Market-Based Rents Will Increase Housing Supply, Improving Quality, Expanding Choice, and Lowering Costs
By Roger Valdez, The Center for Housing Economics
Executive Summary. COVID-19 related job loss—and the resulting loss of income for many people—has spurred state and local governments bring back an old policy solution: the imposition of eviction bans and rent controls. From a political standpoint, it’s not surprising. Price controls can be both popular and widely accepted in a crisis. However, what starts as a short-term intervention can become a medium-term expectation—and then a permanent, ossified mandate—with entrenched special-interest constituencies. Now, more than ever, we need to carefully consider how to make housing more affordable.
When people in the United States talk about the crisis in affordable housing, they’re really talking about the price of housing. That is to say, housing is too expensive for people who earn less money. If we want every American to be able to afford a safe and healthy place to live, we need to understand why we haven’t gotten there yet. Barriers to the market for people who need housing — and high production costs that restrict supply— have led to higher housing prices. The evidence is clear: enabling the private sector to produce as much housing in as many places as possible creates both more competition and innovation. That competition and innovation, in turn, improves quality, expands choice, and lowers costs.
In order to relieve housing insecurity for people with less money, we need to expand the supply of housing: more housing of all kinds in all neighborhoods for people of all levels of income. The evidence is clear: enabling the private sector to produce as much housing in as many places as possible creates both more competition and innovation. That competition and innovation, in turn, improves quality, expands choice, and lowers costs.
Introduction. As local governments in growing metropolitan areas increase rules and regulations that limit housing production, housing prices increase.¹ Among the responses these local governments consider is controlling housing prices by legislative fiat. Rent control policies promise consumers frustrated with rising prices an end to inflation. Central to this promise of rent control is the assertion that supply of housing has no effect on or relationship with its price; rent control advocates reject the basic economic principle that price is a quantitative measure of supply and demand.² Instead these advocates view price arbitrarily set by people who develop and manage rental property.³ Rent control is a form of price control that attempts to solve inflation through legislation rather than increases in production.
What is housing inflation? “Inflation is caused by too much money chasing after too few goods.” This definition is a good and efficient one. But for most people, inflation is simpler still: “Prices that are too high.” When it comes to housing, we could revise the definition to: “Housing inflation is caused by too many people chasing too few units of housing.” When five people want an apartment, and each makes an offer of tenancy, the person who can bid up the monthly rent will eventually “win” that apartment. People with less money will walk away and be forced to try again.
Stiff competition for rental housing between people who need it happens when demand outpaces production. When such a state exists, average prices rise as potential and existing tenants have to compete with each other for a scarce resource, housing. As demand for housing rises, more and more people who earn less money are “priced out.” This is how housing inflation works in growing cities, favoring people who earn more over those who earn less.
A History of Price Controls. A rational and reasonable person considering inflation and its obvious impacts on people with less money might conclude that the government should simply set or control prices, limiting the amount that sellers could ask. This idea has been around as long as people have. Hammurabi’s Code (c. 1792 — c. 1750 BCE), one of the earliest known legal documents, literally written in stone, had very specific price controls (law 272,“If any one hire a cart alone, he shall pay forty ka of corn per day). About 2,000 years later, the Roman Emperor issued an “Edict on Maximum Prices” which set very specific prices (best quality olive oil 30 cents) for goods and services to stop the “avarice that swells and grows with fierce flame” among merchants. What was the penalty for violating the edict? Death! But it was universally violated.
As recently as the 1970s the United States attempted a series of price and wage controls to tame rising prices. Like all the efforts before, the controls failed, creating widespread shortages of basic items and food. So why do politicians keep proposing orders and laws to halt prices by fiat? It’s good politics and it seems to provide the fastest and most compassionate solution. However, the evidence from the last 4,000 years shows us that efforts to control prices have the opposite effect: they discourage production, cause hoarding, and result in rationing of goods. Most importantly, price controls don’t stop rising prices since scarce items still command high prices in uncontrolled black markets, and when those items do become available at the set price, their limited supply means that few people will ever get the item at lower cost.
