Monday, January 15, 2018

Housing: Part 277 - Was there an internet bubble?

While I generally find the notion of "bubbles" to be overstated, there are a couple of markets that seem reasonably to fit that description.  (1) The Contagion cities in 2004 and 2005, when mass migration from the Closed Access cities contributed to valuations that were unlikely to be sustainable, and (2) the internet stock bubble.

On number (2), I think there is a credible explanation that somewhat salvages an efficient markets perspective: We invented the internet.  There has been a undeniable technological revolution such that even residents of the developing world now frequently have smart phones.  If there was a miscalculation, it was that firms couldn't figure out how to monetize it, and most of the value accrued to consumer surplus instead of to producer surplus.  The value of the products and services the firms were producing in 2000 was worth as much as the stock market estimated that it was.  It's just that the value was captured by consumers through real (if sometimes unmeasured) growth instead of by firms through profits.

This is an optimistic story, and I think there is something to it.  But, it is at best a partial story.  Any story will be a partial story.  I was poking around the stock market back then, and there were hardware firms - basically electronics manufacturing firms that had revenues from infrastructure buildup - that had traded at multiples that were far above levels that I could imagine ever being justified by any realistic level of production.  I hate to call something a bubble because of conclusions from my own imagination because most of the time I see things being called bubbles, it looks to me like it is the observer's imagination that is off, not the valuation they are second-guessing.  But, it does seem like there was froth.

But, I have another story, which may also provide a partial answer.  This is not an optimistic story.  And, this story is much more easily verified and quantified.  Frankly, I can't believe it hadn't fully occurred to me until now.  The reason the internet bubble popped wasn't because the added value went to consumers.  The reason it popped was because the added value went to real estate owners.  Those technology valuations in the late nineties, at some point, had to be justified by profits, and those profits didn't fully materialize.  Where did they go?  They went to bloated wages, because in the cities where almost all of those firms are located, they must pay their workers a 50% wage premium, and that wage premium flows on to the owners of real estate.

Of course, the common parlance is to blame this all on money, on the Fed, on unsustainable borrowing, and to just conclude that there was an unsustainable tech bubble which we tried to replace with an unsustainable housing bubble.  Readers know that there are many problems with that story.  First and foremost, a problem with that story is that the most expensive homes have high prices that are fully justified by high and rising rents.  It was incorrect to conceive of those rising property values as sources of home equity borrowing for consumption we couldn't afford.  It is at least as accurate to conceive of those rising property values as sources of collected economic rents for owning property that has been politically protected from competition, so that it earns monopoly rents.

Those Closed Access real estate owners got their spoils the old fashioned way, not from hapless lenders, but from limited access political orders - local planning commissions that weren't sure the new condo building next to the train station was really necessary.

This is admittedly slapdash.  But, here is a graph that compares the real value of US nonfinancial equities to the value of the sum of equities and real estate.  If we just look at equities, the value peaks in 2000, and never comes close to reaching the same relative level above trend.  If we look at both, the value of residential real estate owned by households plus the value of equities hits the trendline in 2000, then hits it again in 2005.

Then, we took a sledgehammer to credit markets and the economy to make sure that wouldn't happen again.  Keep in mind, because of capital repression in mortgage markets, real estate is probably collectively undervalued by more than $5 trillion.  (In other words, if households who could afford homes were able to get mortgages to buy them, they would likely be able to bid home values up from the current cumulative value of about $27 trillion.)  In addition, we have underinvested in new housing stock over the last 10 years by at least another $5 trillion.  In this way, we have brought this total value down from the trend.  Surely, some significant amount of innovation and production has also been lost due to the geographic obstacles we have in place that prevent workers from moving to prime locations.

We didn't replace an internet bubble with a housing bubble.  Housing owners just claimed their fat portion of the gains in production.

Currently, households own about $27 trillion of residential real estate, and nonfinancial equities are worth about $25 trillion.  If we had started building hundreds of thousands of homes around New York, Boston, LA, and San Francisco in the late 1990s, would we currently have equities worth something like $40 or $50 trillion, instead?  In that case, even though we would have spent trillions on residential investment, the value of real estate would still probably have been about $30 trillion, because the value would have been based on the value of shelter, not the value of political exclusion.

December 2017 CPI


Here are the latest inflation numbers.  We continue in the holding pattern that has been in place for 9 months.  Shelter inflation above 3% and core inflation minus shelter at about 0.7%.

