My comment to HUD on affordable housing.

Today, the Mercatus Center posted my response to HUD's request for public comments on how to achieve more affordable housing.  Here is the closing paragraph:

There are certainly many areas where regulatory barriers to building need to be eliminated in order to keep housing affordable throughout the United States. That should certainly be the priority of government at all levels. Yet today there are many areas in this country where those barriers aren’t the binding constraint that is blocking supply and pushing up rents. Those cities do lack adequate supply today, but it is because they lack suppliers. They lack potential home buyers. Potential home buyers frequently need mortgages. The most direct and immediate boost to housing supply that HUD could create today would be to increase suppliers, to broaden the availability of mortgages to households that have been locked out in one way or another from today’s market. Trends in prices, building, and borrowing suggest that many of those potential buyers would buy more affordable and more modest homes than the homes that are bought by buyers who can qualify today. The most important task for HUD today is to figure out what is preventing the construction of homes that would sell for less than $200,000. The answer to that puzzle is surely a bit counterintuitive, because it is clear that more broad-based lending and more residential investment will be required for that to happen. The families that would use that funding, for the most part, aren’t living under a bridge or in a car today. They are stacked into the existing housing stock, where they frequently spend much more on rent than they would need to spend on a mortgage to buy that very same house. Spending less on rent must begin with spending more on residential investment.

Here is the comment on the same question from my Mercatus colleagues, Salim Furth and Emily Hamilton.

CFPB: Get rid of the "Ability to Repay" Rule

During the financial crisis, many new rules and mandates were put in place to make it more difficult for lenders to issue mortgages.  This was based on the false notion that the housing bubble happened - that houses doubled in price or more in several regions - because marginal households were pressed into expensive mortgages they couldn't afford.

Those rules have made it very difficult for many qualified borrowers to buy affordable homes.  The effect has been to make homes less affordable, not more, while also damaging working class balance sheets.

Here are a couple of excerpts from my comment to the CFPB:

But after the passage of Dodd-Frank, low-tier prices in many metropolitan areas dropped by 10 percent or more, compared to high-tier prices. The metropolitan areas that had the least negative price shock after Dodd-Frank were the very expensive cities. The negative shock that followed Dodd-Frank hit the hardest in the cities where there hadn’t been a positive shock during the bubble. The cities that fed the premise that led to the passage of Dodd-Frank were the cities where prices were least affected by it (see figure A6).

Housing markets in the expensive cities have not changed much from the precrisis boom. Homes are still expensive because rents are high, and rents are high because of limited building. In all other cities, there has been a systematic change in housing markets since the crisis. Rent affordability has become worse but mortgage affordability has become better.
The demand shock created by limits to new lending has compressed price-to-rent ratios, pushing prices below replacement cost. So rents are rising, mortgage affordability in most cities is better than at any precrisis point of comparison, and supplies are stagnant because prices are too low to induce new building, especially in the most affordable markets where credit constraints are the most binding and affordability is most important. According to data from Zillow.com, the rent on the median American home claims about 28 percent of the median household’s income. In the period since the crisis, rent has generally claimed a larger portion of household income than it had at any time for decades before the crisis. But a conventional mortgage on that same home would only claim about 16 percent of the median household’s income. In contrast to rent affordability, mortgage affordability since the crisis has been better than at any time for decades before the crisis. And these shifts are most extreme in the most affordable cities. The less expensive housing is, the better a mortgage payment stacks up against the rent payment on a typical house. This is not the time to add regulatory obstacles to potential new homeowners.

Here is figure A6 and notes:

FIGURE A6. THE DIFFERENCE BETWEEN 1ST-QUINTILE PRICE APPRECIATION AND 5TH-QUINTILE PRICE APPRECIATION, DECEMBER 2000 TO THE DATES SHOWN IN EACH COLUMN

Note: This heatmap uses the median home value at the ZIP-code level, estimated by Zillow. First, metropolitan areas were sorted into five quintiles according to metropolitan area home prices at the peak of the housing boom in 2006. Quintile 1 contains the least expensive metropolitan areas and quintile 5 contains the most expensive metropolitan areas. Next, within each metropolitan area, ZIP codes were sorted by median home price into five quintiles. And price appreciation of the lower quintiles from December 2000 to the later dates shown was compared to the price appreciation of the higher quintiles. For instance, from December 2000 to August 2007, in the least expensive metro areas (quintile 1), the least expensive ZIP codes saw an average price appreciation of 37 percent while the most expensive ZIP codes saw an average price appreciation of about 33 percent. Low-priced homes appreciated, on average, by 3.3 percent more than high-priced homes, as shown in the figure. From December 2000 to December 2013, the least expensive ZIP codes in the least expensive metro areas saw an average price appreciation of about 28 percent, compared to 36 percent for the highest-priced homes in those metro areas. So low-priced homes appreciated, on average, 6.1 percent less than high-priced homes, as shown in the figure. The figure highlights two key issues: First, the unusual and extreme rise in low-tier homes within metropolitan areas was largely confined to the most expensive cities, which allow very little building. By the time Dodd-Frank passed in July 2010, that phenomenon had reversed, and so from December 2000 to June 2010, among all types of cities, there was remarkably little variation in home price appreciation between high-tier and low-tier markets. After Dodd-Frank, low-tier prices in the expensive cities, which had previously seen extreme price appreciation during the boom, were not greatly affected. But low-tier prices in the more affordable cities, which never had extreme price appreciation, were pushed down more than 10 percent. Source: Zillow, “Economic Data,” accessed August 29, 2019, https://www.zillow.com/research/data/. The particular data series used was the median home price by ZIP code for all homes (ZIP_ZHVI_AllHomes).

 

California wants more monopsony in the labor market.

The case of AB5 in California is an interesting clarifying case regarding the motivations and goals of labor regulation.  AB5 redefines the distinction between contractors and employees and is mostly an attempt to force Uber and Lyft to treat their drivers as employees rather than contractors.  This will entitle them to benefits, workplace protections, and the minimum wage.  My experience with these firms is that the contractor status is a key component of the benefits of their model, and that in most markets, changing to an employee-based model will make it difficult for them to continue.

Normally, one argument in favor of higher minimum wages is that firms have monopsony power over unskilled laborers, so they hire fewer workers and pay them less than if the market were more purely competitive.  Thus, raising the minimum wage does not lead to much unemployment.  Firms can afford to pay more.  The minimum wage just transfers some of the monopsonist gains back to the workers.

But, the interesting thing about this particular market is that you would be hard-pressed to find a market that was a closer approximation of pure competition.  On the customer side, Uber & Lyft are basically commodities.  Riders can check on both services, and will generally go with the one that has the shortest wait at the lowest price.  Many drivers drive for both, so there is little the firms can do to differentiate their service.

On the driver side, the firms must pay enough to entice drivers to be available.  In fact, Uber and Lyft pay more than the market clearing price for drivers that have riders in their cars because in order to win more passengers, they need to pay enough to induce drivers to be available, which in this industry, inevitably means idle time.

In fact, Uber & Lyft have very little control over what their drivers earn.  Since this is a competitive industry with free entry and exit, and since the firms must accept as many drivers as they can, within reason, so that they can offer customers a shorter wait time than the other firm does, drivers determine their earnings by entering or exiting the market.  If Uber & Lyft pay more than is necessary, more drivers will enter the market, and they will spend more idle time without riders in their cars.  This will happen even within the existing pool of drivers. If Uber decides to raise the payment they make to drivers in a market, that will induce more drivers to Uber and away from Lyft.  If you ask drivers what happens in markets where one of the firms changes their pay rates, you will find that the total weekly earnings don't change much.  If Uber raised their pay rates, then a driver who drives for both will find that they get more rides from Lyft because drivers will have substituted between the two firms until the net total pay (idle time plus paid time) roughly evens out.