The History of Rent Control. An older but still very useful history of rent control by John W. Willis, Short History of Rent Control Laws, shows that rent control is as old as other price controls or at least as old as the Roman Empire. Willis makes the case that throughout history war and disaster played a role in housing inflation that led to governments attempting to control housing prices. Often this was due to loss of income by tenants resulting in an inability to pay, but in every case looked at by Willis across Europe and Asia, it was scarcity of housing and the inelasticity of housing that drives the disequilibrium between supply and demand.
Rent is an inflexible charge. If it goes up, the tenant has little choice but to pay more or to move to a less expensive lodging, and in times of housing shortages the latter alternative is an illusory one.
And for landlords facing rent control the complaint then was familiar as the one we hear today.
About all he can do is refuse to build new housing. Some invasion of the rights of the landlord is of course implicit in the idea of rent control. Willis also points out that, “If the history of rent control teaches any lesson, it is that once such controls have been imposed, they are difficult to remove.” Willis mentions Austria’s imposition of rent controls before World War II which through republican, authoritarian, and Nazi periods, that only ended when the national government “permanently assumed the responsibility for providing housing.
In the United States, rent control has always been controversial. As far back as the onset of World War II, when the federal government considered rent control, the National Defense Advisory Commission saw the relationship between low supply and high prices and recommended that controls only “be resorted to only when new construction is not sufficiently rapid and extensive to meet the need and where local communities can find no other means to check a disastrous rise in rents.”
Willis ends his history with an outline of arguments leveled at rent control up to the post war period, some valid in his view, and others “claptrap” and “spurious.” Those arguments are very similar to the ones we hear today.
- Rent control stifles new construction. Controls create uncertainty about whether the costs of new construction will create enough return to recoup the costs of construction and operations.
- Rent control drives existing housing off the rental market. Controls do this for the same reasons they stifle production. When revenues are low, and costs to operate rentals get too high, owners covert units into a use other than rental housing.
- Rent control leads to large public housing programs. This warrants further discussion, but even in 1950 there was a sense that once rents are controlled, private business leaves the housing economy, and a situation like post-war Austria will arise: state ownership and management of all housing.
- Rent control causes hoarding. “Tenants therefore continue to occupy apartments larger than they need after their families have decreased in number; this results in a form of hoarding of space.” Willis goes on to say that the criticism is that, while rent and eviction control may benefit those who have a place to live, it is of less assistance and may even be a hindrance, for the reasons just stated, to those who do not.” When tenants, rationally, don’t want to give up a controlled unit, supply is again suppressed and those with no place to go suffer.
- Rent control represents a taking or theft of private property. Willis calls this a “specious” argument citing its makers as suggesting that since it results in a tenant living in his property without consent, rent control violates the basic notion that “thou shalt not steal.” We’ll see later, though, that takings law has evolved beyond this.
- Rent control violates the bedrock legal principles of a contract. Willis, in his footnotes cites an important case at the time, one that went against landlords, Block v. Hirsh. The dissent in the case written by Justice McKenna is one that articulates both the problem of taking property without due process and contract. As to taking, citing the 5th Amendment to the U.S. Constitution, McKenna found that at other times of economic distress, government “did not induce the relaxation of constitutional requirements nor the exercise of arbitrary power.”
McKenna writes that the “Rent Law” from Washington, D.C. being considered by the court in Block, “is contrary to every conception of leases that the world has ever entertained, and of the reciprocal rights and obligations of lessor and lessee.” The idea of a lease is that when it is over or violated, the contract is over. Rent control upends the ability of a lease to reflect a set of terms that if broken mean an end to tenancy. One party, the private owner of a rental unit, can no longer set the terms of the use of his property in a lease.