Recent inflation expectations and interest rates have ticked up slightly, but they seem to be in a long term holding pattern too.

Credit seems to be flat or growing very slightly.

So, the very slow motion process continues, and I suppose it is possible that there is enough momentum to stay ahead of rising policy rates for a while.  But, the long end of the curve seems pretty stuck, and I am still watching for the bearish signal of long term yields declining as short to rates rise.


Source
It's all going very slowly - slowly enough that homebuilder stocks have managed to have a decent year.  A long position in long term bonds hasn't done so bad either, and the combination of the two still seems like a reasonable combination to me.  Homebuilders have growth potential if credit markets can grow again, and should also be defensive since the shortage of homes continues to build.  Although, in current terms, I'm not sure there is much of a discount in that sector any more.  Long term yields will eventually fall, and in the off chance that the economy can remain in front of the Fed tractor beam, losses would likely be countered by gains in homebuilder stocks.  This is all the more so because I think we are unlikely to see strong growth without a rejuvenation in mortgage borrowing, which would coincide with rising prices and starts.  But, I think there is a consensus of the damned to prevent that from happening.  So, I continue to be moderately bearish, although I expect my patience will continue to be tried on this issue.

PS: Zillow showed rent inflation subsiding earlier last year, but possibly starting to recover again in December.  With the persistent shortage of housing, I think rent inflation is generally a signal of demand.  When it drops, it will be bearish.  There is chatter about "oversupply" in the Closed Access cities.  It is true that those cities and only a few others have new supply coming on at near the rates of 2005, and according to Zillow, Closed Access rent inflation is currently moderate.  But, in 2005 those cities, collectively, had net domestic migration outflow rates of something like 1.5% of their populations.  A lack of demand, which in this case will be a lack of money or credit, will look like oversupply, and will lead to calls for more contraction of demand in order to pull back building, which will make it appear as if overbuilding caused the contraction.  That will seem to prove that the Fed still needs to tighten earlier in order to stop all of these bubbles.
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Friday, January 12, 2018

Links

I don't have much to say or add.  This is a great summary of policy recommendations for the California housing market.  Title: "25 Solutions From A Builder’s Perspective To Fix The California Housing Crisis"



Also, here is an excerpt from a recent EconTalk podcast with Brink Lindsey and Steven Teles.  It is on the topic of occupational licensing.  I generally find that it is hard to exaggerate how much the defense of licensing depends on assumptions that vastly overstate the utility of licensing and understate the amount of coordination and safety we take for granted in ways that have nothing to do with licensing. Lindsey makes a great point regarding that.

Brink Lindsey: Sure. Yeah, you're absolutely right that--licensing doesn't do its work by insuring that incredibly complicated tasks are performed by highly trained people. So, you use the example, 'Of course, we don't want somebody walking off the street doing heart surgery.' But the fact is, that there is no licensing of heart surgeons. There's only licensing of general practitioners. If you complete a U.S. residency in anything, and pass a state medical exam, you are a doctor--licensed to practice medicine. So, if you complete a residency in podiatry and pass a state licensing exam, you are legally entitled to do heart transplants or brain surgery or anything you can convince anybody to let you do. But, of course, that's not going to happen, because no practice will hire you; no hospital will give you admitting or surgical privileges. Simple commercial incentives backstopped by concerns about malpractice liability will suffice to ensure that highly complicated tasks are performed by highly trained people. What licensing does is ensure that tasks that don't require all that extensive training are still performed by highly trained people. And they have a captive audience and they can overcharge for it. So, there's just no problem with, you know, wildcat brain surgery. But, there's a lot of problem with people having to pay too much to get a finger splinted, or to check out for an ear infection, or to do lots of other humdrum things that mid-level professionals like nurse practitioners could perform fine but that in most states are not allowed to do so because of the licensing regime.

Wednesday, January 10, 2018

Housing: Part 276 - No, the Contagion cities aren't in better shape today.

Bill McBride, at Calculated Risk, has a post up about economic growth in the bubble cities (HT: Daniel Miller).  McBride points out that unemployment rates are low in cities like Riverside, CA.  And, since their economies are less dependent on construction and building now, their recovery is on more solid ground.

I think this is a good example - one of many - of how the notion that the bubble was the anomaly and the bust was a return to normalcy, shades one's viewpoint about what is happening in the economy in general in a way that diverts focus from important issues.

