Tuesday, January 30, 2018

Housing: Part 281 - Milking the underclass

I have previously linked to some Atlanta properties to show how much of a premium homeowners are capturing in low end markets.  But, Atlanta is a relatively successful city right now, and it is growing.

The cities where I should have been looking are the rustbelt cities.  Cleveland, for instance, is full of homes that are practically free.

Here is a home that rents for $800 per month and Zillow estimates its value at $19,000, so that monthly mortgage expenses would be $75.

Here is a home that would rent for $1,000, worth $72,000, with monthly mortgage payments of $285.

Here is a home that would rent for $1,800, worth $212,000, with monthly mortgage payments of $838.

Here is the pattern.  (All data from Zillow.)

At the high end in Cleveland, Price/Rent is about 11x, but it declines sharply as you move down-market.  At the low end it is less than 6x.

If we graph rent versus price, we can see that, using the top half of the market as the benchmark, there is an extreme premium on rent in the bottom half of the market.  Basically, a $500/month floor.

As I have noted before, the issue here is that regulators aren't in the business of kicking tenants out of their homes.  That would be cruel.  Regulators are in the business of preventing tenants from owning their homes.

In practice, what that means is that the CFPB enforces a non-owning class, and if households in that class, whose membership is determined by the CFPB, want to live in a house in Cleveland, the first thing they have to do is write a check for $500/month to someone who the CFPB has decided can be in the ownership class.  The CFPB has created a very effective system for transferring $6,000 per year from the pockets of tenants in Cleveland into the pockets of owners in Cleveland.  (edit: As Shiyu points out in the comments, this is a bit of an overstatement, because there is some level of maintenance required on homes at very low price levels that would require expenses that are somewhat fixed relative to the home price.  The landlord only keeps a portion of that $6,000.)

This, of course, doesn't show up in any tables anywhere of federal revenues and expenditures.  It doesn't show up as a decrease in net incomes after federal transfers, because it just looks like it's a natural part of the cost of living in Cleveland.  But, it is not.  It is a regulatory burden.

This Price/Rent relationship exists to some extent in every city.  Most cities only have a few zip codes at the peak Price/Rent level.  So, the Price/Rent graph above for most cities looks more like a straight, upward sloping line with just a few zip codes on the horizontal line at the top.  For most cities, that inflection point where Price/Rent levels out is more like $400,000 or $500,000.

The interesting thing about Cleveland is that it has a pattern similar to the Closed Access cities, in that a large portion of the homes in the city sit at the peak Price/Rent level, because the inflection point in Cleveland is under $200,000.  More work needs to be done to understand what causes these differences between cities.  But, the fact that this pattern shows up in Cleveland means that during the boom, Cleveland home prices would have had a pattern similar to Closed Access cities.

And, here we see that they did.  There was a somewhat systematic pattern in Cleveland where low end homes increased in price more than high end homes did.  This has been attributed to credit access.  And, in a way, I'm sure it was.  But the key here is that those prices hadn't become unmoored from fundamentals.  They were a reflection of this systematic pattern.  Home values at the top of the Cleveland market in 2005 increased proportionately with rising Price/Rent level.  At the low end, as home prices appreciated, the Price/Rent ratio increased even more.  We can think of the Price/Rent chart above.  They were slowly marching up that Price/Rent hill.

So, it isn't as extreme as in the Closed Access cities - maybe amounting to a 10% boost to low end home prices in Cleveland compared to high end prices.  But, let's say that the increase in home prices was entirely the result of loose lending.  (It wasn't, but let's just say it was.)  That means that, for the marginal buyer in Clevcland in 2005, loose lending meant that the family renting that $1,000/month house had to spend, maybe, $500/month on mortgage payments.  The family renting that $800/month house had to spend, maybe $200/month on mortgage payments.

