Why housing supply matters

By Leith van Onselen

For years I have argued that Australia should look to Texas to solve Australian housing supply.

This view was based primarily on the fact that Texas has been able to achieve stable and affordable housing in the face of extreme population growth (see next chart).

ScreenHunter_17895 Mar. 12 12.56

In his latest Global Housing Watch newsletter, Hites Ahir has published an interesting interview with Joseph Gyourko – a Professor of Real Estate, Finance and Business Economics, & Public Policy at The Wharton School – who discusses how regulations and zoning affects housing supply and affordability.

Below are some key extracts:

Joseph Gyourko: Strong demand itself is not enough. Dallas has very strong demand, as population has grown substantially over many decades; yet, its constant quality house prices have not risen much at all in real terms. What is different about Dallas is plentiful building whenever prices rise enough for developers to supply new homes and make a normal profit… Note that higher demand is essential, not just regulatory constraints on new supply. A market could dramatically limit the ability of builders to build, and it would not matter for price unless demand were strong enough to bid up house values.

…markets with more elastic supplies should have fewer and shorter bubbles than markets with inelastic supply sides… it is the interaction of strong demand with inelastic supply that leads to high prices and affordability problems. Supply restrictions themselves lose their policy relevance in the face of weak demand…

What we do know is that prior to 1970, differences in local regulation and in house prices themselves, were not nearly as wide as they are today. Something changed in the 1970s, with California coastal cities initially imposing binding constraints on new residential development. Other cities on both coasts followed over the next decade…

Hites Ahir: Is there a city or a country that gets zoning and regulations right?

Joseph Gyourko: Yes, most American housing markets, especially those not located along our east and west coasts get it right. In forthcoming work, Ed Glaeser and I conclude that most housing markets in the interior of the country function so that the price of housing is no more than the sum of its true production costs (the free market price of land plus the cost of putting up the structure) plus a normal entrepreneurial profit for the homebuilder. That is what we teach should happen in our introductory microeconomics courses—namely, that price paid by consumers in the market should equal the real resource cost of producing the good (housing in this case). These well-functioning housing markets exist in a broad swath of the country outside of the Amtrak Corridor in the Northeast (Washington, D.C. to Boston) and the major West Coast markets from Seattle all the way down to San Diego. The bulk of the population lives in these well-functioning markets, by the way. They just are not focused on by the media…

The simple answer is to undo the regulations that are inefficiently constraining new housing unit production. Unfortunately, that does not happen. One reason is that political support for limitations on new housing supply is strong once the restrictions are in place. The Washington, DC, market in which you live tends to be fairly restrictive. Ask your colleagues who own homes if they would vote for politicians who eliminated restrictions that resulted in a substantial increase in housing production that, in turn, lowered the value of their own homes at the same time. And, that is what substantial new supply would do (all else constant)—lead to a fall in house values…

Hites Ahir: “Economic Implications of Housing Supply”—is your new paper with Edward Glaeser. The paper says: “The older, richer buyers in America’s most regulated areas have experienced significant increases in housing equity. The rest of America has experienced little growth in housing wealth over the past 30 years.” Can you talk about that a little?

Joseph Gyourko: Sure. The point we are making is straight out of an intermediate microeconomics class. The answer to the question of who benefits from higher prices that result from binding restrictions on the supply of new housing is the owners at the time the restrictions were imposed. Restrictions began to be imposed in many west coast markets in the 1970s, with east coast markets in the northeast following the next decade. Thus, it is the people who owned in those markets at those times who enjoyed the most appreciation in their homes. Those people tend to be senior citizens today, and even if they do not earn relatively high incomes, they are wealthy because of the real capital gains on their homes…

A comparison of Texas’ housing affordability (where land supply is considered very elastic) and California’s (where land supply is considered very inelastic) highlights the issues discussed above.

As you can see, Texas’ big metros remain highly affordable (and less price volatile) against California’s, which has in turn driven strong internal migration to Texas:

ScreenHunter_17901 Mar. 12 13.15
ScreenHunter_17902 Mar. 12 13.15

The above discussion highlights why reforms need to be made on both the demand and supply sides of the housing market.

Demand-side reforms can be implemented relatively quickly by the federal government (e.g. tax reform, cutting immigration, and clamping down on foreign investment), whereas supply-side reforms are the primary responsibility of the states and require a much longer time frame.

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Comments

  1. Link broken.

    Also, http://www.smh.com.au/business/the-economy/the-government-says-it-has-a-plan-to-fix-the-housing-affordability-crisis-this-chart-suggests-it-doesnt-20160902-gr7sbz.html

    The most effective way we can tackle housing affordability is to increase supply,” NSW Treasurer Gladys Berejiklian has said on numerous occasions, including in a statement to Fairfax Media this week.