Now, first, I would say that the ideal world would be one where Los Angeles and San Francisco were growing instead of Riverside and Phoenix.  Really, what we have here (and I say this as a happy resident of the Phoenix area) are cities that are inferior substitutions for cities where residents would rather live.  The growth of Phoenix and Riverside is largely the product of a post-industrial refugee crisis, as financially constrained households are forced out of cities with limited housing options.

But, given the world we have, cities like Phoenix and Riverside should absolutely be growing, and it would be appropriate, right, and healthy for their economic growth to be dependent on construction.  In truth, even without the Closed Access refugee problem, Phoenix would likely have strong migration in-flows from the Midwest and the North.  But, certainly, in an economy with an unencumbered financial sector and coastal housing shortages, these cities today would be growing at their practical limits.

This is where unemployment rates can be a bit misleading.  In cities where economic expansion is manifest in migration, it is primarily migration shifts that adjust to changing conditions.  This is why the recession beginning in December 2007 is dated so long after the Federal Reserve had initiated policies that were too contractionary.  Employment growth had started to turn south at the end of 2006, but this didn't lead to much of a rise in unemployment rates, because at the time, hundreds of thousands of households were flooding out of Closed Access cities to escape their rising costs.  So, the first thing that happened was that the migration flows abruptly stopped in 2007.

It was only after this first adjustment in migration patterns that unemployment started to rise.  Here is a graph of LA & Phoenix employment (indexed for comparison) and the unemployment rate.

Source
In the 2001 recession, when employment growth stalled, the unemployment rate rose in both cities.  But, notice what happened in 2006.  There was a downtrend in employment growth in both cities, and that continued until 2008, when employment dropped disastrously in both cities.  (As an aside, this chart is one of many that makes me shake my head at the pressure the Fed was taking in September 2008 not to stabilize the economy.  For Goodness' sake.)  Notice two other things, too:

1) Employment levels held on longer in LA than in Phoenix.  Phoenix employment really started to fall at the end of 2007, after the subprime market crashed.  LA held on until the September 2008 debacle.  Previously, about 2% of Los Angeles' population had been moving away each year, many of them to Phoenix, but this mostly stopped by 2008.

2) In August 2006, the unemployment rate in Phoenix was 3.6%.  In LA it was 4.4%.  A year later, in Phoenix it was down to 3.1% and in LA it was up to 4.8%.  We can see the effect of the whipsaw in migration in the unemployment rates.

By many measures, one could reasonably argue that a weak recession had begun by the middle of 2006.

Now, back to Bill McBride's comments, we can see the damage that the housing bust did to the Contagion cities more clearly in population and income levels than in the unemployment rate.  And, the economy since 2005 has not been kind to them.

Source
Here is a graph of personal income per capita (indexed to 2005 at the peak of the housing boom).  Before the Great Recession, incomes across cities of all types correlated reasonably well with one another.  But, when the housing bust hit, and was enforced, the damage was targeted at the cities which had previously been both aspirational destinations for Americans from the interior, and a release valve for Closed Access refugees.

LA is in black.  The Contagion cities are in orange tones.  Other cities are in blue tones.  The damage has especially hit the Contagion cities.

Source
We can see the effect in population growth, too.  Here is a similar graph, showing the Civilian Labor Force for each MSA (indexed to the end of 2007, when the housing bust and the recession had eliminated net in-migration).  The Contagion cities were fast growers during and well before the housing boom.  In fact, in spite of the errant claims that they had overbuilt during the boom, their growth rates didn't change that much during that period.

But, they changed drastically with the bust.  (Much of the deviation after the bust, in the graph, is from 2010 Census revisions, but we can see that the trends across all cities were fairly flat.  Only recently have labor force growth rates picked up somewhat in those cities.

What would be great would be if LA managed to grow again.  But, lacking that, healing will come with growth in the Contagion cities.  And, the causation isn't that we need to build homes to boost spending.  (Well, first and foremost, we need to build homes because they provide shelter and access to urban amenities!)  The causation is that a functional, healed economy will manifest itself in a return to old patterns - migration, homeownership, incomes that moderate between various cities.

But, for now - no.  These cities aren't in better shape today.