Yes, getting rid of obstacles to ownership might have some minor effects on price.  The liquidity premium is conventional finance.  The introduction of liquidity can increase the price of an asset, and this can be a sign that the price is a more efficient reflection of intrinsic value than it was before, because reasonable buyers who were blocked from the market now have access.

When we think about lending markets during the boom, we need to keep in mind the difference between housing consumption and home ownership, and the relationship between the two.  Even in 2005, for tenants at the low end of the market, ownership would have been much more affordable than tenancy.  So, what if prices go up a little when ownership is expanded?  If we allowed those households to buy today, it would necessarily be related to some sharp increases in home prices at the low end of the market.  This would be widely derided as a new bubble that has to be popped.  But, those rising prices would be an unalloyed good thing.  The reason prices are low now is because landlords are capturing massive transfers of income from the CFPB-determined peasant class.  Rents in those homes reflect basic supply and demand for the use of housing.  So, rents will be fairly stable.  But, if those houses are going to cease to be conduits for a massive regressive redistribution program, mathematically, they will have to sell for more higher prices.

This should be easy.  Mortgage access would lower the cost of living for low-tier tenants who have stable tenancy.  It would raise prices, lifting the net worth of low-tier owner-occupiers.  The only natural opponents to this shift would be landlords, who would lose their gravy train.  But, they would receive a one-time capital gain as their homes appreciated in value.

There is a kernel of truth to the teeth-gnashing about the "bubble economy" and the attempt to boost wealth and income through empty inflationary growth.  That's not what this is, though.  Not all rising prices are unsustainable bubbles.  These rising prices would reflect real progress.

High prices in Closed Access cities are another story.  Those prices should be lower, and they should be made to go lower by introducing new housing supply into those cities.  The aggregate values of those homes is the source of rising debt levels and most of the other signatures of the housing bubble.  Sucking cash from financially marginalized families in Cleveland is one hell of a terrible way to address that problem.

PS. Look at the last graph.  As with all other cities, if we look at relative price levels, by late 2008 prices had declined significantly, and price levels among all quintiles had reconverged.  That is because prices had slid back down the Price/Rent curve and were back to where they had been, relatively, in 1996.  Any divergence in prices had been erased by late 2008.

Notice that at that point, high end markets stabilized somewhat.  But, just like in every other city, it was after that period - after Fannie and Freddie were taken over, and after Dodd-Frank (passed in 2010) established lending standards - that the low end tanked.  The low end didn't tank because predatory lenders set up borrowers to default in 2007.  It tanked because the CFPB codified the membership of the peasant class in 2010.

None of that has anything to do with housing affordability, because affordability is about rental expense, not price.
PPS. The new Census report on vacancies and homeownership does provide hopeful news.  It does appear that homeownership has bottomed out. And low end markets have been recovering somewhat.

Friday, January 26, 2018

Housing: Part 280 - Mood, priors, conclusions, and epistemic closure

Here is a new NBER working paper from  Edward Wolf:
The inequality of net worth, after almost two decades of little movement, went up sharply from 2007 to 2010, and relative indebtedness for the middle class expanded. The sharp fall in median net worth and the rise in overall wealth inequality over these years are largely traceable to the high leverage of middle class families and the high share of homes in their portfolio. There are also significant racial components here.  Net worth generally moved in tandem until 2007. Then after the financial crisis, young families and minorities took a hit, largely because leveraged homeownership was a larger portion of their portfolios.

Wolf is commendably restrained, mostly sticking to the facts.  But overwhelmingly this paper will be treated as yet another in the endless pieces of evidence that leverage was the problem, that they did this to us, that the bankers in 2005 pushed loans onto Hispanic and black households that inevitably led to this, and that access to credit is the problem to be avoided.

This is a good example of how decent, factual work, now filtered through the wrong presumptions, serves to give a false sense of factual depth to the wrong conclusions.  The reason young and minority households took a hit to net worth is because we made a severe public policy choice to stop lending to potential buyers in neighborhoods where young and minority households would buy, and, after 2008, quite apart from any of the initial collapse of the subprime market, etc., those homes lost 15-30% of their value, across the board, relative to homes in neighborhoods purchased by older, wealthier households.

