Some Thoughts on Kevin Drum's Housing Supply Post

 A few weeks ago, Kevin Drum wrote a blog post that expressed skepticism about "America’s housing crisis."  He got quite a bit of pushback against that, so he has followed up with a new post, doubling down on his skepticism.

It is a very interesting post, mostly because Drum does such an impressive job at convincingly feeling the parts of the elephant that make his point. The post is a study in rhetoric and in the limits of empirical debate to inform a conversation.  I would take some issue with most of the specific points of fact, but in a way that I suspect a skeptic would consider pedantic.  And, those points of fact are wrapped in a broader assertion that is expressed as a generality - a feeling - that hampers pedantry, and so the whole argument is somewhat protected from criticism.

I suspect that for a reader, this comes across much like my own work does.  My books are full of empirical reinforcement of a core idea, and so for the reader, they are either deeply argued concepts or Gish gallops, and the problem for those kinds of arguments is that they present a skeptic with a lot of work. The skeptic will require a deep engagement with the long line of points in order to have their mind changed, or to confirm their skepticism. The other choice is to write it off as a Gish gallop without doing that work. The problem is that that work is not free! Writing off the full argument can be a rational response! So, I find that with my work, many of the readers are in two categories: (1) those who weren't skeptical or for whom something about the work overcame their skepticism, and they either do deeply engage in it with a sense of self-directed discovery or they accept it as basically true, either in whole, or with some minor remaining potential caveats, and (2) skeptics who don't engage with it deeply. I'm not sure that there is a single skeptic that has deeply engaged with my work, and I can't blame them. It is necessarily a complex web that I have tackled and it would take a lot of work.

It's a bit of a paradox. If my work is worthwhile, it is essential. But, if it isn't worthwhile, then anyone who engages with it skeptically will find at the end that they wasted a lot of effort.

Anyway, back to Drum, the generality I take issue with is comments such as this:

But beyond that there are always individual places that are popular and expensive, and there are individual neighborhoods within those places that are even more expensive. These areas change from decade to decade as different cities get hot, and there's really no way around this. This doesn't indicate a housing shortage any more than high prices for Gucci bags indicates a shortage of purses.

It seems like folksy wisdom, and surely there is a basic truth to it. New generations tend to have it better than older generations, and frequently cry foul at conditions that their grandparents would have embraced or accepted. The current generation is no different than any other generation in this regard. But, this point is simply wrong. This is a new era in American housing. The most economically dynamic cities have been shedding domestic migrants by the hundreds of thousands for years now. That is anomalous. One can see this both within the history of those cities and in other cities. NYC and LA are dominant because when they originally were ascendant, they were magnets for the working class. Of course they grew so large because, given their economic draw, they were affordable!  Looking elsewhere, the norm until recent decades was for metro areas to grow when they are economically ascendent and to stop growing when they struggle.  During the early and mid-20th century, the Detroit metro population grew by nearly 3% annually. Back then there weren't individual cities with incomes far above the norm, like there are today. Over the early 20th century, people moved to opportunity and regional incomes were converging as a result. Today they can't, so some metro area incomes are skyrocketing away from the norm.  This is new!

Also, it isn't the nice neighborhoods that are getting expensive. It's the cheapest neighborhoods in the most housing constrained metros.  Here is a graph of home prices in the LA metro since 2000.  The pressure here is to trade down on the socio-economic status of a neighborhood in order to get into the LA metro. Young Americans aren't complaining that they can't move straight into Beverly Hills. They are actually bidding up home prices in Compton to try to get into a massive metro area that refuses to grow. Population growth of American cities with the most buoyant local incomes has been recently countercyclical. They barely ever grow, and when the economy starts to do better, they actually start shrinking.  This is really weird!  In fact, a decent portion of their ascendent local incomes is really just a side effect of the poorest residents systematically being forced to other cities. This is something that I would expect Kevin Drum, of all people, to be really bothered by. This isn't just the way it's always been.

On his more empirical claims, I will just lay out one of my pedantic points.  He highlights two facts that appear to downplay the supply crisis narrative.  First, he compares cpi housing inflation with cpi inflation excluding shelter.  He finds that housing inflation is up 7% more than non-shelter inflation since 2000. He says that of the data he highlights, this is only one of two metrics that point to a housing shortage, but they are "very tiny ones". I have a pedantic sub-point here. He uses "cpi housing" here, which includes furniture, utilities, etc.  There is a better metric - "cpi shelter", which only includes the actual shelter. But, even that includes things like lodging. You can even dig down deeper and look at "cpi rent of primary residence".  Here's a chart.

The measure he uses shows 7% excess inflation since 2000. "Shelter" excess inflation is 10%. "Rent of primary residence" excess inflation is 21%.  Is that still "very tiny"?

Then, he highlights "rent as percent of household income" from 2000 to 2020, which increased from 22% to 25%.  He counts this as a lack of evidence that rents are skyrocketing.

But, think about this for a minute. If rent inflation is high (and in fact, much higher than his "housing" metric suggested), and yet total spending on rent is relatively level, then that means that American households are greatly decreasing their relative real housing consumption.  Here are a couple of graphs showing how the long term trend in gross rent/GDP started rising in the late 1970s.  Before 1980, there was generally below-average rent inflation and growth in real housing consumption, which averaged out to a level 8.5%ish of GDP being spent on shelter. After 1980, rent kept taking more of US incomes, but after 1980, this was a combination of high rent inflation and below-average real housing consumption. The real consumption hasn't receded fast enough to make up for the inflation, so total spending on housing has increased.

There is one period where the 5 year rolling average in real housing expenditure growth was faster than real GDP growth - 2009-2012.  That isn't because we were building lots of housing then.  Ironically, that's because in 2007-2008, the Fed was convinced that we had too much housing, and as I described in "Building from the Ground Up", they basically lowered American incomes until Americans were willing or able to purchase less housing.  Since Americans were actually lacking in adequate housing and already spending more of our incomes on it than we would like to, this was catastrophic. That error - the same error Drum is still making about the supply problem - was basically the cause of the financial crisis and recession.

Since the crisis only worsened the housing supply issue, Americans have spent the last decade growing real housing consumption at the lowest relative rate since WW II because we have no other choice. Yet, as long as we continue to be deprived of adequate housing supply, this will only partially offset rising rents.

There are several implications of this. First, this certainly doesn't sit well with Drum's general assertion that younger generations expect to hit the ground running, increasing their housing consumption more and earlier than their parents and grandparents had. They are increasing their real housing consumption at a lower relative rate than any previous recent generations did.

Some people will try to suggest that the reduction in real housing consumption is voluntary - smaller families, the norm that as real incomes rise real consumption of housing tends to grow at less than a 1:1 ratio with income, etc. But, if that was the case, rent inflation should be lower. The fact that rent inflation is above average, even though real housing consumption has been low for decades, points to a substantial supply problem.

So, this is a case of Drum highlighting two "parts of the elephant" that look like they push against the housing supply narrative, when, in fact, taken together, they point to a supply problem.