Tuesday, January 9, 2018

Housing: Part 275 - Closed Access Watch: Denver

Cities like Denver, Seattle, and Washington, DC are sort of cities on the fence.  They generally can build more houses than the Closed Access cities, so that they don't tend to have such strong out-migration of working class households.  But, they also dabble in their share of odd housing policy choices.

Denver was the topic of this recent article in the Wall Street Journal.

The title is: "Denver Has a Plan for Its Many Luxury Apartments: Housing Subsidies", and it opens: "Denver has a plan for its glut of sparkling new, high-end rental apartments with amenities like gyms, roof decks and sometimes even pet spas: It will use them to house teachers, medical technicians and others who can’t afford the city’s soaring rents."

How do we have a glut of units and soaring rents at the same time?  How is this article a thing at all?  The story should stop here.  "Hey! Great news! Denver built a bunch of housing units, and now rents aren't high any more."  One way to make sure added supply doesn't create affordable rents would be to throw a bunch of subsidies at the demand for the market, so if there is a need for a story here, it seems like it would be to explain that this is a bad idea.  This seems like a classic Baptist & Bootlegger setup, where subsidies for working class households are used to mask payoffs to politically connected business interests.

The plan depends a lot on the notion that there is a luxury market, which has been overbuilt and currently has vacancies, even though rents are out of reach for typical buyers, and an affordable market which has seen little building so that there is a shortage of supply.

Within a city, there are countless processes which create substitutions between those markets.  The conceit that somehow they are separate enough to treat them this way is wrong.  Households in Denver spend about 30% of their incomes on rent, give or take.  It doesn't really matter whether there is 4,000 sq. ft. of housing in Denver for each household, or 500 sq. ft.  It doesn't matter if they have dirt floors or granite countertops.  Whatever the stock of housing is, residents of Denver will settle on using that stock, and they will spend about 30% of their incomes to do it.  The idea that there are units that will have to sit empty in the midst of a housing shortage because they aren't built for the right sub-market is ludicrous.  Making that match is what markets do.  If they aren't doing that, then we need to find what is blocking markets from working, not start building a bunch of makeshift, distortive taxpayer-funded subsidies.

The unasked question here is, why are there too many luxury units and not enough affordable units being built.  It really is depressing to see how universally satisfying it seems to be to chalk this up to developers' stupidity or greed.  Oddly, 12 years ago developers were building too many affordable houses because of their stupidity and greed!  Developers' stupidity and greed really is the most powerful force in the universe.  It can explain everything, all the time.

According to the article, "Residents in this city of roughly 693,000 will receive subsidies to live in the units for two years, during which time a portion of their rent will be put into a savings account that can be used for a down payment."

Now, Denver has become a bit expensive, because rent inflation has been persistently high there.  It's not fully a "Closed Access" city, but it's working on admission to the club.  But, even in Denver, you can find properties like this: a 1,600 sq. ft. townhome, which, as of today, is valued at just under 300,000.  Zillow estimates rent at $1,850/month, and monthly mortgage expenses of $934.  These households don't need a subsidy.  They could lower their monthly expenses today by buying a home like this.

Why don't they?  Because it's basically illegal to lend to them.  So, the city decides to concoct this scheme of subsidies to do publically what we have deemed unacceptable to do privately.  Doesn't it just sound so precious and good, though, when we reframe it as a public program that subsidizes a down payment for a teacher or a nurse.  So much more morally uplifting than giving an auto mechanic a subprime mortgage with a 3% down payment to move into that townhome.  Never mind that the math is basically the same.  (Actually, the townhome buyer gets to pocket the rent payments, while the subsidized teacher sends the rent payment to the developer as long as he is technically a renter.)  Private lending is the devil's work.

In the meantime, the fact that a 1,600 sq. ft. townhome costs nearly $300,000, and that many more expensive homes can be found throughout Denver is all the evidence we need to call foul on the notion that there is any sort of supply glut of housing in Denver.  Realistically, Denver would need to build until there was significant rent deflation to get anywhere near something they could claim was a glut.  That is basically their choice - keep letting these incongruities build up until they are fully Closed Access, and tens of thousands of working class households have to pack up and move each year so that Denver can become another mega-sized gated community for the winners in the post-industrial, Closed Access economy.  Or, build until rent inflation reverses.