This is a classic case of queuing.  And you can see the queue adjusting in real time to changes on the ground.  In fact, that is the beauty of the contractor model.  There are hundreds or thousands of drivers in a city, and drivers are constantly adjusting between Lyft and Uber, between times of day or location.  Each driver is in a constant chess match to find the most lucrative way of driving that matches their needs and constraints, and the key variable at the center of those tactics is minimizing idle time.  Each driver is increasing or decreasing their willingness to queue depending on the opportunities available to them as drivers or outside the rideshare industry.

Compare this to the minimum wage debate.  Effectively what minimum wage opponents argue is that those markets are generally competitive, so that a high minimum wage will increase unemployment.  Unemployment is a queue.  The minimum wage is set above the market clearing rate, so workers queue to supply the limited demand for employment.

In the minimum wage debate, monopsony is treated as a preexisting condition which the minimum wage is meant to cure.  Here, there clearly is no monopsony.  In fact, these firms are so lacking in market power that even the proponents of AB5 sometimes express doubt that their business model is sustainable. In reality, AB5 is meant to create monopsony.  But, queuing is already a natural part of this model.  So, what AB5 would do is make Uber & Lyft gatekeepers reducing the quantity of labor supplied in the market.  Since drivers would be employees, and the firms would be responsible for their total earnings from both idle and active time, the firms would have an incentive to minimize idle time.  They would have an incentive to limit the number of drivers.

This would not necessarily change the total amount of queuing time.  It would simply segregate it so that the riders who are now chosen by the gatekeepers to be employed would have less idle time, and the riders who are not chosen would be in the queue known as unemployment.

I think this would be tragic.  The beauty of the contractor model is that workers who have been turned away by the gatekeepers in other industries that have employee models can enter this business without dealing with gatekeepers.

One aspect of this industry that would be interesting to study is that there is a great amount of variation in driver earnings.  Even this MIT study which found low earnings levels on average (which I think have been revised up) shows a tremendous range in driver earnings.

What's interesting is that this is a completely open marketplace.  There is little that drivers can do to keep other drivers from horning in on their driving strategy.  There are few barriers to entry.  (Even the car isn't much of a barrier.  There are companies that partner with Uber and Lyft that will rent you a car for less than $5/day.)

What you find if you ask drivers about their work is that there is a tremendous amount of variety among drivers regarding what they need from their work and what strategies they use to get what they need.  In the minimum wage debate, opponents often point out that employers will make non-wage adjustments to counter regulated wage gains - less flexibility, fewer benefits, etc.  What we can see here is that the drivers themselves, in the unregulated rideshare market are actively engaged in some massive rebalancing between pecuniary and non-pecuniary benefits.  The variance in earnings might be partly explained by skill, or location.  I'm sure in Phoenix it's easier for a driver that lives in old-town Scottsdale to roll out of bed and turn the apps on and get rides immediately than it is for one on the far west side who might need to drive downtown to get to a busy area.  But, surely those factors can't explain that much variation.  Drivers are making choices about when they want to work, what types of riders they want to pick up, etc.  The 2am bar scene is a sure-fire earnings winner, but many drivers happily sit it out.

So, from a public policy point of view, those who would regulate this market aren't trying to fix a market failure.  There is no market failure.  AB5 creates monopsony power by imposing a wage floor and a regulatory framework in this market, with the hope that the economic rents will be claimed by the drivers.

This is telling.  I think it's a bit of a misunderstanding to think that Progressive, egalitarian political policies are intended to make up for economic rents claimed in imperfect markets.  Egalitarian policies require economic rents.  You can't divvy up the spoils in your preferred way if you don't have spoils.

In this particular case, engineering corporate power and then trying to transfer the gains to the workers will be a huge loss.  First, I just don't think the business model can work that way.  There are countless ways that drivers now manage their queuing in a way that is productive which simply couldn't be managed centrally, including being simultaneously available for both Uber & Lyft. But, furthermore, this is basically a classic labor market.  This is not much different than, say commission sales work.  In the same way, sales jobs frequently have highly variable earnings distribution that comes from hard-to-quantify skills.  Many workers try out sales, fail miserably, and then quit.  So, there are some real winners, but also high turnover, and many workers that just don't do sales well and don't make much money doing it.  This market isn't much different than that.  If there are some drivers who are only making $5/hour, then they shouldn't drive.  Or, maybe they are retired and they just like to have an excuse to get out of the house and meet people.  Creating a market that drives this vast sea of diversity out and turns it into a cookie cutter job where you go where you're told, everyone makes a similar, lowish wage, with much less flexibility for the drivers will mean that a lot of drivers will lose things they value.  And, many of the drivers that are making $20/hour or more will either make a lot less or will be driven out of the market altogether because being contractors is a key element to their driving strategy.

And, this will likely fail at its own goals.  The loss of productivity and the loss of a potential chance to earn income without gatekeepers making the hire/no hire decision will leave a lot of drivers out.  In the current competitive rideshare market, it is other opportunities that determine what drivers earn.  If similar work can get you $12/hour in other jobs, and a driver in that city can earn $13, then that worker, on the margin, will drive, adding to the queue time for all drivers as more drivers must divvy up the same number of rides, until similar drivers are only making $12 after factoring in idle time.  Regulatory impositions like this do nothing to improve those other opportunities.

The rhetoric on this issue tends to be anti-corporate, as if this regulation will force the firms to treat their workers better.  But, the firms are powerless to significantly increase the pay to their drivers.  The regulation requires a playing field that engineers more corporate power.  The idea is to use that corporate power to lessen wage inequality.  It will only lessen wage inequality within the rideshare industry, and it will do so at the expense of some of the better paid drivers and at the expense of potential drivers who will now not get hired.  And it will lower the value added from the rideshare industry.

AB5 is crony capitalism.  It has to be.  It can't do what it purports to do without creating a framework that gives the firms power to limit access to the market.  As I mentioned in the previous post, this might be a generalized point.  Maybe more powerful firms are correlated with less variance in wages.  The egalitarian project requires powerful firms so they can be directed by the state to distribute the gains from that power.  But, trying to engineer that outcome with policies like AB5 is fraught with potential downsides.  I haven't seen evidence that AB5 proponents have attempted to fully understand those downsides.  It would probably be impossible to fully understand the potential downsides.  In the end, driver incomes are determined by the available alternatives.  This applies generally to all workers, really.  It is unlikely that the fates of workers in general will improve by imposing regulations meant to take available alternatives away.

The fact that the rideshare industry is such a decent approximation of textbook competitive markets makes it a great example for understanding which complaints about our present economy are complaints about information being conveyed by functional markets about the state of the world and which complaints are about market failures.  To my eye, there is a lot of confusion on this distinction.

Maybe corporations don't have enough power.

I think I have expressed skepticism previously that corporate or monopsonist power can explain the apparent growth in income inequality.  First, a careful look at changing income proportions shows that a decent portion of the drag on real incomes is due to housing expenses. Relatively little is due to rising corporate or interest income. Most of the relative difference between high and low incomes is more variance between different laborers or between wage earners and professionals who are frequently proprietors.  In fact, if corporate income or power was rising, monopsony power in labor markets should lead to less variance in wages.  High wages come from skill development and specialization. Frequently these are tied to specific institutional contexts. Specialization would make high earners more vulnerable to being captured by a few or one corporate buyer of their labor.

In a context of monopsony power, wages at the top of the spectrum would be held lower. Corporations wouldn't then voluntarily distribute them to workers with lower wages. But if firms lacked monopoly power, they wouldn't be able to retain the gains from that. The gains would be captured as consumer surplus by the firms' customers. In order to be competitive in the market for their goods and services, firms would have to assert their monopsonist power just to remain competitive by transferring those gains to the consumer.

Here, I am reminded of the conventional wisdom that asserts that mid 20th century corporations were more loyal to their workers and that a corporate job was more of a lifetime gig because corporations took care of their workers.  That doesn't really match very well with income data which doesn't show much variation in corporate operating income as a portion of total domestic income over long periods of time. But it does match with a context where more skilled workers were captured by powerful firms and less skilled workers benefit indirectly as consumers.  Maybe labor incomes had less variance because firms back then were more powerful.