Where I would like to conclude, however, is something that Drum gets right that many people don't.  He closes with:

What about all those investors snapping up houses so the rest of us can't buy them? Isn't that killing off the housing supply?

No. Housing supply is the same regardless of who owns the homes. Besides, corporate and real estate investors buy a small fraction of all the houses sold in America. There are a few specific areas where they're very active, but that's it.

The real lesson from this trend is not that housing supply is tight, but that in certain areas starter homes are selling too cheaply and apartment rents are too high. That's why it's profitable to buy low-end homes and turn them into rentals. This suggests that in certain places there's an imbalance of what's being built and what people want, but that's likely to balance out before long.

This is correct (except for thinking that it isn't evidence of tight supply)! And, I find this interesting for two reasons.

First, it would be easy for a skeptic to produce an empirical retort to his closing statement very similar to his retort here against the housing supply narrative.  They could show that low tier prices have been increasing along with rising institutional ownership. They could argue that when corporate owners buy up more of the housing stock, they ruthlessly raise rents, and that they are raising rents even though new construction has been growing for a decade.  They could point out that homeownership rates are lowest in the places where home prices have been bid up the highest. They could point out that prices are, in fact, rising the fastest where rents are rising the fastest.  Drum is right on this, and they would be wrong, yet there are many empirical points just lying in wait to support a number of sets of premises.

I suppose that means you should be skeptical of all of us. Or, unfortunately, it means that before you can really settle on a point of view here, you're going to have to put in a lot of difficult work parsing the various empirical assertions.

Second, this is a very good example of how mortgage suppression since 2007 has completely muddied the rhetorical waters on this issue, and made it very difficult to do that parsing.

Drum is right that the prices are too low and rents are too high in many places. The reason that is the case is because we killed off low-tier mortgage lending in 2008, which is part of what has made housing supply even worse.

Here's a chart of home prices from 2002-2015, by ZIP code income. The myth about 2002-2006 was that loose lending drove up the prices of low-tier homes to unsustainable levels, and busting the hobgoblin at the center of that myth was part of what we tried to do in 2008. We did it disastrously well.  Over the entire period from 2002-2015, low-tier home prices rose much less than high-tier prices. And, in fact, for the most part, they rose together from 2002-2006, and then we shit all over low tier mortgage lending and created a low-tier housing bust in the shadow of the primary housing bust that people are still making excuses for today. The crappy outcome of sucking 30% out of low-tier home prices relative to high-tier prices is bad enough. We should talk about that. But, that's not the end of it.

At the end of the day, though it's complicated, prices of homes are going to tend toward the cost of alternative new homes. So, you can't just push home prices around to wherever you want. If you push home prices unsustainably low, like we did to low-tier prices with suppressed mortgage lending, they will eventually want to rise again. And, the way they will rise is through rising rents.

As even Drum must agree, based on the charts he highlights, the housing bust did little to bring down rents.  So, now, the next chart, is a scatterplot where the 2002-2015 price appreciation is on the x-axis, and the subsequent rent inflation from 2015-2021 is on the y-axis.

Quite systematically, where a lack of mortgage financing drove prices down, rents increased excessively, until prices rose back up.  The graph (not shown) of price changes from 2002-2021 (rather than 2015) is flat. Prices at the low end and high end have increased similarly. But, to get there, low end rents had to skyrocket, because we made it extremely difficult for low-tier owner-occupiers to create demand as buyers (as opposed to renters), and so supply in the most credit constrained cities has been in the crapper for a decade.  With price/rent ratios still pushed down because of a lack of owner-occupier buying power, the only way for prices to rise back to their natural level was for rising rents to make up for low prices.

(Notice how the recent rise in low-tier rents and prices would seem to bolster the argument of people who falsely believe that the institutional buyers are the cause of all of that!)

Given all of this, if we aren't willing to stop suppressing mortgage lending, then institutional buyers funding build-for-rent neighborhoods is the only solution left for "balancing out" those markets, as Drum suggests they will.  There is a budding movement to stop that from happening, which is just one more step down the road of creating supply constraints and then trying to solve the damage of those supply constraints with more supply constraints. At least on this issue, it seems, Drum will be on the side of allowing new supply.

Or maybe, he'll take the same approach he takes about current supply conditions, when he writes:

Why are you willing to force people to move away from the places they were raised just so you don't have to look at an apartment building near your home?

I'm not. As far as I'm concerned, you may build as many apartment buildings as you want near me. I'm not trying to prevent higher density, I'm just gathering data about the amount of housing in the United States.

So, maybe he'll just watch as all his neighbors fight to block to build-to-rent neighborhoods so that the price and rent levels can't come back into balance, continuing to feel like his conscience is clean, and that the problem isn't severe enough to worry so much about his neighbors' consciences.  In the meantime, we are at quite a crossroad, because, if we find ourselves in a position where working class families can't get mortgages to build their own homes, cities keep fighting multi-unit infill developments, and now we start blocking the single-family build-for-rent developments that are one of the dwindling number of options for reversing our housing shortage, things are gonna get real dark.

16 Part Series on Housing Affordability

In 2019, I wrote a 16 part series of posts for the Mercatus Center that laid out a way of thinking about housing affordability.  Here are the links to those posts.