Throughout its long history, like all price controls, rent control has created controversy and mixed results. At times of great upheaval, when people have little or no money, housing has been destroyed, or suddenly demand has surged and supply of housing has not been able to keep up, prices rise and calls for rent control rise with them. The arguments and evidence against rent control and the frustration with housing inflation that spur the calls for it, have not changed over the intervening decade since Willis wrote his history.
Why Rent Control is Not a Good Housing Policy. First, if rent control was simply a dispute among economists there would be no question that rent control is a bad idea. One survey of the economic studies found that, “on the whole [it] may be fairly said to show that rent control is bad.” But rent control is not about economics, but about politics.
One doesn’t have to embrace the price system as described, for example, by Friedrich Hayek in “The Use of Knowledge in Society”, to agree with the idea that while sellers set an asking price, the final determination of price is established by interactions between buyers and sellers in a market. However, the democratization of prices is an irresistible siren call for politicians and activists; who wouldn’t support the notion that what we pay for essentials shouldn’t be determined by the vagaries of a “free market,” but by a simple and direct vote, a consensus enforced by government. “How much is that gallon of milk?” someone asks. “It’s $1.89,” someone answers. “Why?” And the answer is, “Because we say so!”
Advocates of rent control attribute the asymmetrical power relationship between landlord and tenant favoring the landlord not the fact that housing supply is low, and the tenant has no other choice but to pay higher rent, but to the landlord’s greed. Landlords set prices based on how much they want to earn.
Worse, rent control advocates would say, landlords use price to decide what kind of person they want to live in their property; price can be used to discriminate against people because of their race or other characteristics. Taking away the ability of landlords and tenants to negotiate price puts the control of price to broader community consensus, protecting the consumer and ensuring fairness of the distribution of housing to those who need it at a price they can afford, regardless of class, race, or characteristics.
So, the following discussion, a digest of what makes rent control a bad policy will not persuade activists whose battle is in the streets and in the footnotes of empirical studies on housing economics, where they always dispute the data. However, it is important to establish that rent control does not accomplish the goals it sets out to achieve — better outcomes for people with less money — but it also creates more problems for people with less money who need housing. For this review, I am drawing on a survey of studies completed by Lisa Sturtevant of the National Multifamily Housing Council’s Research Foundation. Sturtevant gathered and reviewed empirical studies conducted since 1972 conducted on rent control in the United States.
I have reviewed the primary sources and will cite some of them in the discussion below.
Rent Control Reduces Supply of Existing Rental Housing. Once a rent control ordinance is implemented the ability of a property owner to set prices to cover costs of operation, to maintain cash flow, and to pay taxes is impacted. This creates an incentive to shift residential rental property to other uses that aren’t regulated. In San Francisco, “landlords treated by rent control reduced rental housing supplies by 15% by selling to owner-occupants and redeveloping buildings.” And since “rent control incentivized landlords to substitute away from an older rental housing stock towards new construction rentals and owner-occupied condos,” the new units were much more expensive than older ones, eliminating housing options for people with less money.
Increased Prices for Housing After Rent Control. Once rent control is applied, “excess demand caused by the controls spills over into the uncontrolled sector and increases rents,” in New York that meant rents went up as much as 25%. Once a unit is rent controlled, it is no longer on the market and thus people who would have been able to rent that unit before for more money must find other options. That demand then flows toward new construction or other units without rent control. Additionally, worry about expansion of rent control incentivizes managers of rental property to price their product more aggressively. Rents usually are jagged in their rise and fall, and property managers worry about not being able to keep up with expenses and not being competitive, so pricing often reflects costs and demands. Worry about future limits encourages making increases sooner. Something like this is occurring now in Oregon, where after statewide rent control passed, rents “skyrocketed.”
Benefits of Rent Control Accrue to the Wealthy. Because rent control ordinances do not means-test residents, the benefits of lower rents often accrue to people that either earn more money or who earn more money over time. Additionally, the benefit of having rent lower than market rent may or may not help people that supporters intended to help. In a study of New York rent control in the 1960s, found that the “benefits were higher for older tenants, richer tenants, and white tenants than for their counterparts,” and “the cost to landlords exceeded the benefits to tenants by about 75%.”