There aren't any other options, even if we want there to be.  The default outcome here is to pretend there are other options, which really just means you will be a Closed Access city.  As far as I know, this is the primary path for becoming a Closed Access city.  I am not aware of any metropolitan policy statements from 20 years ago laying out how any city intended to create outrageously high real estate prices and an American refugee crisis so that local real estate owners could capture the productive surplus of the post-industrial economy.  This means that there is plausible deniability and when Closed Access overtakes a city, the complexity of the problem allows everyone to blame their favorite scapegoats - housing programs, developers, lenders, the Fed, the GSEs, "the rich", monopoly corporations, etc., etc.

PS: Here is a measure of unsold inventory in Denver, from Zillow.

Thursday, January 4, 2018

Housing: Part 274 - Wow! Scott Wiener swings for the fences.

California State Senator, Scott Wiener, has introduced legislation that would be revolutionary.  I agree with "Market Urbanism" that this would immediately transform the California housing industry, to the extent that building is not obstructed in other ways, which it certainly will be if passed.  But, momentum is turning into a hopeful direction.  And, the focus on density around transit means that this bill is an aggressive way to push housing expansion in a way that weakens arguments claiming building will increase traffic, will only be for rich newcomers, and will increase rents on other local units.

In short:
These three bills (1) mandate denser and taller zoning near transit; (2) create a more data-driven and less political Regional Housing Needs Assessment process (RHNA provides local communities with numerical housing goals) and require communities to address past RHNA shortfalls; and (3) make it easier to build farmworker housing while maintaining strong worker protections.

If enough momentum can ever build in housing supply so that rents moderate or fall, and the perverse migration pattern pushing working class households away from economically strong cities can reverse, it will be interesting to see how the debate evolves.

Tuesday, January 2, 2018

Housing: Part 273 - Rental income in a repressed regime

Reader Ben Cole pointed me to this article on rising housing costs.  In general, I thought it was a decent article.  It avoided some of the worst problems I see in housing reporting.  But, I think it might make for a useful template from which to look at some basic reminders about housing income and costs.

The article includes this graph:


The measure the author uses does appear to include both owner-occupied rent and tenant rent to individual owners.  This does represent almost all rental income, because housing is a very unconcentrated sector, and most properties are held by individuals.

But we have to be careful about these measures, because housing is a real asset, but the BEA measures income in nominal terms.

Ownership is divided between residual owners (equity holders) and fixed income owners (creditors).  I can use BEA data to estimate the incomes of owners and creditors for both owned and rented properties.  Here is the data for "Net Operating Surplus", which is net income before interest payments:

Rent has generally been rising as a portion of domestic income.  Before the 1990s, this was largely due to increasing consumption of real housing.  Since the 1990s, rising, and even level, rental income is due to rent inflation in cities with constraints on housing expansion.

Next, I further disaggregate this between creditors and equity-holders.  The equity lines (the dark lines) should roughly add up to the graph that I copied from the article.  These measures of rental income to owners are much less stationary than the net operating surplus measure I used to show total net rental income above, but we can see that most of that movement is due to shifting shares of income between owners and creditors.  It has little to do with net operating surplus.

A major cause of this shift is the problem that interest payments include an inflation premium while rental income is in real terms. (Owners gain their inflation premium through the nominal rising value of the property over time.)  So, these measures are really pretty useless.

Next, I have estimated the real interest payment, and added the inflation portion of the interest payment back to the owner, since that portion of the payment really is a purchase of equity, if we think about it in real terms.  (A level nominal value of the outstanding mortgage is actually a declining real value because of inflation.)  I have simply subtracted annual CPI inflation from the effective interest rate, so this measure is a bit messy, but it's close enough.

Here, we can see that the author is on to something, even though she has arrived there accidentally.  Owners really are pocketing a rising income.  This rising income comes from two sources: (1) rising net operating surplus from rising rents, and (2) declining real mortgage rates, and the larger factor is declining mortgage rates.

This points to one of the misconceptions about housing that comes from paradigms that pin Wall Street as the boogeyman of the crisis.  Incomes to financial intermediaries and creditors have been cut very low.  The reason is that lending markets are generally competitive.  Returns get bid down to the competitive level, and since the crisis has led many investors to seek safe income, there are many competitors for lending.  Homeowners, on the other hand, are protected by (1) political limits to new housing in Closed Access cities, and (2) political limits to lending that limit access to new ownership in other cities since the crisis.  Both of these limitations to competition increase their profits, but they have different effects on price.  The first limit increases rental income with a stable yield on investment, so property values increase.  The second limit increases rental income by increasing the yield on investment, so it operates by increasing rent and decreasing price.  This means that it is good for homeowners in general, but very bad for existing owners who need to sell and very good for existing potential buyers who can still buy in spite of the government's attempts at thwarting mortgage lending.

