when construction companies are building small projects. If they're building large projects, then insofar as people value infrastructure, and will pay extra for it, the construction companies will have an incentive to build infrastructure.

Currently construction companies have an incentive to buy large plots of land, and build nice neighborhoods with good infrastructure as they can charge more per unit. So if that's not happening it's because it's too difficult to buy land.

In which case we need to increase land liquidity. 

Robin Hanson likes the idea of Harberger taxes to solve this:  https://www.overcomingbias.com/2017/10/for-stability-rents.html. The idea is everyone needs to declare a selling price for their property. In order not to encourage inflated selling prices making the market illiquid, you get charged property tax based on your stated price.

An alternative might be the Georgist idea of taxing land value according to its full rent. This means that holding onto land is expensive and it's only profitable to hold onto it if you can use it more valuably than the next guy - there's no money to be made speculating on it. This should help both increase liquidity, and reduce land prices. I enjoyed the recent book review on this at https://astralcodexten.substack.com/p/your-book-review-progress-and-poverty.

Building new hubs doesn't need to be literally building something new.  A lot could be done just by load-balancing with cities that have lower rents and could use the jobs. Suppose that places where growth is a problem cooperated more with places that want more growth?