But, the wrong presumptions have created a decade of boiling anger.  People are committed to that anger, and if they see evidence that changes the cause of this dislocation from bankers to popular public policy, it will feel like the anger must be redirected at uncomfortable targets.  It would be more appropriate to have avoided the sense of anger all along, but here we are.  And, I suspect, as this sort of evidence mounts in the social consciousness, it will require a more complete set of evidence to overcome the sense of opposition to redirecting that anger.  It will take more evidence than a person can handle easily in a single exposure.  And, I suspect for many who see my evidence, it will be like attending a well-performed magic show.  They will see something unbelievable.  They will have no explanation for it.  And, they will have the intuition that a sophisticated observer will leave it at that.  A respectable person doesn't stand up at a magic show and yell, "Oh my God!  He's cutting her in half! Arrest this man!"

I have been fortunate to have patient and curious readers, but this blog sort of attracts a peculiar audience.  I will be interested to see the reactions this story elicits as it reaches a broader audience.


On a semi-related note, I was pleased to see, on a recent visit, ample building in the DC metro area, although MSA level data shows there is much room for more.  In an Uber car this morning in DC, I said to the driver, "Wow.  There are a lot of new buildings going up around here."  She shook her head in despair.  "A bunch of expensive condos.  Rents are going up.  It's making the whole place unaffordable.  They tear down affordable homes to put up these expensive high rise condo buildings."

She wasn't misstating what she saw.   She was missing the broader picture in a common way.  The problem remains that the broad solution, even as it is implemented, is routinely misunderstood and opposed.  Note, displacement of existing tenants is challenging, but she wasn't complaining about being displaced.  She was complaining about this at the macro level.  She saw a few places with lower rents taken down and replaced with a lot of places with high rents, and she concluded, analytically, that this meant rents were higher in her town.  She was one of the beneficiaries of this building.  Her rents have likely been stabilized by the addition of new units.  But, that benefit was outweighed, in her estimation, by simply seeing new buildings going up that had high rent levels.  This is a powerful and common reaction, pushing back against the solution.  It is understandable.  You can see where it comes from even while realizing it is wrong.  The challenges on this issue are difficult.


Here is a graph of housing permit rates and rent inflation.  Washington is basically tracking with the US average on new housing units, and has been for some time, which is why it isn't a basket case like the Closed Access cities.  Rent inflation in Washington has been below the US average for four years.

Here is a business article on the Washington housing market:
But analysts, brokers and lenders in the region are starting to see unwanted side effects—specifically, too much supply. As  new properties come online in previously untapped markets, oversupply is causing lenders to scale back on construction financing.... Going forward, developers are scaling back and waiting for the market to absorb the new supply glut.
The developers are afraid rents are going down.  But, they agree with my Uber driver that there are too many new units.  Everyone always agrees there are too many units; the less units there are, the more they all agree on that.  We're the anti-Lake Wobegon.  All of our housing markets are below average.

Thursday, January 18, 2018

Housing: Part 279 - Building homes helps households with low incomes.

One of the many arguments against building homes in Closed Access cities is that market rate homes have very high rents and prices, and they are just bought up by rich outsiders.  This leads to complaints of "trickle down" economics.