    Prime Minister Malcolm Turnbull has backed the strategy, saying in May: “Now this is how you address housing affordability. Housing affordability is the result of there being insufficient supply of housing. You need to have more supply of housing.”

    The economics seems basic enough: when supply goes up, price comes down. Yet house prices have risen by 40 per cent since 2011 while dwelling completions have ballooned by 85 per cent.


    • Yet house prices have risen by 40 per cent since 2011 while dwelling completions have ballooned by 85 per cent.

      So fixing one item in isolation won’t do it – at least got to increase supply, reduce demand, reduce cheap money and reduce tendency towards leaving houses/ units vacant which is associated with developers building dwellings that aren’t intended to be lived in.
      Increasing supply only transfers funds to construction industry, increasing Australia’s over dependence on building dwellings as an engine of economic growth and achieves very little else.

    • Brian,

      We have 330+ cranes in Sydney and a residential vacancy rate of less than 2% and housing prices reaching for the stars.

      All that proves is that if the rate of immigration is out of control and 300% above the long term average ( 200,000 versus 70,000) you need even more cranes than we have now.

      And even if we are willing to unleash 500+ cranes on Sydney, that will still not be enough while Mr Dutton is opening the front door even wider.

      https://twitter.com/pfh007/status/856808091127382016

      Perth is an excellent example of what happens to rents and prices when the residential tenancy vacant rate starts with a 4 or a 5.

      They go down – even with historic low interest rates and NG and CGT discounts.

      So the choice is clear

      Cut the rate of immigration – at least by 50% or Build Baby Build.

      • Yes, Pfh007, cutting immigration has the same effect as increasing property supply.

        ZERO net population increase will create much more affordable property.

      • The point is that increased supply is a function of rising prices.
        The supply side appears to come to the table when prices are rising. In this way, increasing housing supply does not equate to cheaper houses. In fact, the opposite is true.

  2. Unfortunately a system with this sort of reciprocal relationship is far too difficult for the average punter (let alone the MM) to wrap their heads around

  3. Supply with no jobs is not really supply.

    It’s one thing building homes where land is, but you need industry to build and expand too, to provide work nearby these new homes.

    Currently we have little incentives for businesses to move out of big business districts because there is no tax incentive or push by states/government to do so.

    This is why people keep coming back to crammed cities in the end, no one wants to waste 3-4 hours of their life every day traveling for work. That eats into what little free time you have after a long day at work.

  4. HOUSING: There is no effective advocacy in California … here’s whats happening …

    California … The epicentre of the 2007 Global Financial Crisis … that bought the world to its knees …

    … repeating the mistakes of recent history …

    Spring housing: Strongest sellers market ever … CNBC
    … with videos …
    … h/t JG …

    http://www.cnbc.com/2017/04/24/spring-housing-strongest-sellers-market-ever.html

    • Even as more homes come on the market for this popular sales season, they’re flying off fast.

    • Home prices have now surpassed their last peak, and at the entry level, where demand is highest, sellers are in the driver’s seat. … view & read more via hyperlink above …

    … Of necessity … mortgage lending must mirror the Median Multiple of specific markets (check Demographia Surveys) …

    … 2007 in California they were lending up to 11 times annual household incomes before it blew to bits … as Herb Greenberg of MarketWatch reported at the time …

    Straight Talk on the Mortgage Mess from an Insider – Herb Greenberg – MarketWatch

    http://blogs.marketwatch.com/greenberg/2007/12/straight-talk-on-the-mortgage-mess-from-an-insider/

    Even before this mortgage mess started, one person who kept emailing me over and over saying that this is going to get real bad. He kept saying this was beyond sub-prime, beyond low FICO scores, beyond Alt-A and beyond the imagination of most pundits, politicians and the press. When I asked him why somebody from inside the industry would be so emphatically sounding the siren, he said, “Someobody’s got to warn people.” … read more via hyperlink above …

    … There has been NO effective grounded structural advocacy to emerge YET in California … in contrast … check out the evolutionary political progress in New Zealand …

    Performance Urban Planning.org | Hugh Pavletich

    http://www.performanceurbanplanning.org/

  5. Auckland housing now the most unaffordable it has been since interest.co.nz’s Home Loan Affordability reports began in 2004, with first home buyers increasingly priced out of the market | interest.co.nz

    https://www.interest.co.nz/property/87304/auckland-housing-now-most-unaffordable-it-has-been-interestconzs-home-loan

    By Greg Ninness

    Auckland housing is now the most unaffordable it has been for first home buyers since interest.co.nz began collating house price and household income data for its Home Loan Affordability Reports in January 2004. … read more via hyperlink above …

  6. Gavin HegneyMEMBER

    It’s that demand lifts quickly and supply happens far slower. The demand is not just immigration but household sizes , namely falling . That is less people per household because they feel or afford the time is right to buy or rent their own place . With prices now higher demand will drop because household sizes will get larger . That’s what some experts call under or over building .
    Policy setters should start to look toward the other side of the boom now to cushion the blow as the wheels turn slowly . But they won’t . Just as they won’t when prices are cheaper and a large group of people collectively are decideing that now is the right time to buy or get a place of their own . Supply response must become a SWAT team approach when demand spikes or we need to make permanent policy changes .supply must respond in a timely fashion , somehow . Either that or just make the most of the good old booms and busts by buying , but equally selling at the right times . The cycle can be your friend .