1. Thinking Clearly About Housing Affordability:  "Here is the core analytical error: housing affordability should be measured in terms of rent, but our understanding and policies have erroneously focused on price—to disastrous ends.  From monetary policy to credit policy to regulations on local development, responses to the housing bubble have consistently and explicitly aimed for less residential investment, fewer buyers, and fewer homes.  Limiting the supply of homes has had a predictable effect of increasing rents.  In other words, the problem of affordability, in terms of price, was “solved” after 2007.  Affordability in terms of rent was not.  Understanding the difference between these two measures will be an important factor in correcting the policy errors that led to the crisis and creating better, more equitable, more stable economic outcomes in the future.
   I argue in my book, Shut Out, that the housing collapse and the financial crisis were not inevitable.  They weren’t even useful.  In fact, their very purpose was mistaken.  The fundamental measure for housing affordability is rent, not price.  And, trying to bring down prices instead of bringing down rents inevitably will fail on its own terms.  In the long run, prices will be determined by rents anyway."
2. What Are Landlords Good For?:  "More efficient markets lead to higher real estate transaction productivity. The resulting higher prices convey that information: owning a home is more valuable now, because it can be done with less hassle. Landlords would be less necessary because transaction costs would be a smaller problem, making homeownership more valuable.  Only focusing on price might tempt one to suggest that transaction cost-reducing innovation should be avoided because it would only increase prices."
3. Homeowners Make the Best Landlords:  "When considering the benefits of home ownership on the margin, the focus should be on capturing the excess yield that seems to be widely available to owners.  It is this yield that is most important to marginal potential owners, not capital gains... It may be more accurate to think of that excess yield as a form of patronage.  A lucrative wage available to those with access to ownership.  The wage is earned by performing the duties and taking the risks of a landlord. Upon becoming the owner, the wage remains, but the duties of the job can be shirked.  There is no problem tenant to evict.  No vacancies to fill.  No complaints to manage.  It’s a cushy job you can get because your Uncle Sam pulled some strings down at the bank."
4. Real Estate Investment Doesn’t Increase Spending:  "The housing bust is creating more excess capital income than a housing bubble ever could have."
5. Rising Prices, Lower Rents; Rising Rents, Rising Prices: "The suppression of credit has lowered Closed Access prices, but they are still high because rents are high. Open access housing has been pushed to a level well below previous norms. But attempting to solve the price problem in Open Access cities has created a rent problem...Where building new homes is permitted, rising prices lead to declining rents. But, rising rents lead to rising prices. In the long run, even the solution to rising prices begins with a focus on lowering rents."
6. "The Myth About Bubble Buyers": (F)or households 45 to 54 years in age, the homeownership rate in 1982, when the Census Bureau started tracking it annually, was 77.4 percent. It bottomed out at 74.8 percent in 1991 and then recovered to 77.2 percent at the peak in 2004. By 2017, it was down to 69.3 percent!…..Rental expenses as a proportion of incomes (Figure 1), belie the conventional wisdom. The rental value of owned homes was more stable as a portion of owner income than the rental value of rented homes from the late 1990s to the mid-2000s. In other words, if there was an increase in relative spending on housing, it was among renters. The rental value of homeowners was rising in line with their incomes. There is no sign of marginal homebuyers being induced into homeownership and overconsumption.
7. Squeezing Unqualified Borrowers: "Considering this set of circumstances, the idea that housing affordability is getting worse because prices are high and that the solution is even higher interest rates or tighter credit access is a disastrous misreading. It will lead to a vicious cycle of segregation between households that can qualify under today’s standards (and who then can buy ample units at favorable terms) and households that cannot qualify (and who must keep economizing while a large portion of their wages is transferred as rent to the ownership class). There are two options. Re-opening credit markets to entry-level buyers will return the market to a more equitable equilibrium. Maintaining the market as it is will continue down the path of settling at a new equilibrium where certain households live in smaller, less adequate units, either because of size, amenities, or location."
8. "Tight Lending Regulations are a Wealth Subsidy": Thinking in terms of rental value, public policies and market innovations that lower mortgage interest rates can be broadly beneficial to consumers, even if those benefits don’t accrue to the actual borrowers who use those low rates.  That is because higher mortgage interest rates have a similar effect on price as exclusionary lending standards.  Downward pressure on price creates a rental subsidy for home buyers who don’t require a mortgage.
9. "Property Taxes Are Rent to a Public Landlord": If there is concern that the net effects of government policies, in total, favor housing and lead to market volatility, a return to higher levels of property taxation can be a useful tool for countering it.
10. Property Taxes Can Be a Tax on Monopoly Power.: "If politically maintained monopoly power is going to remain, claiming monopolist profits through taxes is an improvement. The fact that the tax doesn’t affect rents is a sign of efficiency. If rents must be elevated, better that they go to local public services than to the real estate cartel."
11. Low Property Taxes and Obstructed Housing Supply Are a Bad Mix "It would seem that raising property taxes would make housing more expensive.  They are, effectively, a tax on materials to build homes.  But the binding constraint to affordable and reasonable housing in twenty-first century America isn’t material.  It isn’t a lack of affordable physical space.  It is the political obstruction to placing those materials in dense urban centers."
12. Are Property Taxes Regressive?: "A region that allows ample new supply and imposes higher property taxes is friendlier to households with lower incomes than a region with obstructed housing supply and low property taxes."
13. Income Tax Benefits to Homeowners Are Regressive: "Two of the most important changes to the tax code made by the Tax Cuts and Jobs Act of 2017 (TCJA) relate to housing: a reduction in the deductibility of state and local taxes and a reduction in the mortgage interest deduction."
14.  "Because of Housing, All Taxes on Capital Tend to Be Regressive".: "(T)he income tax code, as it exists, has regressive effects regarding housing affordability.Given those effects, it is inaccurate to treat capital taxation in general as a progressive tax. Corporate taxation, in general, creates a regressive rent subsidy. A different tax regime that focused on property taxation rather than generalized capital taxation could plausibly produce public revenue in a way that would be more progressive than a tax code that taxes capital income more generally. This should cast doubt on common presumptions about how and why to change the tax code."
15. Does Homeownership Really Increase Household Liabilities?: "The idea that paying $700 in rent is preferable to a $300 mortgage payment comes from the idea that a potential home buyer would be adding a new liability to their household balance sheet. It would involve leverage, and leverage is dangerous. But this idea is, itself, a product of mental framing. There are assets and liabilities that we explicitly include on balance sheets, like the value of a home and a mortgage, or the market value of a corporation’s future profits. And there are assets and liabilities that we don’t explicitly include, like future rental expenses or the market value of a laborer’s future wages. ------The explicit financial engineering that spread before the financial crisis has taken on a lot of criticism over the past decade.  That financial engineering, ironically, created risks and costs that were more transparent and visible than the implicit financial engineering that has been an unwitting side effect of deleveraging Americans’ explicit balance sheets. A significant part of corporate financial analysts’ academic training is to properly account for the liability of the rents corporations have committed to paying.  Wouldn’t it be prudent for mortgage regulators to account for this liability also when evaluating the benefits and costs of the lending standards applied to households?"
16. A conceptual starting point for housing affordability and public policy: "Understanding this value and the systematic returns that homes provide leads to a somewhat paradoxical conclusion that (1) homeownership is usually a good investment, and (2) the smaller the investment, the better. In other words, an owner-occupied home with a low rental value can be a great investment, but the downside is that it requires living in a home with a low rental value. The various posts in this series have considered housing affordability with a focus on rent. This focus has led me to the following policy suggestions: we should (1) maintain relatively high property taxes, (2) reduce or eliminate income tax benefits of homeownership, including the non-taxability of the rental value of owned units, (3) eliminate urban supply constraints, (4) reduce regulatory barriers to mortgage lending, especially in low tier markets, and (5) encourage innovation in real estate markets that reduces transaction costs."

Book News

 Lots of book stuff happening.

Scott Sumner's "The Money Illusion" is coming out.  This is an important account of the 2008 recession.  It is the framework for viewing the economy that drew me into my housing work.

Rowman & Littlefield is releasing a paperback version of my first book "Shut Out" this month!  And here is a code you can use to get it for only $18.90.

Use code:  RLFANDF30

Here: https://rowman.com/ISBN/9781538163009/Shut-Out-How-a-Housing-Shortage-Caused-the-Great-Recession-and-Crippled-Our-Economy

And, in January,  my followup book "Building from the Ground Up: Reclaiming the American Housing Boom" will be out.

Should be an exciting few months ahead!

More on Interest Rates and Home Prices

Some follow-up thoughts on yesterday's post.