Even when apartments are price controlled, if they aren’t abundant, and one can’t pay more for them, then people must wait in line for them. Bread lines in the Soviet Union were symbolic of the fact that bread was cheap, but there wasn’t any bread to be had. Because of this, people with plenty of money to spend end up in rent-controlled apartments they won’t leave. One study of New York’s rent control scheme found that, “20% of the apartments are in the wrong hands.” People with less money to spend can’t leave their location, and people with more money subsidize their lives with lower housing costs. In both cases, important utility is given up hanging onto a unit because all other housing costs are rising.
Reduction of Mobility Due to Hoarding. This brings us to the next related problem, that of hoarding of the benefit once it is gotten. While landlords are incentivized by rent control to take their property off the market, tenants are similarly incentivized to keep their apartment to themselves by not moving. One interesting study was able to quantify this by looking at commute times: “The most restrictive [rent control] ordinances have the strongest effect on commute times.”
This isn’t surprising, but confirms other studies that found households, once paying below market rent, wouldn’t change their address even when other things in their life changed. The Stanford study, which looked at a period beginning in 1993, found that “tenants who receive rent control protections are persistently more likely to remain at their 1993 address relative to the control group.”
Rent Control Leads to Deferred Maintenance and Quality Decline. The problem with rents that don’t reflect anything other than an arbitrary determination by a government board extends to cost management. In New York, landlords are suing the Rent Governance Board (RBG) in part because rent control does not allow properties to keep up with costs. This imbalance between costs and the ability to cover them with rent revenue should be obvious. But does it lead to the overall decline in building quality. According to Sturtevant’s review, “there is no clear association documented in the empirical research between rent control and building quality.”
Why is this evidence lacking? One reason mentioned in the literature is the presence of other rules and codes that mandate upkeep. One other possibility not cited in the literature is that, as discussed above, many rent controlled units end up being taken off the market, so the issue never arises. Still, across the country, the ability of rental properties to stay rental properties depends on the ability of managers to cover costs, and the only way to do that is with rent revenue, and if it is locked, the business loses money, incentivizing conversion. Because a disproportionate number of poor people are people of color, the negative impacts of rent control are carried by people of color.
Coercive and Inefficient Subsidization. For the last 100 years, since the Block case, courts have more or less maintained the precedent that rent control does not constitute a taking by the government of private property without due process. However, the legal case mentioned above is going to test that precedent. The case argues that rent control is: “Arbitrary and irrational in violation of the Fourteenth Amendment’s Due Process Clause; they effect a physical taking of property in violation of the Constitution’s Takings Clause; and they constitute a regulatory taking of property in violation of the Takings Clause. The Rent Stabilization Laws are therefore facially unconstitutional.”
The study by Ault et al cited earlier, based its assumptions on the difference between controlled units and uncontrolled units and quantified that at 25%. In other words, if owners of rent-controlled properties could measure how much they are losing per month, it could be as much as 25%, or more. As Justice McKenna pointed out (and so does the lawsuit) emergencies and crises, even when clearly established, should not, “induce the relaxation of constitutional requirements nor the exercise of arbitrary power.” That difference between what a unit could command on the market and the one set by, in this case, the Rent Guidelines Board is a model of arbitrariness and inefficiency. Rent control takes value away from a private asset without any process other than legislative fiat, then, as we’ve seen distributes it in a way that does not benefit the people it is supposed to help.
There Are Far Better Solutions. Those who believe that price is a social construct manipulated by property owners for their benefit generally embrace price controls not because it is good economics or even good housing policy but because, ironically, it puts the power of price in only a few hands. In contrast, a market sets price when people negotiate, bargain, and innovate. A market disperses power through production and price; when there is scarcity, the seller has an advantage, if there is an abundance, the consumer wins more often. The following are ideas built on the principle of expanding the abundance of housing and choice the only thing that will truly reduce the suffering created by housing scarcity.