Sometimes an IPO comes up for a company that markets itself as a tech startup, and people joke that it's just a dog food distributor with an app attached to it, or something.  But, maybe we have that backwards.  Maybe every company today is a tech start up.  Maybe, what pushed your wages up in the past was, say, being a machinist in a specific sector, where a few firms were interested in your skills.  But, today, a key path to higher wages is a job with a title like "systems administrator" or "data manager", and your skills are applicable in some way to 80% of the economy.

I suspect that generally there is too much focus on corporate power. Rather than debate whether they have too much or too little, I think attention is better focused on other structural issues. Rising costs of housing, education, health care, and public infrastructure, together with barriers to migration, are more important factors holding down real incomes below their potential. A problem with the corporate power issue may be that the argument about its effect have the sign of the factor wrong.  In the financial crisis, I think the focus on enforcing losses rather than maintaining broader stability presents a similar example where determined policy programs that have the sign wrong (more housing was needed in 2005, not less, for instance) are much, much worse than benevolent indifference.

There is an intersection between these issues. Because of the housing shortage, there is a lack of market access and mobility. Y combinator must be located in Silicon Valley. Being in Silicon Valley is essentially a 40% tax on business development.  The lack of access to that location simultaneously makes certain actors wealthier while reducing overall creative destruction.

The way to progress is to have more y combinators. Adding to the already high costs and barriers with new taxes and mandates hardly seems like a helpful response.

What if the problem is that corporate power is too low? Then lowering their power will worsen inequality even more. Things like codetermination might create even more obstacles to mobility and migration. Maybe the internal politics would serve to further increase the bargaining power of specialized high wage workers.

But, most importantly, over long stretches of time, labor and capital income grow at nearly a 1:1 correlation.  In so many ways our relationships are symbiotic more than they are in conflict. Maybe the focus on relative power is itself a problem. When the economy is growing, the rate of quits increases, and as the Atlanta Fed shows, wages for job switchers increase faster in a growing economy than the wages of other workers. It isn't the relative status of workers compared to employers that is the engine of that shift, it is the relative status of new, more productive firms over old, less productive firms. Surely the way to shared prosperity lies there.  An economy where a restaurant owner is bringing in customers like crazy, but she can't serve them because the potential waiters have found more productive things to do.  That seems like a problem to the restaurant owner.  The response shouldn't be to force them to pay waiters more.  The response should be indifference, which means the restaurant still feels pinched while some other firm somewhere produces high wage opportunities for workers because a growing economy is imbuing those firms with power.

Coming to terms with discretion

The development of such a strong canon regarding what caused the housing bubble and what we should expect the economy to do during the recession has led to a subtle issue regarding causes and consequences.

The strength of the canon - that excessive lending and speculating had to be beaten down - and the passion for approaching it, meant that the entire episode has an air of inevitability, even where it was completely discretionary.

I mean, really, take any version of what happened in 2008.  It will have the pretense of inevitability.  Ask, "What caused the financial crisis?" and the answer will contain an implicit transitory property so that the answer will actually be the answer to "What caused the housing bubble?"  The FCIC report is basically entirely built on this premise.

Basically, a=c (things that might have caused a housing bubble = a crisis happened) was so universally accepted, that nobody has paid much attention to the second part of a=b and b=c (things that might have caused a bubble = did cause a bubble) and (the development of a bubble = a crisis).  Of course, much of my work debunks a=b.  This naturally means b=c is essentially a meaningless relationship.  A bubble that never really was could hardly be said to have caused anything.

Now, as far as a=b goes, there are library shelves full of claims about that connection.  Even though one might disagree with them, at least they exist.  But b=c was essentially presumed.  Yet, it wasn't inevitable at all.  In fact, once one is led to doubt whether a=b, one realizes that regardless of whether credit, speculation, etc. caused a bubble, the question of whether a collapse is inevitable isn't settled at all.  The collapse was completely under our discretion, and it was simply the universal agreement about that discretion that made it seem inevitable.  Like an abusive parent hitting a child and exclaiming, "Well, he broke the rules.  What would you have me do?"  The answer to that question was obviously to accept the abuse 100 or 200 years ago, simply because its acceptance was canonized.  It isn't acceptable today.

Simply questioning the premise reveals the dissonance.  The reason the crisis happened wasn't because there was nothing we could do about it.  The reason it happened was that, going as far back as 2006, or arguably even earlier, turning points just kept piling up where policymakers chose contraction, panic, decline, and collapse because to do otherwise would be coddling risk takers, bailing out wrong-doers, letting those who did this to us off the hook.  I don't even think I need to establish the point.  The public record is so saturated with that idea that it is undeniable.  It covers practically every page of every review of the period, every criticism of the Fed and the Treasury.  It's the story we have told ourselves about what happened.

Anyway, I am treading again over this territory, because I came across this graph today (here).

And, it really drives home the damage that those discretionary decisions did.  The places that are hurt much, much worse by cyclical dislocations are the places that are struggling already.  Successful places bounce back.  If not for the recession, "distressed Americana" in this graph would at least still be treading water.  Instead, there is a gash in its flesh in 2009 that isn't going to heal.  And, rest assured, the parts of the country that suffered that gash were not in the throes of a speculative frenzy.  They certainly didn't need to be taken down a notch so that those reckless people that did this to us had to be punished.

If you are concerned about the bifurcation of economic growth in this country, then there is a big giant elephant in the room regarding that issue.  We walked that elephant into the room, and it took a big, elephant-sized crap on the places that really needed stability.

Even if you think there was an unsustainable bubble and excesses had to be painfully purged from the system, consequences be damned:  THIS is the consequence.  Oh, by the way, it didn't need to be done.  a<>b .  But, even if we save that debate for another day, the imposed "discipline" that so universally was hoisted on the economy to knock it down to size had downsides that should be faced honestly.  a<>b, but even if a=b, there are a lot of questions we should have asked about, really, how committed we should have been to b=c.

Housing Affordability, Part 14

Here is my latest post at Mercatus: "Because of Housing, All Taxes on Capital Tend to Be Regressive".  Here is the conclusion.  Go to the link for the details.

 (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.

Part 12 of my Housing Affordability series at Mercatus

Are Property Taxes Regressive?

The conclusion:

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.

Part 11 of my housing affordability series at Mercatus

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."

With a universal expected market return, lower property taxes and just a small expectation of persistently rising rents can lead to much higher housing prices.  That's the first order effect.  But, as a second order effect, the value of homes as assets that are speculative claims on local political cartels, might mean that lower property taxes will be associated with higher rents.  It seems that higher property taxes might lead to lower quantity demanded, but also lower supply, with a net effect of less housing at higher cost, with cartel real estate owners pocketing the profits.  The political implications of that might change when the oligopolists would otherwise have been middle class pensioner grandparents, but the economic implications don't.

Part 10 of my Housing Affordability series at Mercatus

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."

The series will continue each Monday with discussion of the effect of various regulations and taxes on housing costs.

Housing: Part 353 - The Seemingly Strange Case of Nashville

There are two core constructed details that have formed a basis for much of my analysis about the 21st century housing market and the financial crisis.

• Price/rent ratios tend to rise as rents rise, but at some point in each metropolitan market they reach a ceiling.  This means that (1) excessive price appreciation in low tier homes during the housing boom in cities like LA and NYC was mostly a product of rising rents. and (2) The core error of the FCIC and most analysis of the crisis was missing this fact and blaming rising prices on aggressive credit markets instead.
• In most cities, rents were moderate enough that there was not an unusual rise in low tier home prices from this effect, but after the boom, when credit was greatly tightened, low tier prices were decimated, frequently falling more than 20% compared to high tier prices.

This first graph basically tells that story (PS: Many thanks to Zillow.com for making so much price and rent data public):

idiosyncraticwhisk.com 2019
Data from Zillow

LA is highly unusual, both for having such high price appreciation and for having such a divergence between the high and low end during the boom.  These are related.  They both come from the extreme shortage of supply relative to demand for housing in LA.