Two things are happening here.
  1. Households react differently to housing deprivation depending on their incomes.  Households with high incomes can adjust their real housing consumption until their spending is at a relatively comfortable and normal level, by living in a smaller unit with a longer commute, etc.  As a household's income declines, they have less flexibility in this regard.  So, the adjustment households with the lowest incomes make is to move out of town.  New units means higher quantity and more moderate rents.  This means that the natural result of building new units in a housing deprived city will be that households with high incomes expand their housing consumption into the new units and households with low incomes make no change in their housing consumption.  This looks like failed "trickle down" economics.  But, the status quo was tens of thousands of lower income households moving away.  This is actually a vast improvement that favors households with lower incomes.  Not the sort of evidence that will convince naysayers, though.
  2. The other issue is that the Closed Access cities are so bad that the entire stock of housing is unaffordable for a normal family, unless it is subsidized.  So, new "market rate" units are treated by opponents as if they mean nothing to normal families.  Only subsidized units actually increase the housing that is available for the typical family.  This rhetorical treatment, which is technically true while missing the point entirely, leads to a paradigm where the market literally cannot fix the housing shortage.  There is no mechanism in this paradigm for markets to lead to an outcome that includes more housing units.  The possibility has been exorcised from the set of observable outcomes.
I decided that American Community Survey (ACS) data might help us in this regard.  Here I am using the largest 30 metro areas.  The Closed Access cities will be shown in red (here, including NYC, LA, Boston, San Francisco, San Diego, and San Jose).  These are for cumulative or annual numbers from 2005-2014.

First, as I have mentioned previously, we have a perverse migration pattern in this country where households move away from prosperity.  There is a sharp negative relationship between metro area incomes and net domestic migration.  This perversity is largely due to the Closed Access cities.  The city at the upper right, which has high incomes and high in-migration is Austin, TX.  Seattle is the city with incomes above $80,000 and in-migration of more than 0.5% annually.  That is how it is supposed to work.

How about we compare the incomes of in-migrants and out-migrants in each MSA.  All of these are expressed as a % of the MSA average income.

The incomes of migrants in general tend to be lower than average because movers tend to be young renters with lower incomes.  Interestingly, there is no systematic difference between cities of in-migrant incomes.  They tend to be about 85% of the MSA average regardless of housing policy.  This is somewhat surprising, since the Closed Access cities are the source of many complaints about wealthy outsiders buying up status units.  Some of that could be because absentee owners would not show up as migrants.  But, in terms of actual residents, there isn't much to see here.

Out-migrants on the other hand, skew poorer in cities with high rates of new out-migration.  This is entirely due to the Closed Access cities.  Here, also, if we remove the Closed Access cities, there is no relationship between net migration rates and migrant income.  But, in the set of cities with peculiarly low rates of housing starts, high average incomes, and significant out-migration, the out-migrants tend to have low incomes.

And, if we look at migration rates, by city size, rates of in-migration of Closed Access cities look fairly normal while rates of out-migration are high.  This surprised me a little bit.  I had thought that there would be more reduced in-migration in the Closed Access cities.  But, according to this data, it is the existing Closed Access households with lower incomes who bear the worst burden of housing deprivation.

I will look at another pair of graphs.  Here, I have made an adjustment for city size to estimate the unusual amount of in-migration or out-migration for each MSA.

Regarding in-migration, again, the Closed Access cities are quite normal, and again, across the board, there is no systematic relationship between relative incomes of in-migrants and the rate of in-migration.

Regarding out-migration, however, there is a strong relationship between the rate of out-migration and the relative incomes of the migrating households.  The Closed Access cities dominate the sorry end of the distribution, but they aren't outliers in terms of the relationship. It appears that wherever there are an unusual number of households moving away from a city, the movers from those cities tend to have low incomes.

By the way, whereas the Closed Access cities had normal in-migration rates for their sizes and high out-migration, Austin and Seattle have normal out-migration rates for their size and high in-migration rates.  Again, that is how it is supposed to work.

Outside the Closed Access cities, the in-migration patterns are basically what you would expect.  There is unusually low in-migration into cities like Cincinnati, Cleveland, Detroit, Pittsburgh, and St. Louis.  There is unusually high in-migration into Austin, Denver, Phoenix, and Riverside.

The rust belt cities also tend to have low levels of out-migration for their size, while the Closed Access cities have unusually high levels of out-migration.