More Housing Through Regulatory Reform. “Regulation raises housing rents and values and lowers homeownership rates.” This statement shouldn’t come as a shock if supply and demand are linked to price. There are three critical variables to consider when substantiating this, population, permits, and price.
The RentHop study is worth quoting at length. Between 2010 and 2016, the counties (and their respective cities) with the highest pop/permit ratios are Sacramento, San Antonio, Riverside, and Fairfax (Washington Metro). Sacramento is especially underbuilt, with over 7.4 people per building permit. Construction in San Antonio, Riverside, and Washington have also not kept pace relative to population, with pop/permit ratios of 6.5, 6.0, 5.2 respectively. Cities in California seem particularly tight in general. While California (the most populous state) has six counties in the largest 30 national counties, all of them are in the top 50th percentile in pop/permit. This might not be very surprising, since California has often been associated with NIMBY (“Not in my backyard”) behavior.
While this kind of data is highly localized a review of average price compared with population growth is easy to do and the ratio of permits to people is a worthwhile index and useful predictor of price. Local governments control permits and, in the end, control price. When regulations limit permits in the face of rising population growth, prices rise. If we’re concerned about rents, then local government needs to speed up the permitting of new housing by reducing regulation. Producers of housing can meet most of the demand in the economies of urban and rural areas if government allows it. Here are some practical ideas of where to start pruning away the overgrowth of housing regulation:
- Encourage more mixed-use multifamily housing
- Allow smaller units with shared kitchens and common areas
- Eliminate design review and restrictions
- Eliminate all height, bulk, and scale limits
- Eliminate redundant and excessive utility requirements (including impact fees)
- No parking minimums or requirements
- Incentivize the speedy processing of permits
- Require annual review of building and land use codes
- Eliminate all rules, restrictions, code requirements not benefiting health or safety
- Require consumer cost impact for all existing and new rules or regulations
We Already Control Rents With Incentive Programs. There are already programs that cap rents and are far more efficient than rent control. For example, in Seattle the Multifamily Exemption (MFTE) Programs has created thousands of units with rent restrictions in for-profit market rate buildings. In addition, the Low-Income Housing Tax Credit (LIHTC) program and the voucher program supported by the Department of Housing and Urban Development (HUD) have created thousands more units with lower rents. How many?
There are already 36,000 [in Seattle] that are rent restricted, meaning the rents of those units are locked in — controlled if you like — for anywhere from 12 to 40 years. Those 36,000 units, roughly 44 percent of all the units at those levels of income are set by government agencies and covenants; they are a mix of units paid for by government grant, the city’s housing levy, through the city’s Multifamily Tax Exemption (MFTE) program, or vouchers issued by the Seattle Housing Authority. If politicians and activists want to control rents in privately managed apartments, then they can pay for that control by becoming an investor. Programs like the MFTE are very efficient because they buy down rent in 20 percent of new units in a new building by freeing the developer of a portion of property tax for 12 years.
And this is possible without having to buy land, build, pay for financing, or operations of that building.
This program could be expanded to include existing construction. Again, the advantage to the taxpayer’s investment is that there is very little risk and very high return on exchanging the deferred tax to create the benefit of lower rent. In addition, this creates the integration of race and class that so many advocates say is needed by including lower income people in market rate apartments. The MFTE program far outpaces other efforts to create this kind of inclusion.
Cash for Rent. As long as the normative standard for housing costs is 30% of gross monthly income, buy down the “cost burden” with direct cash payments for rent rather than building new subsidized housing. Cost burdened households don’t need a unit years from now — they already have one — they’re just paying more than the normative standard today. Most cost burden could be eliminated quickly and efficiently with cash payments. We’ve already explored this option, and it is far more efficient and compassionate than building new units of housing.