Seattle is more expensive than Atlanta because incomes are higher there and supply of housing is more constrained, though much better than LA.  So, you see a bit of difference between Seattle and Atlanta during the boom, but little difference between the top and low tier of each city.

Then, during the bust, bottom tier home prices in both Seattle and Atlanta collapse, to the point where low tier prices in Seattle had total appreciation that was no more than high tier appreciation in Atlanta.

idiosyncraticwhisk.com 2019
Data from Zillow

I recently had occasion to look up data in Tennessee.  I have gotten so used to seeing this pattern that running the numbers has become rote.  Almost every city looks something like Seattle and Atlanta.  So, I was quite surprised when Nashville looked like this:

Nashville looks like Atlanta before the crisis and Seattle after the crisis, and it doesn't have the lagging low tier price appreciation of either of those cities.  In fact, it is high tier prices that have been lower in recent years.

What gives?

It turns out that in recent years, Nashville has been on fire, economically.  Population growth, in-migration, rising incomes.  Things are going really well there.  Things are going so well that housing supply pressures are making it look more like a Closed Access city.  Well, it's more the case that there are two Nashvilles.  The top half of the housing market operates like an open access city before the crisis.  The bottom half of the housing market operates like a closed access city because new tighter lending standards are preventing owner-occupiers from buying homes in those sub-markets.  This has compressed price/rent ratios so that yields are high enough to induce buying by landlords.  This can happen through lower prices or by rising rents.  In practice, it can be a little bit of both.  In Nashville, it appears that economic success has led especially to rising rents, because pressure for residency in Nashville is pushing up demand for Nashville housing.  At the top end, this leads to more supply.  But, that demand pressure also appears to be seeping into the low tier, where it can only push up rents, because buying pressure is limited mostly to landlords and they are still mostly just buying up the existing stock, apparently at price points that still can't induce much new supply.

Here is a Fred chart of housing permits in Nashville.  The red line is single family homes and the blue line is multi-unit homes.  Both are very healthy.  Pre-crisis Nashville had strong rates of new home building.  It may be unique among cities where building was well above the national average before the crisis and has recovered to those pre-crisis levels.  You just don't see this in other cities.

I presume that eventually, rents will rise high enough to trigger even more building at the low end, putting a stop to excessive rent inflation.  But, it hasn't happened yet.  Though, multi-unit starts are very strong.  To the extent that investors will build new stock, it will tend to be multi-unit.

idiosyncraticwhisk.com 2019
Data from Zillow

Here is a graph of median rent and mortgage affordability in Nashville and in the US over time.  (Again, all hail Zillow.)  The national story here is that rent affordability has been high (though it has moderated recently) but that mortgage affordability has never been better.  There has never been more reason to loosen lending standards.  This is basically why the low tier of most cities is lagging in price and supply with rising rents, because we have financial gatekeepers preventing potential low-tier buyers from closing this financial arbitrage gap.  Price is not the moderating factor keeping mortgage expenses so low.

But, note what the Nashville story is here.  It has traditionally been an exceptionally affordable city, in terms of rent.  But during the housing boom and after, that gap has closed, and Nashville isn't particularly affordable any more.

idiosyncraticwhisk.com 2019
Data from Zillow

Because of these high-tier vs. low-tier supply issues, this affordability problem is especially pronounced in low-tier Nashville neighborhoods.  Zillow only has rent data from 2010, but here is a graph comparing aggregate median rent levels in each zip code in Nashville from 2011 to 2019.  The x-axis measures the starting median rent and the y-axis measures how much rent has increased in that zip code since then.

More affordable areas have experienced rising rents much higher than more expensive areas.  So, the median rent affordability measure above really splits a divide between top-tier areas where rent affordability has remained low and low-tier areas where it has moved up more.  In Nashville, this has been strong enough factor to swamp the compression of price/rent ratios.



idiosyncraticwhisk.com 2019
Data from Zillow

And, this brings us back to the bullet points at the beginning.  The counterintuitive issue at the core of the question of rising home prices is that rising rents cause price/rent ratios to rise.  Here is a comparison of rents and price/rent ratios in zip codes in Nashville in 2011 (blue) and in 2019 (red).  As we can see, the typical pattern holds.  Price/rent ratios rise as rents rise, up to a point, where they level out.  At the top end of the market in Nashville, price/rent ratios have increased since the market bottomed, and top end price/rent ratios now average around 17x or so, up from around 14x in 2011.

One would think that price/rent ratios at the bottom end would have to have expanded at least that much, because prices have appreciated at least as much at the bottom.  I have added linear trendlines here, reflecting the portions of Nashville that are not at the peak price/rent level.  As you can see, that relationship hasn't changed much since 2011.  A typical unit renting for $1,200 has a price/rent ratio that is right at the same level it would have been in 2011.  But, rising rents have pushed all housing units up this price/rent ratio incline.  This is basically the same effect that was happening in places like LA before the financial crisis.

The long and short of it is that there are zip codes in Nashville where rents might have been $1,000 per month and looser lending may have pushed price/rent ratios up from 10x to 12x.  The trend line in this graph would have moved up.  Instead, because of tight lending, rents in those zip codes are more like $1,200 with price/rent ratios around 12x.  The trendline hasn't moved at all, yet this doesn't make housing more affordable.  This is one of many reasons why the focus on affordability should be on rent, not price.  Rent is the coherent source of information for that question.

I have concluded that the relative rise in low-tier prices in cities like LA during the bubble was unrelated to loose lending markets.  That is a tough argument to make, because it coincided with loose lending markets, and it just seems to make sense that loose lending would create new buyer demand that might push prices up.  But, here, in Nashville, we can see the same effect, and here, the effect coincides with tight lending.  In both cases, however, rising rents and rising price/rents coincide with limited supply.

Tight lending standards have created the same context in the rest of the country that supply constraints in Closed Access cities had created before the crisis.  Any positive economic developments will create a side effect of pushing up the cost of living for families with the lowest incomes.  Eventually, I presume, Nashville will hit a rent level that pushes prices high enough to induce enough investor building to level off rent inflation.  There will be a new normal, where the level of rents will be higher for low-tier tenants relative to where they used to be, but once we hit that level, the rate of change in rents should level out.

There is no rule here that points us to the correct place.  Maybe access to mortgages should be tightly regulated and housing should be more expensive than it used to be for low-tier tenants.  An advantage of that market norm would be lower rates of mortgage defaults, etc.  It would be a safer equilibrium with less volatility and less punctuated distress.  But, the cost of that safety comes at the expense of low-tier tenants.  They replace less punctuated distress with more chronic distress.  And, if prices are going to be depressed by limiting access to capital, then that means, mathematically, that we are enforcing a system of inflated returns to those who happen to have capital.  Again, maybe that's ok.  We just need to be honest about the implications of these lending norms.

If this is the new normal, then most cities have a few decades to look forward to that look like Nashville today.  Economic success will mostly simply mean rising cost of living for households with lower incomes.  This will be blamed on all sorts of supposed problems with laissez-faire markets, but most of it lays at the feet of a national consensus that has supported an extreme regime shift meant to make real estate markets less volatile.  Supporting an economic structure that benefits all Americans will require coming to terms with the pros and cons of that consensus.


Follow up.

The popularity of the nationalistic rhetoric of Trump, Warren, and Sanders is a failure of economics

Elizabeth Warren posted "A Plan for Economic Patriotism" this week.  It begins like this:

I come from a patriotic family. All three of my brothers joined the military. And I’m deeply grateful for the opportunities America has given me. But the giant “American” corporations who control our economy don’t seem to feel the same way. They certainly don’t act like it.

Sure, these companies wave the flag — but they have no loyalty or allegiance to America. Levi’s is an iconic American brand, but the company operates only 2% of its factories here. Dixon Ticonderoga — maker of the famous №2 pencil — has “moved almost all of its pencil production to Mexico and China.” And General Electric recently shut down an industrial engine factory in Wisconsin and shipped the jobs to Canada. The list goes on and on.

These “American” companies show only one real loyalty: to the short-term interests of their shareholders, a third of whom are foreign investors.