Since investors tend to be much less leveraged than owner-occupiers, they have not benefitted as much from low interest rates.

Using Federal Reserve measures of mortgages outstanding and real estate market values, we can estimate yields for homeowners and lenders, based on current home prices.

These yields tend to run together over the long term.  The deviations in the 1970s are due to inflation shocks, which caused mortgages outstanding to be repaid with inflated dollars, decreasing the real yields to lenders.  Then, when inflation was pushed back down in the 1980s, that led to higher yields for lenders, since the dollars they were paid back with were worth more than they had been expected to be.  But, the ability of homeowners to refinance limited the upside to lenders.  The recent deviation isn't from an inflation shock.  It is from the two sources of obstruction - obstructed building and obstructed lending - which push owner yields up and lender yields down.


Here is a section from the article:
In the aftermath of the downturn, home values nose-dived, distressed properties were plentiful, and interest rates were at all-time lows. In conditions like those, owners hold all the cards - even when they’re also the tenants.
That’s well and good for Americans who are already homeowners, but the flip side is that many renters have been stuck. Many have been unable to transition into homeownership, whether because of stricter underwriting and regulations — or because of what Khater calls “economic” reasons like unemployment or stagnant wages. And as home prices started to rebound, ownership became out of reach.
“The decline in homeownership and rapidly rising home prices are a driver of inequality,” Khater said in an interview. “As a lower proportion of Americans own a home and that’s the biggest portion of wealth, that drives a wedge between the haves and have-nots. Homeownership is a great way for the middle class to achieve wealth and those opportunities are declining.”
Khater has advocated developing housing policy to address supply — more options that are more affordable for ordinary Americans — rather than demand, with more attractive financing deals. For owners and renters alike, he said, shelter is the biggest expense. If policymakers addressed out-of-control housing costs, that would be “a great way to enhance living standards,” Khater said.
The "That's well and good for Americans who are already homeowners" line is sort of an echo to my analysis above, but the author seems to ignore the huge capital losses that were taken by homeowners.  This is a strange conclusion to come to when describing the aftermath of a foreclosure crisis.  But, confusion about these matters is not unusual.  It partly comes from confusion about housing as an investment vs. as consumption.  The author is describing a situation where an owner-occupier who owned a $200,000 house that had annual net rental income of $10,000 now owns a home worth, say, $175,000, with net rental income of $12,000, in real terms.  I don't think homeowners are out celebrating their windfall rental income profits as a result of this.

On the other hand, if they are wealthy enough to be considered worthy by the CFPB, and they managed to refinance their mortgage from 6% to 4% in the meantime, then they probably are quite happy about that.  But, that added cash flow didn't come from their market power over their renter (themselves), but from their market power over "Wall Street", who are competing over who can lend to the limited number of borrowers the government has deemed acceptable.

This is yet another way that the "they bailed out Wall Street instead of bailing out families" rhetoric is not useful.  It's not even wrong.  It's like watching a TV channel that has a scrambled signal.  It comes from seeing information in a way that renders it incapable of conveying a coherent story.  In the section from the article above, the quoted economist joins the conventional view that loosened lending standards can't be a part of the solution.  At least the quoted economist recognizes the supply problem.

Monday, January 1, 2018

Housing: Part 272 - California makes housing legal, LA urgently moves to correct.

California passed a law streamlining the process for getting approval to build backyard units ("accessory dwelling units" or ADUs).  Since California cities have been engaged in intensive housing deprivation for years, any freedom to build housing will attract many willing builders.  In this case, the new law has led to thousands of new small rental units.

In response, LA has introduced an ordinance to limit their use, including cutting the maximum size from 1200 square feet to 640 square feet.

The last section of the ordinance, titled, "Urgency Clause" begins:
The City finds and declares that this ordinance is required for the immediate protection of the public peace, health, and safety for the following reasons: The City is currently in the midst of a housing crisis, with the supply of affordable options unable to support the demand for housing in the City. The US Census reports that vacancy rates for housing in the Los Angeles area are currently the lowest of any major city. A housing option that is currently available and affordable for many in the City is Accessory Dwelling Units.
The next paragraph begins:
While Accessory Dwelling Units are assets in mitigating the housing crisis, Los Angeles is a very unique city....
And the rest of the "Urgency Clause" is a list of reasons why LA needs to limit ADUs.