The savings achieved by buying down “cost burden,” the amount a household pays above 30 percent of their gross monthly income, is enormous. And more importantly, it solves a real problem fast without having to take the risk and expense of buying land, and building, financing, and operating units.
Reform and Improve the Section 8 Voucher Program. The Housing Choice Voucher program, usually called “Section 8,” is a well-intended program that aims at getting people with less money for housing into market rate apartments. The problem is that the program is complicated and subject to many limitations imposed by local housing authorities and governments. It’s time to move beyond vouchers — something that requires too many strings — and toward cash. There are a growing number of proposals for direct cash benefits as a more efficient and compassionate way of helping people. State and local governments should explore this idea as well.
Several Other Ideas.
- End Zoning. Zoning is a 20th century solution to a 19th century problem and premised on the notion that separating use is good planning; it isn’t. Allowing many uses — manufacturing, retail, and residential, for example — closer together is more sustainable and efficient that separating uses. Zoning also creates geographic differences in typology that heighten scarcity of housing choices. Zoning also segregates people, limiting their opportunities.
- Incentivize Density. It is efficient to have more people living on less land and it is more sustainable. Tax incentives should be structured to allow fewer people on more land but with incentives for people who live in greater concentrations.
- Encourage Impact Investing. People with less money with needs that they can’t meet create costs to the broader community. These costs can be identified and if they can be reduced through intervention, that intervention has a value that can be monetized. Providing low- or no-barrier shelter and housing along with case management and other services is a short-term cost, but if it is effective those costs can be paid back, with interest, when savings to government budgets are realized.
Conclusions. Housing inflation is caused by a lack of housing. The three Ps are critical: Population, Permits, and Price. When local governments overregulate housing, they benefit incumbents by increasing the value of their asset and increase housing prices. This is especially true when population surges because of new jobs and prosperity in a city or region and is the real cause of “skyrocketing” prices. Rent control helps few people, and harms many more. Although people lucky enough to win the rationing game find themselves in a cheap apartment, everyone else bears the burden of even higher prices for housing. The notion that even more complete control of prices will solve this problem is yet untested, but expansion of rent control beyond existing housing to new housing and eliminating options for property owners would ensure more conversion and complicate an already complex regulatory environment.
More housing, not more rules, is the answer. As long as housing is scarce, tenants will have to compete with each other for housing rather than landlords competing for tenants with lower prices or rent concessions.⁴ When vacancy rates are low, and supply is limited, consumers see their money buy less. Allowing builders and developers more freedom to build ameliorates and solves housing price issues.
There are more effective ways to help people. Programs that invest public resources in offsetting costs of rent restrictions and that get cash into the hands of people who need rent money are the best way to help people. For people who need even more complex services and support, programs that invest private dollars for public benefit offer an opportunity to save money and lives.
Roger Valdez is director of The Center for Housing Economics, a Seattle-based policy center researching progressive supply-side solutions to housing scarcity. In Ohio, the center is working with the Ohio Real Estate Investors Association on a proposal to change housing terminology in state law. For the last 25 years he has worked in the fields of education, public health, urban planning, and housing policy. This article is being reprinted with permission of its author.
¹ For example, in California prices are rising and real estate analysts believe this is due to regulation, “Housing is more affordable in places where land is cheaper and developers face fewer regulatory and legal barriers that, in California, delay construction and drive up legal and consulting fees.”
² “Let financial speculators and corporate developers determine new construction, let the supply of market-rate rental apartments increase. And at some point, magically, rents will come down and create housing affordability.” Rent Control FAQ, Seattle City Councilmember Kshama Sawant, April 2019.
³ “Rent and rent increases are determined by the relative balance of political power between renters and the real estate ruling class.” A concession is a reduced rent price or comes in the form of a gift that has a certain value. The most common concessions right now are no-fee apartments, one month of free rent, two months of free rent, or amenities like a free gym membership.” Your Guide to Rental Concessions in New York City, Julep, January 8, 2018.