As with her other proposals, there is a mixture of good and bad, and a lot of details.  Maybe the rhetoric isn't that important, in the end, to the actual policies.  But, the rhetoric here is chilling.  The history of public movements calling out groups for their supposed divided loyalties is a long and disgraceful one.  Considering the starkness of the rhetoric, and the parallels between Trump, Warren, and Sanders regarding their use of the form, it is interesting to consider how, for all of us, our reactions to each of them differ so much.  The bridge between Warren and Trump voters seems to be increasingly noted.  It seems plausible that this new press release is part of a plan by Warren to build on that.

But, I want to step back from that for now, and just consider the practical issues raised in Warren's statement.  Economics, at the least, should serve as an inoculation against this sort of rhetoric, and in this, it seems it has failed.

Consider the global economy as it might be, full of functional, productive societies with wealthy residents.  In that world, the places we currently consider developed might produce 20% of global goods and services.  Instead, today we produce something more like 70%.  At some previous point, it was more like 80%, and developing economies have been catching up.

That process of catching up is fabulous.  It is all to the good.  The only sustainable way of becoming a developed prosperous place that we know if is to move toward a system of a universally applied rule of law, human rights protections, personal freedom, and self-determination.  With that foundation, people engage in the process of specialization and trade that is the source of economic abundance.

This is the key - specialization and trade.  So, imagining this fabulous development - the whole world becoming civilized, humane, and wealthy until our part of it only produces 20% of that abundance - exactly how does one expect that shift to happen?  As the developing world moves from 20% to 30% of global production, they will necessarily specialize in some additional portion of world production.  It might be apparel or pencils.  It might be something else.  But it will be something. And much of it will be items that used to be produced in the developed economies.

The idea that the Dixon Ticonderoga company has much of a say in this is obtuse.  And, furthermore, the idea that their acquiescence to this global transformation is the result of "the short-term interests of their shareholders" is ludicrous.  There is nothing short term about this.

The reason that this rhetoric doesn't destroy Warren's public credibility is because of the failure of economics education.  The reason this can be construed as a short-sighted decision is that it is almost universally seen as a way to take advantage of the low wages of developing economy workers.  As if this is just a heartless example of exploitation rather than a reaction to epochal shifts in global productivity.

I propose a simple statement as a starting point for remedying this problem: "Production doesn't move to where wages are low.  It moves to where wages are rising."

That is the story of economic development.  This doesn't mean there aren't growing pains that sometimes hit some workers the hardest.  But, it does mean that in the end, all of those gains, on net, go to workers.  Returns to global at-risk capital are about 8% plus inflation.  They were 8% a century ago, they average about 8% today, and they will likely be 8% or less a century from now, if the world continues to grow with a capitalist framework.  But, workers today earn ten times or more what they did a century ago, and in another century - especially in places that are catching up - they will earn at least ten times what they earn today.

It really is ironic that Warren uses the Dixon Ticonderoga company as an example here.  Leonard Read, the founder of the Foundation for Economic Education was perhaps most famous for writing the essay, "I, pencil".  An excerpt:

I, Pencil, am a complex combination of miracles: a tree, zinc, copper, graphite, and so on. But to these miracles which manifest themselves in Nature an even more extraordinary miracle has been added: the configuration of creative human energies—millions of tiny know-hows configurating naturally and spontaneously in response to human necessity and desire and in the absence of any human masterminding! Since only God can make a tree, I insist that only God could make me. Man can no more direct these millions of know-hows to bring me into being than he can put molecules together to create a tree.

An interesting aspect of that essay is that it contains several practical references to geographical locations of production, many of which I am sure have become dated as global production and specialization have evolved.  The essay is at once a timeless conceptual reminder of the profoundness of the invisible hand and a record of the fleeting nature of its operation.

I found this with a quick google search, which is a nice educational aid used in some New York state elementary school classrooms.  The education is being done.  But, the continued popularity of its absence is a call for ever more.  Godspeed, New York elementary teachers.

(PS; Karl Smith weighs in here with some interesting supporting details about the history of Dixon Ticonderoga.  He also discusses currency manipulation, but I think that is an overstated factor in the American trade deficit.)

Brigham Burton and Carly Burton have been arrested.

I used to have a little signage subcontracting business which I sold in 2010.  I sold it to a fellow named Brigham Burton (formerly Kent Burton.  He also has used many LLCs, such as Burton Partners, Rockline Equity, Greenwood Equity, Funding Now, Drive Executives, Eleava Services, and others).

I had to sue him in civil court in order to get fully paid for the business.  The judgments I was granted against him included fraud and conversion.  He appealed the rulings, and the appeals court upheld them, including the punitive damages that were assessed.  The appeals court confirmed that "based on the record in this case, the jury could have found by clear and convincing evidence that Burton’s conduct was aggravated and outrageous, evincing an evil mind. Therefore, we decline to set aside the punitive damages awards."

The criminal justice system has taken notice of the Burtons now.  They were just arrested.  I'm not entirely sure of the details, but I think some of these charges relate to what they did to me.  Really, all I know is that the state has me registered as a victim who is notified when something happens in the case, like the Burtons being arrested.

Here are their mugshots.

Update: 

Progress means giving up what is sacred today for sacred unknowns of the future

Arnold Kling has a link to a study on education with this abstract:

Can schools that boost student outcomes reproduce their success at new campuses? We study a policy reform that allowed effective charter schools in Boston, Massachusetts to replicate their school models at new locations. Estimates based on randomized admission lotteries show that replication charter schools generate large achievement gains on par with those produced by their parent campuses. The average effectiveness of Boston’s charter middle school sector increased after the reform despite a doubling of charter market share. An exploration of mechanisms shows that Boston charter schools reduce the returns to teacher experience and compress the distribution of teacher effectiveness, suggesting the highly standardized practices in place at charter schools may facilitate replicability.

 A key point here: "An exploration of mechanisms shows that Boston charter schools reduce the returns to teacher experience and compress the distribution of teacher effectiveness..."

That sounds terrible, doesn't it?  I think this is key to fundamentally different approaches to progress. It seems like supporting the current providers is key to improving current institutions.  But transforming institutions sometimes means making current providers less important.

There was a time where having a creative, problem-solving blacksmith was key to having effective transportation.  Replacing that blacksmith with impersonal, monotonous factory work seems wrong.  It involves losing something sacred.  Yet, making blacksmiths unimportant was key to the transportation revolution.  You would not set foot on an airplane to take a vacation or a business trip halfway around the world if the airplane depended on a team of blacksmiths using experience and tactile expertise to create the engine parts.  The sacred act of visiting the Egyptian pyramids in person, or coordinating with an Asian businessperson could only be possible by eliminating the sacred role of learned and expert craftsmen.

The extreme version of this transformation is in telecommunications. Barely a human hand touched the phones we carry in our pockets with millions of circuits and parts.  Yet, those phones are only possible because new forms of creative work have been created.

To an extent, the need to unleash the creativity of teachers in the classroom is required because that creativity has to overcome the shortcomings of the institution it is embedded in.  It seems like it would be losing something sacred to create a more effective institution that would make that creativity unimportant.  Yet, what if a better institution leads to better education, even without creative teachers constantly bustling and working to overcome an ineffective institution?

A Silicon Valley designer can use creative work to improve the effectiveness of a million circuits in a phone that will be used by a million people.  That is a lot of leverage that the blacksmith couldn't have.  An institution that requires an immense amount of effort to effectively educate kids a roomful at a time is using an awful lot of sacred effort.  Wouldn't it be great to educate those kids with teachers that didn't need to be so creative?  And, wouldn't it be great to move to a world where the effort going into that creativity was leveraged beyond a room full of 20 kids?

So often, the difficulty in supporting progress comes in losing the known sacred in exchange for the unknown sacred.  In the end, progress depends on faith in emergent change.

Dodge City and Demographic Shifts

Recently, Dodge City, Kansas was in the news because they are moving the one remaining polling place to a location outside of the city.  This is seen as an attempt to suppress the Hispanic vote.