There might be some more to think about regarding interest rate sensitivity and local supply constraints.  I asserted yesterday that the decline in yields from 2000 to 2005 was concentrated among the more expensive cities, but that yields remained relatively stable in other cities during that time.  One implication is that expensive cities may be more rate sensitive.  I am unusually flummoxed by the patterns here for some reason.  But, digging around some more, I think I have become less sure of my intuition about sensitivity to interest rates and about relative housing yields across metros.

This first chart suggests the reason for expecting more yield volatility in expensive cities and possibly more sensitivity to interest rates.  Clearly, over time, high rents have become an increasingly important factor in housing markets.  Systematically, where rents are higher, gross yields are lower.  And, where rents are low, yields seem to remain relatively stable over time. The relationship between rent levels and yields moves up and down through hot and cold markets.  In other words, a bit counterintuitively, where rents rise, the rent/price ratio declines and becomes more volatile.

Data from Zillow.com affordability measures

But, when I look more closely at cyclical changes, I just don't see the pattern that this suggests there should be.  During the 2000-2005 boom, the Closed Access cities and the Contagion cities experienced anomalous declines in gross yields.  Long term interest rates also declined during that time, but I think the decline in yields in those markets was a result almost purely of these anomalies.  In the Closed Access cities, the anomaly was mostly continued strong rent inflation, and in the Contagion cities, it was from short-term price surges having to do with big shifts in migration that stressed their local markets.  Taking the Closed Access and Contagion cities out of the mix, in the rest of the country, if anything, housing in cities with higher yields was somewhat more sensitive to changing interest rates than housing in cities with lower yields.

As housing has moved through the aftershocks of the boom and the crisis, this seems to continue to be the case.  Once those anomalies from 2002-2006 worked their way out of the system, housing seems to be only somewhat sensitive to long term rates, and it is more sensitive to rates where housing is less expensive.

Zillow has detailed rent data going back to 2014.  Looking very broadly at the numbers up to 2014, gross rent/price was in the same range that it had been in the 1990s, and that this was more or less the case across MSAs.  Over that time, 30 year TIPS rates had declined from about 3.5-4% to around 1%.  One could suppose that this is because housing yields are not rate sensitive or because shifts to very tight lending had added a premium to housing yields, counteracting the change in TIPS rates.

I'm working very broadly here, but it appears that there could be three general forces at work here. (1) expected rent inflation, (2) long-term real rates, (3) tight lending since 2007.

In "Shut Out", being a little more thorough, I suggested that expected rent inflation could explain differences in home prices across cities, plus about a 20% price increase due to declining rates. Rates have declined about that much again, since the boom.  These two factors may be correlated, because if low rates trigger more home buying demand, that should lower rents where supply is elastic and raise rents where supply is inelastic.  It's complicated.

From 2014 to about September 2019, housing yields appear to have declined the most in metros with higher yields.  This changed after September 2019, and maybe this has mostly been due to Covid issues, but since then, yields have declined across the board.  I suspect that part of what is going on is that there has been a temporary decline in rents in the expensive, low yield cities, which has temporarily lowered their yields.  As those rents recover, yields in those cities will move back up.  So, it appears that there is a systematic change since 2014 of yield compression.  Yields in low-yield cities are staying about the same and yields in high-yield cities are declining.

In any case, there is a striking difference between this recent move in home prices and the 2000-2005 move.  There are no anomalous cities here.  The changes in yields are relatively similar across cities, and, apparently, correlated with existing yields.

This shift could reflect at least three factors:

1) Unsustainable bubble activity.  This is always a popular choice.  I am skeptical, of course, because in general the whole existence of this project of mine owes itself to discovering evidence, time after time, that has contradicted these types of explanations.  Also, as with so much housing data, the difference between cities dwarfs the changes within them.  Should we call a decline from a 10% yield to a 8% yield a bubble when the country is full of cities with 6% yields?  This would call for tight monetary and/or lending policies.  Of course, I think that is likely the continuation of a wrong perception that has been knee-capping our economy for 15 years now.

2) Maybe prices in high-yield markets are more sensitive to interest rates.  In that case, rising rates (if they ever come) might be associated with declining prices.  I don't see much sign of loosening lending standards.  Most of the activity is still among those with high credit scores.  If that is the case, loosening regulations on mortgage lending could be a useful countermeasure to help keep prices from collapsing if prices are sensitive to rising interest rates.

3) Maybe the convergence in yields is happening because all cities are becoming supply-deprived.  In that case, strong growth and generous lending will be key.  Why might this be the case?  Building has been much lower in affordable, high-yield cities since 2005.  In this chart, there are a few outliers well below the regression line.  Those are Contagion cities who were especially walloped by the financial crisis (Phoenix, Las Vegas, Orlando, etc.).  Other cities have a quite high correlation.  Building has been low in affordable cities.  I attribute this to tight lending.  These cities tend to have lower incomes.  And, because of this, rents have been rising broadly across MSAs.  Recently, rents have moderated or fallen in the low-yield cities because of Covid migration.  In any case, less building could mean that buyers in all metros expect rents to be strong.  This can be seen in vacancy rates, too.  Vacancy rates have always been low in the low-yield cities.  Vacancies in other cities are declining too, because of the lack of building.

https://fred.stlouisfed.org/graph/?g=EU8h

Of course, I would expect some combination of 2 & 3.  Surely there is some sensitivity to real long-term interest rates.  The questions are how sensitive home prices are to interest rates, how that sensitivity might differ across cities with different supply elasticities, and how much tight lending standards may have altered that sensitivity.

I thought there might be more anomalous movement among MSAs in the recent market activity.  Austin, for instance, might have seen an unsustainable decline in yields, as the Contagion cities had before 2006, because of a big migration shift.  I suspect that tight lending plays a role here.  In 2003-2005, migration led to more building.  And, possibly the migration was more targeted at certain cities than it is today.  But, because entry level housing is greatly obstructed by tight lending (and because of supply chain issues related to Covid), there hasn't been as much of a supply response in these markets recently.  So, rents have been rising in cities that tend to take in more migration in recent years.  Migration is pushing up prices, but more so than in 2005, it is pushing up rents, so the Contagion cities aren't anomalies in terms of yield.  And, since the migration is related to lower demand for Closed Access residency, the Closed Access cities are experiencing some anomalous decline in yields, but this is coming more from declining rents than from rising prices, and will likely reverse or moderate as Covid passes.

Interest Rates and Home Prices

 A couple of quick thoughts on recent home price appreciation.

In graph 1, I estimate a national median gross rent/price yield from Zillow rent and price data.  I compare it to the 30 year TIPS (real) interest rate (plus 8%).  Certainly a case can be made that some of the recent price movement has been related to declining real long term yields.  However, without more historical data, this doesn't tell us much.  Two measures both moved in a certain direction over a period of time, and so it's easy to match them up on the y-axis.

Here is a longer series with similar measures.  Here, I estimate the national average gross rent/price level with total rent/total residential real estate value for owned homes.  I also used the CPI rent inflation measure with the Case-Shiller national home price index, with a scaling constant as a second version of the estimate.  Both estimates of rent/price yields follow similar trends.