Just for good measure, these last two graphs use housing permits per resident, which I have previously collected for 22 of these cities.  In the first graph, the scatterplot regresses outmigrant incomes against the rate of housing permits from 2005 to 2014.  The second scatterplot regresses the size-adjusted rate of outmigration against the rate of housing permits from 2005 to 2014.

By the way, in both cases, there is no relationship if you remove the Closed Access cities.  The trendlines are flat without the Closed Access cities.

This is real simple.  If you don't build enough houses, poor households will be systematically displaced.  If you do build houses, they won't be.  And, there are 5 major metropolitan areas that systematically displace their poorer residents because they don't allow enough housing units to be built.  They are outliers in this regard, and don't let anyone tell you that building houses won't solve the problem.

Wednesday, January 17, 2018

Update: The Yield Curve and the Business Cycle

Here is a graph of forward treasury rates, which I have inferred from market rates of treasuries of different maturities.  (It doesn't make that much difference.  The forward (10,10) rate, for instance, approximates the 20 year treasury yield.)
idiosyncraticwhisk.blogspot.com  2018

Roughly speaking, I look at the yield curve as having two clear regimes: pre-1980 where monetary policy was pro-cyclical and increasingly inflationary, and post-1980 where monetary policy was decreasingly inflationary and somewhat less pro-cyclical.  Pre-1980, the short term rate would rise late in a recovery phase, but the Fed was generally behind the curve, and so inflation was generally rising fast enough to neutralize the real rate.  So, forward rates tended to rise along with short term rates.  Eventually, at high nominal rates, the yield curve would invert substantially, and inflation would subside with economic contraction.

After 1980, inflation has slowly declined, and there are two types of tightening cycles, according to my highly technical, patent pending method of eyeballing the graph.  There are cycles where forward rates rise along with short term rates, such as in 1983, 1987, 1993, and 1999.  In these cases, rising rates were a reflection of a strengthening economy, efficiencies from a strong labor market, lower premiums for accepting cyclical risk, and maybe some moderate inflation, so the rising short term rate wasn't particularly contractionary.  It was a reasonable reflection of neutral monetary policy.

On the other hand, in 1989, 2000, and 2004-2007, short term rates rose while long term rates declined or remained steady.  In these cases, rising short term rates were more likely to reflect tightening policy than to reflect improving sentiment, and in these cases, falling NGDP growth and recessions followed.

So, the question is, are we in a rising forward rate environment today or a stable forward rate environment?  Clearly, in the broader scheme, forward rates are steady.  This is why I have generally been biased to expect rate increases to be contractionary.  But, forward rates in the post-1980 period have been a bit noisy.  So, it is possible that any uptick in forward rate noise is actually a regime shift to a rising yield curve.  Were the rising rates in late 2016 somehow a product of a new market shift related to the current presidential administration, or just noise?  I would tend to attribute it to noise, but the current political context is unusual, so things are a bit uncertain.  Eventually, I expect the zeal among FOMC members to raise rates will win out, and the yield curve will flatten relative to where forward rates are today, and we will enter a contractionary period.

That being said, the bears - their heads full of perceived bubbles - have not had a good run, and the analysts that strike me as level-headed seem especially sanguine about the next couple of years.  Certainly many indicators seem to be giving benign signals.  But, I think this signal bears watching.  A few years ago, I was bullish, and employment indicators were more of a focus.  Employment will be more of a lagging indicator in a contraction, though, so I think long term rates, inflation, and mortgage expansion are keys to keep an eye on today.  Bulls are correct that there isn't anything inevitable about a yield curve at the current slope, and that extensive expansions have happened with this sort of yield curve.  But, when that has been the case, either short term rates were stable or short and long term rates were rising together.  The low rate of non-shelter inflation and the meager growth of mortgage lending seem like confirming indicators that a defensive bias remains prudent.

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.

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.

Friday, January 12, 2018


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.

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.

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.

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.