I took a few minutes to look up the demographics of Dodge City, and I was surprised by what I saw.  Dodge City is about 65% non-white.  Manhattan and Lawrence, the locations of Kansas State and Kansas University, are 21% and 23% non-white.

Here is a breakdown of Dodge City, by age:

Over a 20 year+ span (from 75 year olds to 54 year olds), the proportion of the age group that is white declined from 94% to 38%.  They were largely replaced by Hispanics.  That is a massive generational shift.  Post-war Dodge City residents saw their children pick up and leave, en masse.  They were replaced by Hispanic families, so the stress of this gets played out to a large extent through racial politics.  But, if they hadn't been replaced, and the city had just died, the sea change would have been no less jarring.

As unfortunate as some of the political reactions to these changes are, this sort of thing doesn't happen without some social upheaval.  The transition to an information-based economy is no less epochal than the shift from agriculture to manufacturing was.

The Luddites saw that machines were replacing skilled workers.  The engine of progress was destroying their way of life, and they lashed out at it.  Maybe there is a parallel here to the current political realignment that is happening with regard to intellectuals and the Republican base.  The information age is driven by human capital rather than physical capital.  Today's Luddites are also raging against the engine of progress that is destroying their way of life.  Today, that is education and specialized skills.  Education might have been a boon for their children, but when those kids left Dodge City and didn't return, what did the rise of human capital do for Dodge City?

PS:

Housing: Part 305 - If only we could burn all the extra houses down.

From Andrew Ross Sorkin's "Too Big to Fail"(pg. 190), from the summer of 2008 before Fannie and Freddie were taken over by the Treasury.

Paulson and a half dozen staff members huddled over the Polycom on his desk to hear the former Fed chairman's faint voice through the speaker.
Rattling off reams of housing data, Greenspan described how he considered the crisis in the markets to be a once-in-a-hundred-year event and how the government might have to take some extraordinary measures to stabilize it.  The former Fed chairman had long been a critic of Fannie and Freddie but now realized that they needed to be shored up.  He did have one suggestion about the housing crisis, but it was a rhetorical flourish befitting his supply-and-demand mind-set: He suggested that there was too much housing supply and that the only real way to really fix the problem would be for government to buy up vacant homes and burn them.
After the call, Paulson, with a laugh, told his staff: "That's not a bad idea.  But we're not going to buy up all the housing supply and destroy it."

IW readers know there weren't too many homes.  The only things the American housing market and the economy needed were sufficient money and credit.

I have the same feeling reading these retrospectives as I do hearing debates about the market today. It's like we're a tribe that shares a religious origin story in which the spirit of spring floods plays the devil's role. We're in the midst of a terrible drought, but it is simply part of our cultural DNA that water cannot be part of the solution.  So the elders desperately engage in plans and discussions about dealing with the drought in which they cannot reference water as a solution.

Dig a well? Build an irrigation canal? It's not that arguing for these things would be fruitless. It's that it wouldn't occur to a respectable person to mention them.  To mention canals would only serve one purpose - identifying yourself as a heretic.

To suggest that Fannie and Freddie should seek to expand their balance sheets in the summer of 2008 would only serve to besmirch one's own character.  (Look who's the first to pray to the spirits of the flood when things go bad.)

In effect, the entire country became taken with some version of what Robin Hanson would call "far thinking".  Far thinking is where we can impose our ideals on a map of the world that is clean and easy, where our ideals don't have to be moderated by messy reality.  In far mode, the Wall Street Journal can talk about the virtues of a financial panic. FOMC members can talk about letting the market discipline risk takers.  The President can explain that it's not his job to bail out speculators. Elizabeth Warren can ask why aren't more bankers in jail.  In far mode, we can know that they did this to us.  In far mode, just deserts keep us on the straight path.

In effect, Greenspan and Paulson are dealing with the cognitive dissonance of far mode here.  Burning down homes is an obvious solution to the problem in far mode.  Unmoderated by messy reality, far mode can get pretty absurd.  They recognize the absurdity of it. That's why the suggestion is funny.  If only they had taken it seriously enough to force them to confront the "near" - to confront the cognitive dissonance that made it funny - their plans might have been moderated by messy reality.

I wish I could travel back and take them to some townhouse in Brooklyn whose family was moving out of the state because they couldn't afford to spend half their income on rent anymore.  Here's some lighter fluid and a match, Al.  Should we start with this one?

As the crisis wore on, others echoed Greenspan's sentiment.  Frequently the concern was about old working class neighborhoods in rust belt cities, which were devastated by foreclosures.  Now, isn't it strange that in a country that had supposedly just built millions of unneeded homes in Arizona, Forida, etc., that the excess supply was in 80 year old neighborhoods in Cleveland?

Here is an article from Cleveland in 2010 about their program to tear down homes.  Now, in cities that have been depopulating, it may be the case that there are parts of town that call for demolition programs.  But, my point here is that we have conflated this problem with the subprime lending crisis in ways that have led us astray.  From the linked article: "Blame our region's economic stagnation and the nation's recession; blame lenders who bent and broke old rules to make loans to people who couldn't afford them; blame Wall Street speculators who bundled and resold those toxic loans, poisoning the economy. Or blame our drive to expand, leave the old neighborhoods and make new suburbs out of countryside."



Source

For "Wall Street" to be implicated as a source of unneeded homes, those loans would have had to have been associated with a building boom.  Here is the rate of new housing permits (compared to civilian labor force for scale) in the US as a whole and in Cleveland.  I show a long time frame here, just as a reminder that even at the national level, there was nothing unusual about the rate of building in the 2000s.  But, Cleveland didn't have any part of the 2000s housing boom, such that it was.  The rate of building in Cleveland was low and steady, until 2006, when it fell off a cliff along with the rest of the country.

The reason home building fell off a cliff in 2006 in every city across the country is because buyers lacked money and credit.  Cleveland didn't build a bunch of homes and then suddenly discover that they couldn't afford them.  In fact, in Cleveland, as in just about every city in the country, rent inflation rose in 2006 and early 2007 because of the shock to supply created by tight monetary policy.

By 2010, when neighborhoods were devastated by the blight of foreclosed properties, those neighborhoods suffered from one problem: not enough money.  This was not a supply issue.  Even today, homes in those neighborhoods generally fetch rents of around $1,000 a month.  The collapse was purely a nominal issue.



idiosyncraticwhisk.blogspot.com  2018

Here, I compare home prices in the three most expensive ZIP codes in Cleveland (blue, right scale) with the three least expensive ZIP codes (orange, left scale).  Cleveland is like most other cities.  During the boom, prices across the city increased at similar rates.  Then, after we pulled the rug out from under low tier mortgage markets, prices diverged.  After mid 2008, low tier markets collapsed.

Low tier homes have prices that are similar to prices in 1996.  High tier prices have risen in the range of 50% over that time.  Working class balance sheets have been devastated.  Low tier homes in Cleveland lost half their value after 2008.  This is not because rents have suddenly been cut in half, because this isn't a supply issue.

When Hank Paulson and Alan Greenspan jokingly wished they could burn down some homes, what those homeowners needed was some cash. Cash that the Federal Reserve, Fannie Mae, and Freddie Mac were in prime position to provide.  The thought didn't even occur to them.  It couldn't have.  It would have been heresy.



idiosyncraticwhisk.blogspot.com  2018

Here, I have graphed mortgage affordability for the median home in ZIP code 44137, Maple Heights, OH.  It's the yellow line in the previous graph.  There was no affordability crisis in Cleveland.  The monthly payment required to buy those homes with a conventional loans was similar to what it had been for at least 10 years, after adjusting for inflation. (This graph is in current dollars.)

Foreclosures in Cleveland had been rising throughout the boom, and they spiked from late 2005 to 2007, and then remained high.  Maple Heights continues to have many foreclosed properties.  In the "bubble" cities, foreclosures tended to be a lagging factor - after prices collapsed.  This is the case in Cleveland, too.  Clearly, after 2008, foreclosures were a function of household income shocks in properties that had lost all of their equity, so that the owners couldn't make payments and couldn't tap equity as a rainy day fund.  But, Cleveland did see a rise in foreclosures before the collapse.  This suggests that there was a market in risky mortgages in Cleveland during the boom that called for some moderation.