Here, I use a 30 year TIPS bond issued in 1998 and then in more recent years the general estimate for 30 year TIPS yields.  Here I only added a 3% spread to the TIPS yields.  Part of the difference is that the mean yield is lower than the median yield. (Price/rent is not the same across the market.  It is systematically higher where rents and prices are higher.)  Part of the difference is that we imposed a one-time shock on housing during the financial crisis, adding a 2-3% spread on housing yields compared to other assets, so the spread in the first graph from 2014 onward is much higher than it had been before.

https://fred.stlouisfed.org/graph/?g=ESSe

When I first started looking at these things years ago, I excused the pre-2006 price increases with this relationship.  I still more or less stand by that.  It isn't controversial to say that home prices are related to interest rates. In fact, I think it helps clarify the analysis to show that it is specifically real long-term rates that seem to correlate with housing yields.  But, even in 2005, that doesn't tell the whole story.  Rent/price yields are not uniform across cities.  They decrease systematically where rents are high.  Some of that might be attributed to expectations of future rent increases.  Some of it might be attributed to lower cost of ownership where rent is a product of location rather than structures and services.  In any event, before 2000, gross housing yields had been between 6-7% for some time, and after 2000 they continued to be in that range in most cities.  In some cities like LA or NYC, they declined to more like 3-4%.  The aggregate yield around 5% was an average of a country increasingly becoming bifurcated into at least two different stories.

So, it may be that the correlation between 30 year TIPS and housing yields from 1998 to 2008 overstates the relationship.  In most places the gross housing yield didn't decline as much as the 30 year real rate.  Yet, even if one assumes that a 2% spread remains in place between long term real rates and housing yields, the recent drop in real interest rates is enough to support recent home price increases, even if the relationship is slight.

Actually, I think the causality may go both ways a bit.  In other work, I have mentioned that housing used to be cyclical in terms of quantity and now, because we have obstructed construction so much, it is cyclical in terms of price.  It is hard not to notice a similar regime shift in interest rates.  Before 2000, real interest rates were relatively stable, and changes in interest rates were largely related to inflation expectations.  Since 2000, real long term interest rates have become strangely volatile.

In the mid-20th century, housing yields remained stable because when rents increased, a lot of new homes were built until rents declined again.  All those new units required capital.  Mortgages, construction loans, home equity.  An increase in demand for investment (in generally safe assets and securities) drove GDP growth higher and put upward pressure on interest rates.

There is a lot of concern about a lack of safe assets, which is driving down interest rates.  Homes in California used to be safe assets.  They aren't any more.  They are risky investments in a cartel.  Mortgages used to be safe assets for investment, but many aren't legal any more, so the trillions of dollars worth of new homes they would have funded, which also would have been safe assets in Texas, Nebraska, and Tennessee, also don't exist.

So, there is an interesting set of interacting variables here.  If inflation rises, I don't think that will have much effect on real home prices or construction activity.  If real rates rise, which will be associated with real economic growth (and probably with a mitigation of short-run inflation), then it should have a moderating influence on home prices.  But, unless mortgages can flow, multi-unit projects can be easily approved, and construction can run hot, then rents will continue to rise and long-term real interest rates will continue to be limited.  In that case, it seems like a "hot" market is likely to remain, with housing growth (but at historically low construction rates) and high prices (low housing yields), while the "have nots" who are under the "tyranny sincerely exercised for the good of its victims" will face rising rents.

I suspect that a construction boom would both lower rents and raise real long-term interest rates.  But, the boom must come first.  In the meantime, housing is in a peculiar space, where we should expect there to be some sensitivity to rising rates if the economy continues to recover, yet also housing yields continue to retain at least a 2% spread to long-term 30 year rates, compared to pre-crisis norms, so that nobody should expect home prices to revert to earlier relative levels (especially as rents continue to rise).

October 2020 Inflation Update

 I haven't updated the inflation numbers for a while.  Covid-19 has probably made it difficult to say too much, because there are so many compositional shifts in the demand basket.  But I think it is worth taking a look at what is happening in rent inflation.

Much of the drop in the stated core CPI number is coming from declining rent inflation (or shelter inflation).  Core inflation excluding shelter is still below 2%, so the Fed has room to goose spending within their mandate.  Trailing 12 month shelter inflation has declined from about 3.4% to 1.7% since the Covid-19 outbreak, and the run-rate may not be positive.

Real-time data suggests that much of this appears to be related to some amount of exodus from expensive cities like San Francisco and New York City.  However, declining CPI-measured rent inflation is pretty evenly distributed among the major metro areas.

There are three periods of sharply declining rents in this period, and it is interesting to compare them.  In 2002-2003, construction was hot and new supply was bringing down rents in cities with elastic supply (Dallas and Atlanta, but not New York and LA).  Then, from 2008-2010, the foreclosure crisis and the sharp tightening in lending markets created a negative demand shock for shelter, driving down rent inflation everywhere.  That was associated with very low rates of construction.

Now, the decline in rent inflation is associated with low but moderately rising construction activity.  If that continues, it would suggest that lower rent inflation is mostly due to income shocks and the specific character of the Covid-19 context, where landlords may be opting for more leniency until the market settles.  If there really is a persistent shift of housing preference into less dense cities and housing units, then that should be associated with rising demand for shelter and more construction, not lower rents.  In that case, there would be a compositional shift out of the expensive cities, and rent inflation might decline as tenants leave the expensive cities (pulling rents there down) and move to cities where new demand is met by supply rather than price inflation.  The fact that rent inflation is currently declining in cities like Phoenix, which we should expect to be the destination for some of those moving tenants, suggests that income shocks are more important now than inter-MSA migration.

Housing Policy, Monetary Policy, and the Great Recession

Here's a link to a research paper the Mercatus Center has published by me and Scott Sumner.

Housing Policy, Monetary Policy, and the Great Recession

It's a combination of Scott's work on Federal Reserve policy and my work on the housing bust.  Here is our takeaway:

------------

Policymakers should not slow the economy in an attempt to prevent bubbles, which are not easy to identify in real time. Such efforts to reduce demand in 2007–08 were not only unnecessary but were also responsible for the reces­sion and financial crisis. 

Instead, US policymakers should adopt regulatory, credit, and monetary policies that can help stabilize the econ­omy, allowing the creation of an environment for healthy growth in living standards. Such an approach involves three components:

1. Reform zoning regulations in urban areas. This would allow for more construction of new housing, espe­cially in closed-access cities such as Boston, Los Angeles, New York City, and San Francisco, where con­strained growth is currently resulting in high housing prices. The United States could sustainably employ many more workers in home construction if restrictions on building were removed. 
2. Avoid a situation where lending regulations are most lax during booms and tightest during recessions. It was this sort of regulatory pattern that almost certainly exacerbated the severity of the Great Recession. 
3. Monetary policy should seek stable growth in nominal gross domestic product (NGDP). Rather than target­ing inflation and unemployment, policymakers should aim for a relatively stable rate of growth in NGDP, the dollar value of all goods and services produced within a nation’s borders. Attempts to use monetary policy to pop bubbles in individual asset markets such as real estate often end up destabilizing the overall economy. A stable NGDP growth rate, however, will provide an environment that is conducive to a stable labor market and a stable financial system.

