"The Politician's Incentive Is to Hide Costs"

The Economist's Ryan Avent on how local governments and NIMBYs have driven up urban housing prices.

What's really keeping urban home prices high? And how are some cities keeping prices comparatively affordable? In his new Kindle Single, The Gated City, Ryan Avent, the economics correspondent for The Economist, argues that high urban housing prices in cities like New York, San Francisco, and Washington, D.C. are the result of local regulations that place limits on new housing supply. Those limits help explain why Sun Belt cities like Houston and Phoenix are booming, and have managed to keep their housing prices comparatively low. 

Associate Editor Peter Suderman interviewed Avent over email this week. 

Reason: Your book talks lot about the benefits of population density. What makes density so great? 

Ryan Avent: Density is one of the most effective solutions to the problem of how to realize the benefits of interaction. Larger markets facilitate trade and specialization; they provide easier access to many people and many different kinds of people, which facilitates good matches between employer and employee, as well as between friends and mates; and they serve as rich soil for the intellectual conversations that produce new ideas and innovations. Changing technology has reduced the need for density in some of these interactions in recent decades, but it has strengthened the need for density in others. All in all, dense cities remain a critical part of the world's economy and its societies. 

Reason: A lot of people seem to think that a dense city is by definition an expensive city. But you argue that housing prices are artificially high in some of the densest urban areas. What's keeping prices so high?

Avent: It comes down to supply and demand. Demand for the advantages of dense cities is high, and supply is unable to adequately adjust. Dense cities are often older cities, which have accumulated piles of restrictive zoning rules over the years. And residents constantly press for new limits on supply growth: through zoning changes, opportunistic abuse of historical preservation rules, and by applying political pressure on would-be developers. Dense cities are especially vulnerable to these problems because they're older—which means more rules on the books and more old buildings subject to preservation rules—but also because there are more people around to object to new development.

Reason: Why are local residents and governments so often resistant to increasing density? 

Avent: Governments are resistant because residents are resistant, and residents are resistant because they fear change and because resistance is effective. People worry about the impact of new development. They worry about the value of their homes, the quality of local schools, the possibility of new crime, less parking, and more nuisance. They worry that their neighborhood will become less aesthestically appealing. And they have little incentive to consider the benefits of density for others—for residents of the city outside their immediate neighborhood and for those who are driven out of the city by high housing costs.

Reason: You argue that density has a lot of benefits for residents. But if greater density lowers housing prices, then don't local homeowners have a pretty strong economic incentive to keep density low? 

Avent: Yes—up to a point. Limits on development are somewhat like cartels or unions in this way: They allow insiders to capture rents, but only to the extent that they don't put themselves out of a job in the process. In the short run, productive agglomerations are fixed, but in the long-run they're mobile. If development rules in Silicon Valley drive enough people to other, more affordable agglomerations, then other innovators may eventually find it advantageous to follow, and the region may lose the unique factor that created the opportunity for rent-seeking in the first place. And in general, this dynamic is one reason why it's a bad idea to subsidize homeownership. Renters are happy for housing costs to stay low. 

Reason: What can local governments do to help increase the housing supply and keep housing prices from skyrocketing? 

Avent: One option is to create institutions to help solve the collective action problem—the city as a whole benefits from density, but it's in the interest of individual neighborhoods to fight development. Local governments can set zoning budgets, for instance, such that any new restriction on development is offset by a loosening of rules elsewhere. The government can also get local neighborhoods to internalize the broader benefits of density by using a share of the revenue gains from new development to offset neighborhood property taxes or to pay for local amenities. The city can give neighborhoods a bigger stake in new growth, in other words.

Reason: Seems like there's a political problem here. On the one hand, local politicians always say they want to foster affordable housing. On the other hand, no one really wants property values to fall. How do you balance the two? What's the message you want to send to local officials?