But, this is the important yet subtle point: The mortgage boom didn't have any significant effect on home prices or supply in Cleveland.  It had little effect on aggregate demand for housing.  The sloppy way in which housing affordability is commonly equated with home prices instead of with rents and the sloppy way that price booms in places like San Francisco or Phoenix have influenced our image of housing markets in places like Cleveland have led to disastrously wrong consensus in policy.  So disastrously wrong that when working class households in Cleveland just needed some cash, the public officials who could have provided that cash were wishing they could destroy real assets.

This over-reaction caused home values to collapse.  By 2010, when the over-reaction was codified in the terms of Dodd-Frank and the Consumer Finance Protection Bureau, the affordability of homes for buyers was unprecedented.  Actual affordability (in terms of rent) was worse than ever, because of the supply shock.  But, in Maple Heights, where the median home required monthly mortgage payments of about $600 for the decade leading up to 2008, it had fallen to less than $400.  And, the further collapse in home values that followed Dodd-Frank eventually pulled the median mortgage payment down to $200.

Excessive lending had little effect on mortgage affordability in 2005.  But, the over-reaction against lending had such a devastating effect on home values, that mortgage expenses declined by 2/3.  While pundits and critics blamed the Fed for saving Wall Street instead of Main Street and while they demanded cram downs, forced refinancing, and subsidies to borrowers, and while Greenspan and Paulson wondered how to get rid of all those houses, what those neighborhoods needed was for someone to just offer them some run-of-the-mill mortgages, of the type that they had successfully been paying for decades.  Not only the existing borrowers, but the potential new borrowers.

We were so upset about mortgages that stretched some borrowers too thin when mortgages in Maple Heights required monthly payments of $700 in 2005 that we were bound and determined to prevent mortgages from being made in 2010 that required payments of $200.  And we did it in the name of affordability.

This is a crazy disconnect.  The idea that homes were too cheap because of oversupply was consensus.  Greenspan and Paulson were hardly staking new ground here.  Consider the scale of the religious zeal against lending that had to be in place for them to think this was a problem.  Even if oversupply had been a problem, sane people would not have wanted to destroy the extra homes.  The obvious solution would be to buy them for pennies and then give them away to working class households.  If there was an oversupply, then working class households could just double the square footage of the homes they were living in at no extra cost.  The reason this wasn't happening in reality was because there was, in fact, a shortage of homes, and rents were rising.  But, if oversupply was the "problem", then the obvious solution at any time from 2009 on would have been for Fannie and Freddie, under federal control, to open the flood gates, and to spread our overabundance of homes to working class borrowers, who could now have twice the house at half the expense by shifting from renters to owners.  This is still, basically, the case today.  And, today, we still maintain a religious zeal against letting that happen.

To get back to normalcy those low tier home prices in Cleveland would need to double from today's price.  This is fabulous news.  For working class homeowners who have managed to keep their properties, simply returning to a normal market would double the value of their homes.  It's amazing how easily one can attain new health simply by refraining from taking poison.

But, the problem with human affairs is that sometimes, when we are wrong enough, being wrong is an impediment to correction.  The disconnect between reality and the consensus view is so great that the truth seems too outrageous to entertain.  So, burning down houses makes more sense than giving them away and to suggest otherwise seems like madness.

In the meantime, working class homeownership is on a 50% off sale in Cleveland while many complain that homebuilders aren't building enough new homes for the entry level market.  And, homebuilders complain that labor, and lumber, and lots are all too expensive.  Everything is too expensive when you're trying to compete against a 50% off sale.  So, because the consensus is so wrong on this issue that it requires a religious conviction to maintain it, this leads many today to complain that those costs are too high because we have too much money.  The solution to homes that are undervalued by half is to raise interest rates and suck cash out of the economy to bring those other costs down.  An awful lot of bad things will happen before those costs are low enough to compete with the 50% off sale.

Housing: Part 304 - The problem of the displacement of long-term renters.

One of the dilemmas of in-fill housing expansion is that some existing tenants are usually displaced.  That can happen directly because units are taken down to make room for new development, or it can happen indirectly because rents will rise in a "hot" area, leading to a reconstitution of the local population - "gentrification".

A primary cause of this problem is the existence of long-term renters.  These are households who have deep roots in the local community and ties related, very locally, to place, who do not own the properties they reside in, and therefore lack control over these changes.

Frequently, tenants rights policies are advocated for to try to solve this problem, but those sorts of frictions in the dynamics of local housing markets are a big part of the problem that has prevented urban housing markets from shifting to meet new demand for urban tenancy.  The better solution would be for these households to be owners in the first place, and the fact that they are not owners is a sign that our financial and housing markets are underdeveloped.

Landlords provide two sorts of liquidity services.  First, they provide liquidity for frequent movers.  Many frictions exist in the market for transacting real property, which make it quite expensive.  Thinking of homeownership as an ownership stake in a flow of rental income, this makes homeownership unprofitable for tenants who cannot commit to a long tenancy.  This service is very valuable.  Landlords allow tenants to move without incurring all of the costs of buying and selling real property, so that households who might move often are not burdened by the cost.

Second, they provide liquidity through access to capital.  Some households might be able to commit to a long-term tenancy, but they don't have the access to capital markets that would allow them to purchase a property.  In the real estate market that exists, this is a valuable service, also.  But, the goal of housing and financial public policy should be to eliminate the need for this service.  In a fully functional market, households that can commit to long-term tenancy should be able to be owners.  There should be financial products available to them that allow that to happen.

So, the fact that there are long-term tenants in some urban neighborhoods who can be evicted because they are not owners is a sign of a suboptimal system.  If there are a large number of residents in an area who have developed a sense of endowment about the area, but who are renters, then the solution we should seek for them is to find a way for them to be owners.

This is why I really don't like the focus on affordability, whether in terms of debt payments to income or price to income.  If a household can afford to rent a home, they can afford to own a home.  The transactional frictions may be harder to solve, so it is reasonable at this point in time for short term tenants to opt out of ownership.  But, that isn't really so much of a problem, because short-term tenants will not tend to have as much of an endowment effect about the neighborhood they currently live in.

On the other hand, there should be a financial product that allows a long-term tenant to own their home, and the fact that some can't is a problem, because they do feel more of a spiritual ownership of their location.  It does hurt them more to be forced to move.  But, many long term tenants can't be owners because the only financial products we have for ownership involve down payments, amortization, and a mismatch between the asset, which is real, and the typical mortgage product, which is nominal.

Actually, since the crisis, even with the inflation premium embedded in mortgage payments, most tenants - especially those for whom affordability is most difficult - could purchase their homes with a mortgage that would have a monthly payment that is less than their rental payment.  In many cases, it is much less.  This is the case, because in our errant haste to solve what was presumed to be a credit-bubble induced affordability crisis, we have done the opposite of what we should have done.  Instead of finding more ways for households to access ownership, we have eliminated the option of ownership for a large portion of the country.

Our financial system has failed, but the failure wasn't in making too many households homeowners before 2007.  The failure was in preventing households from becoming owners after 2007.

The problem that tenants in gentrifying neighborhoods have is that the financial market has not developed enough to give them a true ownership stake in their properties, so some advocates try to give them second-best ownership stakes through tenants rights.  It would be better if those households could benefit by selling into a hot market, or by borrowing from rising home equity, and choose individually how to capture those gains.