------------

If you're interested, at the link there is a link with a pdf download.  We address a wide range of evidence, some of which I am certain you have not seen before.

Trends in Housing Supply

Here's a little sneak peak into some work I've been finishing up.   This graph shows the number of permits issued for single family homes and multi-unit projects (duplexes on up to high rise condos).  The measure is the number of units as a percentage of existing homes.  In other words, what is the gross percentage growth in the housing stock, due to single unit and multi unit building.  The black lines are the averages among all large metros.  The red lines are the averages among the "Closed Access" cities - New York City, Los Angeles, Boston, San Francisco, San Diego, and San Jose.

I find several interesting items to note here:

1) Of course, the Closed Access cities build single family homes at much lower rates than anywhere else.  Also, there was absolutely no supply response in the Closed Access cities in the single family market due to the subprime lending boom.  The rate of single family building was lower in 2005 than it had been in any year since 1996.  I have heard anecdotal defenses of the housing bust, claiming that even cities like LA had excess supply where single family homes were being built in the suburbs, where there wasn't really demand for them.  That idea is belied by the data.

2) However, as prices increased, there was a tremendous supply response in the Closed Access cities in multi-unit projects.  In spite of the horror stories of the local hoops one must jump through to build apartments, the Closed Access cities really are building many more apartments than they had before 2003.

3) Since 2004, in fact, the rate of multi-unit building in the Closed Access cities has matched the national average.  In the end, the regulatory obstacles create higher prices.  Potential residents push prices up until it is worth the trouble to build units.  The regulatory obstacles now are raising prices rather than pushing down new supply, relative to other cities.  This suggests that demand is inelastic.  Agglomeration effects, etc. are strong.  This is, in fact, bad news.  This suggests that the regulatory limits to multi-unit housing are more widespread than just the Closed Access cities.  As bad as the regulatory environment is in the Closed Access cities, other cities are not building multi-unit housing at a rate significantly higher than they are.

4) The deep cuts to mortgage lending since 2007 have cut into single family building in the Closed Access cities just as much as they have in other cities.  Building in the Closed Access cities has nearly recovered to pre-crisis levels, but that's all multi-unit.  In the 1970s and 1980s, it was common for multi-unit building to be double or triple what it is today.  To get anywhere close to that today would require a wholesale regulatory overhaul across the country.

Fortunately, the political center seems to be moving in that direction.  We have a long way to go.

I am finishing up a paper with much more detail on housing supply before the crisis, and another with much more detail on the influences on home prices.

A miracle homeownership boom!

According to the Census Bureau, homeownership shot up by 2.6% just this quarter!  Normally, that amount of change would take a decade or more.

Vacancies also declined sharply.

According to the estimate of total housing inventory, there were 4.8 million more homeowners in the second quarter than there were in the first quarter.  To put that in perspective, the National Association of Realtors estimates that there were a bit over a million homes sold in the second quarter.

The Census report on homeownership and vacancy includes a warning about changes in their methods of data collection due to the coronavirus.  It seems likely that a lot of renters did not respond to phone interview requests, and somewhere along the lines, the statistical methods for estimating total population went haywire, and we basically don't know anything about how homeownership and vacancies changed during the quarter.

There is a lot about the country we really don't know.  It is hard to know exactly how many people are in a real financial bind and what they are doing about it.  We are flying blind, which is why we need to err on the side of generosity in public safety net provisions right now, and do everything we can to reduce the contagion risks ASAP.

Housing: Part 364 - Rising homeownership rates

This graph from Len Kiefer at Freddie Mac shows the latest movements in homeownership rates.  The Census Bureau reported updated homeownership rates, and the trend continues to be relatively positive.

Now, you can see from the graph that homeownership rates are still very low, when accounting for age.  The best looking group in terms of recent trends is the under 35 group, which has managed to just touch the bottom end of historical norms.  That age group was largely not in the housing market when the crisis struck, so they benefit from having less damaged balance sheets.

In the other age groups, the scars from the crisis are still quite large.  Yet, even though there is a long way to go, it is nice to see movement in the right direction.

However, there is limit to this movement, and I think really what we are seeing here is the continued settlement of American households into the "new normal".  According to the New York Fed, the median FICO score of mortgage borrowers before the crisis tended to float around 715.  During the crisis it moved to as high as 780, and has generally stayed high - 770 as of the end of 2019.

Source: https://www.newyorkfed.org/microeconomics/hhdc.html

It is difficult to imagine homeownership rates increasing much further without further loosening in lending standards.

In fact, an important source of rising homeownership now is probably the work American households are doing to improve their credit.  The  Fair Isaac Corporation estimates that the average FICO score for the entire market (not just mortgage originations), has moved up from the low in 2009 of under 690 to 706.

Source: https://www.fico.com/blogs/age-beauty-credit-worthiness-youth

That sounds great.  Macroprudential regulations are pressing Americans to be more prudent.  But, there is really only so much Americans can do.  As much as anything, credit scores are a measure of how old you are.  Are you young, with student loans or a bare bones credit card?  Or are you a retired couple with the remains of a mortgage you took out in 1995, living off of a pension and an IRA?

The thing is, you know what was an important factor for that retired couple with the 830 FICO score, paying off the last few years of their mortgage?  In 1995.....they were able to get a mortgage.

The average rising FICO score and the tentatively rising homeownership rate reflect the attempts by some Americans to meet the new more strict norms for owning a home.  All else equal, maybe that is a good thing.  It seems like it must be.  But, we should keep in mind that the way we are creating this trend - really the only way to - is through policies of exclusion.  Rules and regulations that put an extra gatekeeper on the path of the household credit lifecycle.

For some number of households on the margin, the new standards are within reach, and they have made the effort to adjust.  According to Ethan Dornhelm at Fair Isaac, this group has driven the increase in FICO scores.  Many households have been intermittently locked out of credit markets.  But, analysis of households that have had continuous use of credit since 2009 shows that those households have increased their average FICO scores by 29 points.

Account-level delinquencies down double-digit percentages, substantially lower credit card utilization, lengthier credit histories, and less credit seeking activity — it is no surprise that this population has experienced a major improvement in their FICO® Score.

Those households have delayed homeownership a bit, but their balance sheets are healthier.  And, the reason that they are engaging in this adjustment is that exclusion makes returns better.  Locking a lot of households out of entry level homebuyer markets means that entry level homes are a much better deal for those who can get them.

That is one price of "macroprudence".  It creates a rift between the haves and the have nots.  Marginally better-off Americans get an even better deal as homeowners, but they have to work at it a bit harder to be "qualified".  Other Americans will be unlikely to clear that bar, and they end up paying higher rents because when homeownership becomes a better deal for families, it also becomes a better deal for landlords.  Exclusion raises their rental income.