And the tenants' unions will keep complaining that obstructive zoning is necessary because developers only build luxury units.

Tuesday, December 19, 2017

Closed Access and Public Sentiment - Taxes

I have been meaning to do a broader post on corporate taxes, incomes, etc., regarding the way that corporate taxes are being treated as if they are simply pocketed by shareholders.  This clearly cannot be the case in the long run in an open economy.  But today, I just want to make one brief observation.

I am wrong about that in a Closed Access economy.  And, this is one of many reasons why Closed Access is so damaging.

Here is a tweet from Kim-Mai Cutler, who does some great work on housing issues in California:
My first instinct is to naysay this tweet.  But, that's because my instinct is an Open Access instinct.  For classical economic models to work, we have to live in a sufficiently open system.  In Phoenix, making real estate passthroughs more profitable would be an affordable housing policy, because it would induce new investment into rental properties, it would make the pre-tax return required by real estate investments lower, and it would lower the rent on properties of a given cost.

We can argue how many subsidies vs. taxes we should apply to real estate.  Maybe we don't want to subsidize real estate.  That would be fine.  But, we should be able to agree that, in terms of rent - which is the important factor for actual housing affordability - subsidies to real estate investors will make the existing housing stock more affordable and will increase supply.

But, this doesn't happen in Closed Access cities.  There is a political limit to supply in those cities.  So, if tax policy shifts to give landlords more profit, they do pocket the profit.  It doesn't matter if new capital would be drawn to real estate in a Closed Access city.  Supply does not reflect economic costs and benefits.

To the extent that this benefits landlords while pulling back on mortgage interest deductions reduces benefits to homeowners, this set of policies probably does level the playing field a little more compared to how it has been in Closed Access cities, so that owner-occupiers with access to credit may be less likely to outbid landlords on existing units.

In general, Closed Access markets aren't governed by supply and demand, though.  They are governed by the battle over economic rents that are the result of political exclusion.  So, on new units, if the basic building cost would be $200,000 per unit, and they sell for $600,000 per unit, the difference will inevitably be claimed by various interest groups.  Mostly, the difference will be claimed through various impositions, fees, and taxes, that are negotiated between local governments and the builders.

So, policies like tax subsidies don't affect supply.  Instead, they affect prices - how far prices are above the natural market cost that would arise in a market that allowed new supply.  And, to a certain extent, they reflect a battle between various levels of government about who gets to claim the economic rents from exclusion.

Now, workers who might earn $100,000 in Atlanta may move to San Francisco where they earn $150,000, but with $40,000 in additional costs.  $20,000 of that might go to the landlord, $10,000 to the local government in taxes, and $10,000 to the federal government in taxes.

The proposed policy of eliminating the deductibility of local taxes might shift the economic rents, in the long run, all else equal, with $18,000 going to the landlord, $9,000 going to local government, and $13,000 going to the federal government.  (These are broad, made up numbers to help think about the context.)  So, reducing the SALT deduction is really a way for the federal government to get its hand on some of those economic rents.

It's tempting to say, let's find ways to tax those cities even more, until all the economic rents flow to Washington and there is no more advantage to political exclusion.  But, the best solution would be to open those cities up so that more Americans can benefit from the amenities and characteristics that allow those cities to collect economic rents to begin with.

On the other hand, our chosen policies have been so poor that bringing down home prices through targeted taxes on Closed Access cities would be a huge improvement on the policies we chose to implement in our zeal to bring down home prices.

In any case, the core of the problem is Closed Access.  Where the idea that capitalists just pocket public largesse might normally be fallacious, Closed Access makes it true.  And, this reasonably leads to a plurality in public opinion to enforce policies that are explicitly damaging.

Wednesday, December 13, 2017

November 2017 CPI

More of the same.

By the way, I don't see falling rent inflation as a good thing.  There isn't enough residential investment to moderate rent inflation through supply.  It is a demand-side effect.  This is reminiscent of 2007.  I continue to expect rate hikes to trigger a contraction, but admittedly I've been a little ahead of the curve on this.

Inflation has declined and lending has been soft, but it hasn't yet translated into broader contraction.  Although, long bond positions haven't performed so badly in the meantime.