Thursday, April 20, 2017

Housing: Part 220 - If it looks like a demand problem, you have a supply problem.

I frequently use the supply vs. demand framework to describe the difference between an Open Access vs. Closed Access city, or to push back against "bubble" talk.  But, sometimes, I suppose, this can be misleading, because really all price changes are demand phenomena.
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Here is basically a universal housing supply and demand curve for owned homes in a metro area.  The difference between metro areas is where their supply curves fall.  Closed Access cities have supply curves that are nearly vertical (inelastic) in any reasonable context.  Open Access cities have supply curves that are reasonably flat (elastic) in any context that has been tested.  And the Contagion cities generally look like Open Access cities, but they took on such huge in-migration from Closed Access cities that they reached their supply curve turning points.  (As I have proceeded through the project, in some ways Miami has become a less than perfect fit as a Contagion city, but Florida in general fits the type, I think.)

The difference between these cities is their supply elasticity.  Full stop.  Closed Access cities have both short and long term inelastic supply, Contagion cities developed inelastic short term supply, but they have elastic long term supply (or at least, the demand curve moved back to the elastic portion of the supply curve when the Closed Access migration surge abated), and the Open Access cities have both short and long term elastic housing supply.

But, the irony is that, on the ground, changes in home prices are all going to be triggered by demand, because that's what is more volatile.  So, rising rents, falling real long term interest rates, new tax benefits, etc. all create these volatile price shifts in Closed Access cities, and observers all say, "See!  It's a demand problem!"

Let's say foreign buyers can avoid some sort of capital gains tax, and they start piling into closed access city real estate (because that's where capital gains expectations will be highest), and prices go up.  Pass a law against foreign investment, and prices go down.  See! It's a demand problem!

Or, a major shift in credit policies causes prices to rise or crash.  See!  It's a demand problem!

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But, there are demand shifts in Open Access cities.  If we measure shifts in demand by the number of permits issued, then Open Access cities have much higher shifts in demand than Closed Access cities do.  Heck, during the "bubble", the Contagion cities had more than 1% annual population growth, just from the housing refugees fleeing the Closed Access cities.  Believe me, they know about demand.  The Contagion cities?  Now, there was a demand problem, although even there, the bubble came from the shift in short term supply elasticity when permit issuance couldn't rise match migrant inflows.

But, you usually don't hear about demand problems in Open Access cities.  For some reason there is never a problem of excess foreign buyers in Dallas.  Are there a lot of foreign buyers in Dallas?  I don't know.  Nobody cares.  You want a house, they'll build you a house.  Maybe there are more foreign buyers in Dallas than there are in Vancouver.  Does anybody even bother to measure it?

How do you know if you live in a city with a housing supply problem?  It will look like a city that has a demand problem.  How do you know if your city doesn't have a housing supply problem?  It won't look like it has a demand problem, even if its demand for new housing is twice the national average.

1 comment:

  1. Great post.

    There is something going on with real estate, much as Kevin Erdmann describes. I wondering if there is something even bigger.

    Adair Turner, Brit, has discussed the torrents of money passing through the banking system but ending up in extant assets in London. The idea that the banking system passes money from savers to productive uses is antique. It passes money to owners of real estate in closed access cities (in Great Britain anyway).

    Erdmann has broadened this idea to the whole economy, through rents (to some extent) is passing money to owners of zoned property assets.

    So property owners in closed access cities have a oligopoly of sorts, though never recognized as such by macroeconomists. Yet an important oligopoly, as people have live somewhere (it is not a choice, like going to a ball game) and affects cost of housing and business. Reduces competition in retailing too.

    The financial community, with such huge exposure to real estate, likes this arrangement fine. Would you rather lend to a landlord benefitting from an effective powerful oligopoly or a business fighting for survival against all comers?

    The current account deficits are interesting in this context. The closed access cities are the very cities that foreigners know about, and also the least risky cities in which to buy a property.

    Is there a way for offshore bank account money to be laundered and end up owning property in a closed access city? Unfortunately I do not travel in the right circles to know this.

    Anyway, the solution, as it usually is, is free markets. No more property zoning anywhere.

    You never read that in Marginal Revolution, Cafe Hayek, Coyote Blog, AEI, etc. They will opine against the evils of rent control, however.

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