If this is the new normal, then in the long-term, homeownership will rise a bit from here, but not back to earlier norms.  Maybe really just a few percentage points lower than they used to be.  Americans that are homeowners will live in somewhat nicer or larger homes.  Or maybe they will bid up the prices of homes in favored locations.  Americans that aren't homeowners will live in somewhat less nice units, rents will go up over time, and will take a slightly larger portion of their incomes.  This won't be noticeable.  It's not like you could visit a $600,000 home today and then go to an apartment renting for $800 a month, and then revisit similar places again in 10 years and be hit with the realization, "Huh, it really seems like the relative amenities of that apartment have declined by 20% or so compared to the amenities and the rental value of that nice home."  It will just happen, and the newspapers will just keep printing columns about how awful it is when "Wall Street is your landlord."  We will notice, vaguely, that things just seem harder for the tenant in that apartment.

There is no magical resting place where we know we have made the correct set of compromises between prudence and access.  But, one thing to keep in mind when reading those articles about greedy Wall Street landlords is that access to homeownership isn't important because of the financial speculation ownership entails.  That's as least as much a cost as an opportunity.  What is important about it is that homeowners are never in those angry articles about greedy landlords.  What is important about it is that our homes have a sacred quality about them, and when a home has a landlord and a tenant, that sanctity is split.  It has an inherent conflict that cannot be cured.

Set aside those bromides about the American Dream.  Not everyone should be or wants to be a homeowner.  In many dense urban settings, in high-rise apartment buildings, the inherent conflicts of ownership might even outweigh the inherent conflicts of tenancy.  We shouldn't thrust this choice on Americans.

In an age where some cities have political regimes that create extremely high home prices, it is easy to start to think that the important reason that the retired couple has an 830 FICO score is that they were speculators.  But, really, there are couples like that in St. Louis just as there are in San Francisco.  The couple in St. Louis may not have gotten the gains of speculation that the couple in San Francisco did, but they are likely to share a high FICO score.  The reason is that for the past 30 years, they have had the world’s best landlord, who never engaged in a sacred conflict with them, and who, furthermore, didn’t raise their rent in order to compensate for the landlord’s portion of that conflict.

As we continue along in the “new normal”, when you see articles about greedy Wall Street landlords, it is worth keeping in mind that the conflict they are engaged in isn't a product of "Wall Street".  It is an ageless conflict.  And, for households who must engage in it because, on some margin, we have decided, through public gatekeepers of credit access, that they must, their conflict was a public imposition.  We have taken something sacred from them.  Maybe, all told, for the best. But, even so, we should acknowledge our role in their travails.  We must attempt to account for these costs in the quest for public prudence.

If the major cities made it easier to build more dense housing in and near city centers over the next twenty years, then the homeownership rate might become even lower than it is now.  That would be fantastic, because it would reflect Americans engaging in voluntary tradeoffs – moving to the city because of the opportunities and lifestyle it provides, even if it comes with sacred compromises about control over personal space.  Today, public housing policy is making those voluntary trade-offs more difficult while simultaneously imposing other involuntary trade-offs.

A Missed Prediction and A Couple of Articles

First, just to make it official, my bold coronavirus prediction in the previous post went up in flames.  I had hoped that widespread lockdowns would lead to a sharper decline in new cases, but the decline has been less pronounced.

Earlier in the month, I mapped out two trajectories.  Nothing particularly scientific about them, but at the time, either trend fit the earlier data.  It appears in the last two weeks that new case growth is following the less optimistic trend.

Second, I have seen a couple of recent articles that I figured I would comment on here.  First, here is an interesting article from Salim Furth at Market Urbanism where he comes to a counterintuitive conclusion - that coronavirus infections within the NYC metro area are negatively correlated with subway usage and density.  An interesting and thought-provoking finding that I'm not entirely sure I know what to do with.

Second, here is an article at Bloomberg: "Another U.S.-Wide Housing Slump Is Coming: The coronavirus pandemic will cause many cash-strapped Americans to sell their homes, flooding the market with excess supply." It makes many predictions about a coming housing bust due to the coronavirus.  It's hard to know exactly what will happen, so I will let you decide how much you should fear their predictions.

Obviously, in general, I will take a more optimistic view than the author.  One reason comes from this snippet at the end of the article:

It’s also impossible to quantify how Americans will perceive homeownership given the hardship so many will endure. If frugality is embraced as it was after the Great Depression, homes will once again be viewed as a utility. The McMansion mentality is at risk of extinction.

The reason why the collapse in the subprime mortgage market hit the housing market so hard was because the lead up was predicated on the fact that there had never been a nationwide decline in home prices. But now for the second time in a little more than a decade, Americans are poised to witness the impossible.    

The idea that the housing bust was fueled by the idea "that there had never been a nationwide decline in home prices" is ludicrous no matter how many times it is repeated.  It's the sort of unfalsifiable assertion that has filled in the many gaps in the bubble narrative that couldn't be filled in with data.  Even Case and Shiller didn't predict a nationwide decline in home prices. And the reason they didn't is because there was no reason for one. The reason there was a nationwide decline in home prices is because we made it effectively illegal to sell mortgages to millions of households who would have been homeowners for decades before.  We wiped out demand for housing in their neighborhoods, and prices cratered.  The bad news is that was tragic.  The good news is that you can only perform amputation once.  So, there is a lot of analysis that treats a housing collapse as a natural part of an economic downturn, based on data from the financial crisis, and it just doesn't reflect a natural response of a housing market.  Practically everyone will make that mistake, which is why I think there are potential bargains among the homebuilders.  Asset markets are usually efficient, but occasionally the humans that make them are universally wrong enough to make them inefficient.

Another myth about housing is the "McMansion mentality" as contrasted with the frugal post-depression generation.  This myth can be falsified, however.  Here is a graph that is an estimate of net residential investment.  It is residential investment (excluding brokers commissions) minus the BEA's estimate of the aging of the existing stock of housing.

The period that has been deemed the "housing bubble" period was the culmination of one or two decades of the slowest pace of residential investment since the Great Depression.  Those frugal post-Depression families were building homes like crazy - at a rate not seen since.

One reason they were building like crazy is because they built so little during the Depression.  The last decade - the decade this author associates with "the McMansion mentality" matches the Great Depression in the lack of residential investment.  Homes aren't viewed as a utility.  They are a banned substance.  Would that we were about to engage in a corrective decade like those frugal post-Depression families did.  But we won't. We can't. We're tied up in knots with ungenerous and untrue myths about our fellow countrymen.  So, we will struggle to do much better than a Depression. But it will be a Depression in real growth and consumer surplus, not a Depression in rents, prices, or landlord profits.  Coronavirus might create a brief contraction in prices, but unless we escape the real Depression, it won't be permanent.

Investors, Gentrifiers, and Flippers, Oh My!

Last summer there was surge in the "Beware real estate investors!" genre.

Here is NPR, the Wall Street Journal, and the New York Times.  These are all quite similar in content and tone.  I will generally review the NYT piece here.