That doesn't solve all of the problems.  From white flight in the 20th century to NIMBYs in today's coastal urban centers, homeowners have never reacted well to any sort of change in their neighborhoods.  And, why should they?  Change is difficult, and when change encroaches on an area, it induces the need for compromise which is a sort of bad luck for those who would prefer that their neighborhoods remain the same.  Some of the reasons for disliking that change may be more morally justifiable than others, but all of those households are reacting to the same human desire - that the world we live in should stay just the way we like it.  But, these compromises are a fact of life.  We currently are missing some dear neighbors who recently have moved away.  Isn't it funny how flexible our sense of political privilege can be?  In this case, it would be absurd of us to demand that our neighbors remain in this house in order to keep our neighborhood intact.  Our sense of political assertiveness comes mostly from our sense of who are outsiders and, thus, who we can boss around.  So, of course it would be ludicrous of us to demand that our dear neighbors stay.  But, it doesn't seem so ludicrous to try to stop strangers from some other social class from moving into our neighrborhoods.  The reason that doesn't seem ludicrous is because they are outsiders and so we feel more comfortable asserting control over them.*

So, even neighborhoods full of owners frequently prefer stability over change, and are willing to assert control over outsiders in order to maintain it.  But, if we focused on access over affordability, and developed tools and products that provided that access, at least we would marry actual ownership with the legitimate sense of ownership that households feel about their long-term homes.  Next time you witness a debate about how new developments will displace longtime tenants, instead of wondering how to protect that class of households, you should wonder why they exist at all, and think of solutions that make them owners, in law, in a way that matches their sense of ownership, in practice.

Edit: a commenter makes the great point that in cities where prices reflect political exclusion, ownership carries more risks and isn't such an obvious improvement in today's environment.

* This is not entirely explanatory.  While there is a strong social norm against preventing our neighbors from moving away, there are many cases of neighbors preventing each other from making aesthetic changes to their properties.  So, there are selected contexts where legal or social norms allow us to obstruct the activities of our existing neighbors.

Housing: Part 300 - The Global Bubble Hypnosis is a Larger Problem than NIMBYs

Here is a recent article at the Financial Times.  The headline:

New York property jitters herald declines elsewhere

 The first line:

Clouds are hovering over New York’s housing market.

This is a great example of the mass hypnosis that has infected the public consensus on housing.

There is a broadening realization that the lack of access to urban labor markets and the lack of access to affordable urban housing are the prime challenge of early 21st century economics.  The problem is, solving that problem requires economic dislocation and upheaval of urban housing markets.  If you see falling real estate prices in urban centers should your reaction be to worry about "clouds hovering" over urban real estate markets?  I say, celebrate.

If our primary economic problem is that a lack of housing in urban centers causes it to be overpriced by a factor of 2 or more, then the DIRECT solution to that problem is that urban real estate needs to lose 50% or more of its value.  This article begins by noting that the median price per square foot in New York City has declined by 18% from last year.  Your reaction to that should be, "That's a great start!"  Full stop.  If that's not your reaction, then what are you doing?  What's your purpose?

Further, the article argues that global capital markets are leading to a new synchronization of urban real estate markets, so that additional supply is such a strong factor in bringing down urban housing costs that new units in New York City can bring down prices in London.  Your reaction to that should be, "Wonderful news!  Supply is a much more powerful factor than we thought."  Full stop.  If that's not your reaction, then what are you doing?  What's your purpose?

Reasons given in the article for this drop in New York prices include: (1) removal of tax benefits, (2) "glut" of luxury supply, (3) globalization, (4) "financialization", (5) "ultra-loose" money.  Your reaction to that should be, "Oh.  OK.  Those must all be good things.  Let's do more of those things."   Full stop.  If that's not your reaction, then what are you doing?  What's your purpose?

But, that's not the direction the article takes.  The article notes that sales volume is also down, and, as is the convention, it treats this downturn as the inevitable end of a boom bust cycle.  So, instead of seeing the drop in sales as a sign that all these good things might come to an end - as something we should counter - the article treats the boom that preceded it as the problem, and the solutions proposed are all policies aimed at stopping the real estate expansion before it develops!

This is an explicit defense of a monetary and credit regime that is specified to ensure rising urban real estate costs.

Now, admittedly the problem of solving urban costs is difficult, because normalized, unconstrained urban housing markets would require building with few unnecessary obstructions and low costs.  And, part of what happens in these regimes is that the bridge between basic costs and market value gets filled with all sorts of "limited access" rent seeking.  Developer fees, concessions to advocacy and neighborhood groups and municipal powers, queuing, etc.  These added costs emerged.  They didn't develop as some sort of plan.  So, if supply actually starts to increase enough to bring rents down to a reasonable level, these extra costs will have to be reduced in order to allow new development to come online profitably. Since the cost of queuing is pure waste, the first step here is "easy".  Just keep pushing through more projects for approval that are bringing in those "clouds".  There are a few trillion reasons why local planning boards aren't going to do that to existing owners and developers.

But, for activists and researchers who want to solve the urban housing problem and for global financial journalists who cover these markets, the reaction to that political problem should not be to kill any booms in their infancy.  The reaction should be, "How do we entice these urban planning departments to keep pushing through new supply when it looks like a downturn is coming?"  Because, to refer to any supply in these cities as anywhere close to a "glut" is a laugh.  A horrible, dark, depressing laugh.  There will be a glut of supply when rent in New York City is similar to rent in Atlanta, or even Chicago.  Until then, any use of the word "glut" to describe New York City housing should be met with laughter.

The reason we are engaged in this odd public rhetorical house of mirrors is because we all have a virus in our brain.  It's a cultural meme.  And it's a received canonical premise that there was a housing bubble, and that bubble was caused by loose money and loose credit.

The housing bubble, such that it was, was caused by an extreme shortage of urban supply.  Because of that shortage of supply, the process of meeting the public need for housing requires a "bubble" and the availability of credit that is flexible enough to allow for ownership where rents regularly take 50% or more of a household's budget.  Since supply in those cities barely responds to price, prices in those cities have to be bid up to high enough levels to induce outmigration so that new housing can be built in the rest of the country where supply can react to high prices and high demand.  At the peak of the US housing "bubble", credit markets were just beginning to push market prices to a level that induced that new supply.

Now, it would be better to build ample units in the urban centers.  But, since that doesn't appear to be close to happening, this was a second-best solution.  And, in terms of rent - which is the appropriate measure for considering housing affordability - 2005, briefly, was the one point since 1995 where supply at the national level was abundant enough to moderate rising rents.

Unfortunately, the Closed Access cities in the US are such a problem that in order to create enough housing at the national level, we had to induce a mass migration event out of those cities, and that mass migration event was the source of the dislocations in places like Phoenix that drove the country to demand a credit and monetary contraction.

This is the first step to fixing the problem.  We need to get that virus out of our heads.  The problem, all along, was supply.  Trying to pop the bubble before it inflates is the opposite of what we need to do.  I think the first rhetorical step to beat this virus is to stop thinking about housing affordability and housing markets in terms of price.  Price is a secondary function.  Affordability is about rent.  And, in the end, price is also about rent.  And, in the past 25 years, there have been two successful means for moderating rents.  (1) build like it's 2005, or (2) pull back on the money supply and credit so severely that a good portion of the country is foreclosed upon.

If we had committed to (1), today rents would be lower, prices would be higher, homeownership would be strong, and American balance sheets would be healthy.  It would be nice if a lot more of those American households could also live in the coastal cities.  I don't know if that can happen, but it sure as heck isn't going to happen if there is a consensus reaction to protect those precious urban real estate values every time the solution actually starts to play out by worrying about a "glut" of supply, and then by accepting pro-cyclical credit and monetary policies in order to "pop" the "bubble".

In that counterfactual, where the urban supply problem isn't solved and the rest of us commit to abundant supply, there would be gnashing of teeth about how the Federal Reserve is feeding bubbles and they are at fault for making home prices too high.  We have indulged that intuition for a decade now.  Now we know how wrong that is.  This was the darkest timeline.  Let's roll the dice again and proceed with the knowledge that doing it wrong has provided us.

New York real estate is getting cheaper and is pulling housing costs down in other cities, says the Financial Times, because (1) removal of tax benefits, (2) "glut" of luxury supply, (3) globalization, (4) "financialization", (5) "ultra-loose" money.  OK.  Those must all be good things.  Let's do more of those things.  What's your purpose?