    • Yeah – but apart from the shrinking population if you tried to sprawl in Germany you’d hit another town before you even began.

    • In Germany property is not seen as a get rich quick scheme but as a human need which shouldn’t be speculated on. This leads to some stark cultural differences.

      Laws are strongly in favour of renters so rentng is long term. In Germany when you rent you actually bring your own kitchen and when you move out must pay for the unit to renovated. How much depends on how long you were there.

      It’s amazing that one of the most density populated countries has cheaper real estate than Darwin. But in Germany the philosophy is if you want to make money start a business.

      Germans also have a life. They enjoy holidays in the south every year.

      Even though born and bred in Sydney and with a family history of well over 150 years in Sydney I got out over a decade ago. The choice was live in Sydney and have a mortgage or leave and have a life. My brother and sister in law stayed in Sydney. Their house is worth well over a million now. It’ll help their kids I guess but I didn’t see how I’d feel better dying knowing I’d spent my whole life paying off a mortgage just to live in Sydney.

      • Kurt … Many thanks for your superb post.

        Housing inflation is actually a poverty creation programme for pretty much everyone.

        Generally they have woken up to this in New Zealand … where it is the Number One political issue.

  7. WHAT SUPPLY LESSONS HAVE BEEN LEARNT FROM GREATER CHRISTCHURCH ? …

    If it wasn’t for the smaller, functional and responsive local government units of Waimakariri and Selwyn, Christchurch housing would have shot through to at least a 10 Multiple (much like Auckland now) instead of staying around 6, following the first earthquake event 4 September 2010.

    Local The Press reporter Chris Hutching touched on this following the 23 January release of this years Demographia Survey …

    Why Christchurch houses have become more affordable | Stuff.co.nz

    http://i.stuff.co.nz/business/88709524/Why-Christchurch-houses-have-become-more-affordable

    Page 26, Fig 10 within this year’s DEMOGRAPHIA SURVEY is very instructive …

    http://www.demographia.com/dhi.pdf

    … as is the Donald Ellis ‘consents rate per 1000 population’ graph within the front end of THE ADVOCATES TALE …

    http://www.performanceurbanplanning.org/definition-of-affordable-housing.html

    • A few months back, the Ministry of Business, Innovation and Employment (MBIE) reported that over the past 10 years the compound employment growth annually on average throughout the country was 1.4% … with a remarkable 4 times that in Waimak County and a stratospheric 7 times that for Selwyn !

      But alas … just a quarter the national average for the Christchurch Council area (0.3%).

      Let the numbers do the talking.

      Clearly … people and businesses are bolting from the buffoonery of the bureaucratically bloated Christchurch Council area.

  8. The simple answer is to undo the regulations that are inefficiently constraining new housing unit production. Unfortunately, that does not happen. One reason is that political support for limitations on new housing supply is strong once the restrictions are in place.

    It may be the simplistic answer as well. I don’t doubt that NIMBYism is key factor behind inelastic property prices, but there’s strong evidence that geography is as much of an influence. There’s a lot of flat land around cities in Texas.

  9. – But Texas is a LARGE state with plenty of room whereas the US west & east coast are already (comparatively) (much) more densely populated regions.

    • Are you saying there’s some sort of barrier preventing. for example, New York City becoming any more spread out than it already is?

  10. Nice post Leith, it’s refreshing to see a balanced discussion of both supply and demand factors.

    NIMBYism has a lot to answer for.

  11. Housing affordability will only get worse … AAP / The Australian
    … google search title if blocked …

    http://www.theaustralian.com.au/news/latest-news/housing-affordability-will-only-get-worse/news-story/fa5ee87bc9d2bb9cb616415fc7783428

    As a key ratings agency warns housing affordability will get worse, the country’s peak welfare group is calling for bold action from the prime minister to tackle the problem.

    The Property Council has also weighed in ahead of the May 9 federal budget, warning the coalition against tampering with negative gearing.

    Moody’s Investors Service says overall housing affordability will worsen due to rising house prices, as soaring prices outweighs low interest rates and modest wages growth.

    House prices rose by an average of 13.6 per cent over the last three years, while incomes rose by just 4.4 per cent. … read more via hyperlink above …