It starts with "This house in Atlanta was sold three times in one year, a sign of exploding investor interest in starter homes that is reshaping the nation’s housing market and driving up prices."  The house was in a neighborhood that had "fallen on hard times" and went from $85,000 to over $300,000 over the course of those transactions, which, according to the article, included extensive renovations and treatment for a termite infestation.

Here is some of the rhetoric in the article regarding this house:

A confluence of factors — rising construction costs, restrictive zoning rules and shifting consumer preferences, among others — has already led to a scarcity of affordably priced housing in many big cities. Investors, fueled by Wall Street capital, are snapping up much of what remains.

“If it weren’t bad enough out there for first-time home buyers, the additional competition from investors is increasingly pushing starter homes out of the reach of many households,” said Ralph McLaughlin, deputy chief economist at CoreLogic, a provider of real estate data.  

Mr. Makarovich, 34, arrived in 2016, part of a wave of young professionals moving into one of the last affordable parts of Atlanta.  

Ms. Ellis looks at the changes in her neighborhood — and her role in those changes — with some ambivalence. She once derided the out-of-towners moving into the area as carpetbaggers. Now, she is playing at least some role in that transformation. “I was like, what are we doing?” she said. “Are we doing the same thing, ultimately, bringing in people who are going to change the place?”  

Later, investors are described as “locusts (that) came down and bought everything up.”

idiosyncraticwhisk.com 2019
Source: Zillow Data

Here, I will just start with a graph comparing rent affordability and mortgage affordability for both the US and for Atlanta.  This is the portion of the median household income required to either buy a home with a conventional mortgage or to rent the same home.

idiosyncraticwhisk.com 2019
Source: Zillow Data

Beginning in 2007, there was a sharp divergence between rent and mortgage affordability.  The reason investors flooded the market, and are still active is because owning real estate suddenly became very profitable and that divergence has barely closed at all.  Even the recent small amount of reconvergence was mostly from rising mortgage rates, which have reversed since I produced these charts.  Starter homes are usually purchased with a significant amount of leverage.  Entry level buyers are absolutely not being priced out of the market.

If rising costs and zoning rules were the problem here, then both rent and mortgage affordability would be high, which is exactly what you see in a place like Los Angeles, where zoning restrictions and high costs are the actual reason for a lack of affordability.

Clearly, the problem in Atlanta isn't that investors are "snapping up" all the homes.  The problem is that homeowners aren't snapping them up.  As for young homeowners moving into the "last affordable parts of Atlanta", what can one say?  There are vast swathes of Atlanta where homes are available for less than $150,000.  In fact, there are several homes for less than $150,000 within a block of the house profiled in the story.  The reason the buyers didn't buy those houses was because they wanted a nicer house and they had the money to pay for it.  This is not a story about affordable housing.  The house that sold for over $300,000 sold to a relatively affluent couple expressing a preference.

Are all those sub-$150,000 neighborhoods suffering from too much residential investment and too many interlopers?  None of these reporters seem capable of imagining anything else. The article goes on to lament the struggles of another potential homebuyer who is shopping in the $300,000+ range in Atlanta.  Her real estate agent, who also represents investor buyers and who invests in properties himself, says, “If it is anybody’s fault, it’s probably mine, because I brought people in.”

A question one might ask here is, how can the same market provide good investment opportunities for the real estate broker while simultaneously being bereft of affordable units for the tenants?  These homes are affordable for the investor, but not potential home buyers?

One might also wonder why all that capital isn't funding new housing units.  The truth is, that capital is funding new units, but only for the "haves".  Sales of new homes with prices above $200,000 is back near the boom peak, but new homes under $200,000 are practically nowhere to be seen.  We suffer from a lack of affordable housing while mortgage affordability is fabulous, and yet home buyers just aren't interested in building new homes that sell for less than $200,000?

The truth is that there is great demand for affordable homes, but the families who would live in those homes have a very difficult time getting mortgages today.  Here is a graph comparing two measures.  The black line is the average FICO score of new mortgage borrowers.  After the crisis, loans to average American families dried up and the average FICO score of today's borrowers is much higher than it was before.  The orange line is a comparison of home prices in the most expensive 20% of Atlanta's zip codes compared to home prices in the least expensive 20% of zip codes.  When high end prices rise compared to low end prices, this line rises.  After lending standards were tightened, low end homes in Atlanta dropped by more than 30% compared to high end homes, even though there hadn't been much difference during the boom.

The real estate broker and investor is buying the homes whose tenants are blocked from getting mortgages.  Those homes are affordable, but unavailable to their tenants.  The brokers' clients are the types of buyers who can qualify for mortgages.  They aren't interested in living in $150,000 homes.  They are buying the homes above $200,000 that have risen in value and that have ample new supply coming on line.

There is no natural shortage of homes with affordable prices.  There is a shortage of Americans with permission to buy them.

It is the lack of lending that is creating this gentrification process.  Since lower tier homes have been underpriced, investors have incentives to buy those homes and fix them up so they are nice enough to attract high end buyers in the market that isn’t underpriced.  The way to stop this is to allow more working-class households in those neighborhoods to buy homes.  That will be associated with rising prices, until they are high enough that those investors aren’t attracted to the neighborhood anymore.  But, even with higher prices, those mortgages will be more affordable than rents are today.  Instead of bemoaning greedy landlords that jack up rents and evict working class tenants, why don’t we let those tenants solve their own problem?  Many of those tenants are capable of being their own landlords, and regulators today are preventing that from happening.

As the chart shows, low tier prices have been catching back up with high tier prices lately.  This makes it very tempting to point to low tier price increases since 2012 and react in fear that another credit-fueled bubble is on the way.  But, clearly, those rising prices are catch up growth.  It needs to happen.  It is a sign of a return to sustainability, not a return to unsustainable excess.  There should be more of it, and the demand should be coming from the tenants themselves rather than investors.

There is a shortage of homes with affordable rents because their tenants are denied other options and because the prices on those homes are too low to justify building more and increasing supply.  The investors are buying them because they are great deals, but they are only great deals if you can get funding.



Source

Rents have been on the rise, and the only way they will moderate is by increasing supply - bringing in capital.  Yet, these articles routinely paint capital as the enemy.  But the lack of capital is what is driving up rents.  Residential investment in new single family homes is well below any levels in the decades before the financial crisis.  The affordability problem certainly isn't due to too much investment.

Every home has to be owned by someone. If, as a matter of public policy, it can't be the tenant, then it's going to be an investor.  Presumably, New York could only have become such a great city because it was a place that welcomed change, that welcomed newcomers, and that welcomed the capital needed to house them.  How else could it become a metropolitan center with 20 million people?  Those days are in the past.  An early step in that trend was the implementation of zoning laws that led to the condemnation of tenements that housed the newcomers.  Today, these articles suggest that one is expected to apologize for fixing dilapidated units or for becoming a new resident in a long-growing city.  This is not a frame of mind that will help maintain affordability in Atlanta or regain it in New York.  A primary challenge for the twenty-first century economy is that many of our legacy economic centers now fail to perform the most basic function of an urban center – to attract and house people.  We can’t let New York spread that pathology to cities like Atlanta.