Avent: The politician's incentive is to hide costs—to cave to the neighborhood's demands for less development and then try to mandate affordable housing through still more new rules. I'd argue to politicians that this is all making their city less efficient and their lives more difficult. New growth will ultimately make other problems easier to solve, by supporting the local economy and increasing the tax base. That creates less demand for interventions to "focus on jobs" or dig up tax revenues through new gimmicks. And it creates more room to satisfy local demands for amenities like well-cared for parks and infrastructure. A city that can find ways to accommodate new residents with new development will have an easier time addressing other typical civic problems. 

Reason: Are there ways to make local residents and politicians more aware of the explicit costs of zoning rules that artificially reduce supply? And what sort of cost increases are we actually talking about—any estimates? 

Avent: Well, the book was the best idea I could come up with to draw attention to the problem. I do think that with economic problems like this, part of the solution is simply trying to educate people about what the data are telling us. The median value of an owner-occupied home in San Francisco is roughly five times higher than in Houston. Construction costs account for some of that difference, but most of the gap is attributable to the shadow tax embodied in San Francisco's more restrictive zoning rules. San Franciscans who bought homes two decades ago probably love hearing that data point, but Bay Area politicians ought to understand how manifestly they're failing their citizens by unnecessarily contributing to high housing costs. It's frankly unjust.

I think that the recession and recovery may increase awareness of the issue, thanks to the success of the Texas economy. Texas' success in creating jobs is largely attributable to its willingness to build, and the resulting attraction its affordable cities have to struggling households from other parts of the country. 

Reason: You also talk a lot about how Sun Belt cities have expanded thanks in part to their willingness to allow new housing development. They've taken advantage of high prices and restrictive regulations elsewhere. Doesn't this create a sort of marketplace for zoning rules? And won't that inter-city competition serve as a check on excessive rules and regulation in more desirable cities? 

Avent: That's certainly a possibility. I think it's more likely that struggling cities will attempt to duplicate the Sunbelt's success, and will fail. Growth is about supply and demand; if you lack demand in the first place, more elastic supply won't help. There's also a good chance that high housing costs will have an unpleasant filtering effect on society. High home prices in desirable cities may force out many middle-class homes and leave concentrations of very wealthy households that are more determined and better politically prepared to protect their neighborhoods against additional development. The more exclusive the productive-city club, the more tempting it is for the rich to pull up the ladder behind them.

And it's important to remember that one city isn't just as good as another. Generally speaking, the economies of the high-cost cities I write about are more productive, export-oriented, and greener than their Sunbelt counterparts. New York's per capita carbon emissions are less than half the national average. The average Houstonian, by contrast, leads a very energy-intensive lifestyle. The national economy therefore looks qualitatively different when people move from high-cost cities to low-cost cities. That's not a sufficient reason to try to encourage people to move from the Sunbelt to the coasts. But it is a good reason to be aware of onerous government regulations that create an obstacle to population and employment growth in dense, productive places.

Reason: Let's say local residents and governments in wealthy, high density areas do allow housing supply to match demand. If you're right that doing so will make a city wealthier and more desirable, won't that also raise prices?

Avent: Well, it will certainly raise wages. Ultimately, the market will clear. New development will make the city a more desirable place and a richer place, which will attract new residents and bid up new costs. Residents will keep coming until rising costs offset the benefits of relocation. At some point, construction or congestion costs will deter new entrants, and the market will reach a new equilibrium. In that case, cities with better local economies and better local amenities will be more expensive than other places; there's no getting around that. My goal is make sure, first, that more of the gains to city growth are realized—that we're not keeping ourselves from picking up big bills on the sidewalk; and second, that the current gains that flow to rent-seeking homeowners are distributed more evenly—in the form of more employment, greater returns to entrepreneurship, and greater real wage gains. In short, we've placed a choke-hold around productive cities. Easing that choke-hold won't fundamentally change the way urban economies function; it will just allow them to play their roles more effectively.