Economics of the metropolitan area 212G, Spring 2013

1. Economics of the metropolitan area212G, Spring 2013 Professor: Keren Mertens Horn Office: Wheatley 5-78B Office Hours: TR 2:30-4:00 pm E-mail: Keren.horn@umb.edu

2. Class updates • Last chance to lead class discussion (worth 5 points) • Thursday Housing Discussion – Eddie, Eric, and Lester • Next week Last Discussion Session on Private Government – Erik, Roudy, Andrew • Thursday April 25th – Draft 2 Assn 2 and Outline for Final Paper (please let me know ahead of time if you will have trouble completing these assignments on time) • Final Presentations (everyone is required to attend their classmates’ presentations, or will be penalized a grade on their own presentation) • Gun Control – May 7th • Stop and Frisk – May 9th • Schools – May 14th

3. Introduction to housing • Value of U.S. residential real estate in 2003 was $13.4 trillion, out of a total net stock of wealth of $34.8 trillion. • In 2003 American houses were worth about the same as the total combined value of the 13 largest stock markets outside the U.S. • For most Americans wealth is housing • The federal government also spends a large amount on housing • The federal government sacrifices about $66 billion in tax revenue each year subsidizing mortgage interest • The federal government also spends about $30 billion each year assisting low-income households meet their housing needs • What makes housing different from other commodities?

4. Why is Housing Different? • Serves many purposes: • shelter, protection, privacy, provides rights to public services like schools • Heterogeneous: • dwellings differ in size, age, style, features, location • Durable: • Deterioration rate depends on maintenance and repair decisions • Fixed in Space: • Site characteristics part of value of housing (accessibility to jobs, local public services, environmental quality) • Costly Moving: • Adjustment when gap between ideal and actual large 14-4

5. Is there a need for government involvement? • Arguments about efficiency: • Since housing is fixed in space, generates externalities • If your house is falling down it affects your neighbors’ property values • If you paint your home, your investment will benefit your neighbor • Since housing is durable, maintenance decisions are key determinants of long term value • People (particularly renters) may not have appropriate incentives to maintain the property • Since building housing involves large capital outlays, attaining appropriate financing can be challenging, leading to a lower than optimal amount of construction

6. Is there a need for government involvement? • Arguments about equity: • Housing is a “merit good” • Good society believes an individual should have on the basis of need rather than ability to pay • Can be viewed as one method of addressing poverty • In-kind transfers are often more politically popular than cash transfers • Alleviating some of the effects of poverty can have efficiency implications for society as well – if low-income households are well housed, they may be less likely to commit crimes or become involved in the black market

7. Is there a need for government involvement? 15-7

8. How is the government involved in the housing market? • Federal Outlays: • Subsidize homeownership - $66 billion per year • Mortgage interest deduction • Allows taxpayers who own their homes to reduce their taxable income by the amount of interest paid on the loan • Mostly benefits middle and high income households • Assisting low-income households - $30 billion per year • Providing public housing • Subsidizing privately produced housing • Providing vouchers for households to use towards rent • Local regulation: • Zoning codes – one way to minimize negative externalities associated with developments • Building codes – one way to ensure adequacy of housing

9. 1: Building codes • When housing conditions are very bad, regulation appears to be the correct response – make these conditions illegal • Example/Newark, New Jersey • Every room (except kitchen) in a home must be at least 7 feet in every direction • Every unit must contain one room of 150 square feet or more • Every unit must have one toilet, one shower for every 6-8 residents • What are the effects of building codes? • If enforced can improve the quality of housing in the market overall • May not affect rich people, who wouldn’t buy these substandard homes to begin with • May affect low-income households because it increases the quality (and in this way also the price) of the most affordable housing in a market

10. 2: Public Housing • Another potential reaction to concern over poor housing conditions for poor households is to build housing for these residents – Public Housing • About 1.2 million households (about 1% of housing stock in US) • Budgetary cost about $7 billion • Managed by local housing authorities • Rent no greater than 30% of recipient income • Economists estimate that these projects cost much more to be built than they are worth the tenants • Estimates of value of public housing range between .24/dollar to .70/dollar • Tenants would be better off if the government handed them $1 rather than gave it to them in the form of public housing 15-10

11. 3: Low income housing tax credit Tax Reform Act of 1986 instituted a program of tax credits for investment in affordable housing for low-income households Developers receive a tax credit in exchange for setting aside a number of units in their project as affordable. This provides an incentive for the production of affordable housing. 2.2 million affordable units have been produced under this program since 1987. These projects are estimated to have similar costs to public housing, Quigley (2000) estimates .62/dollar

12. Effects on unsubsidized dwellings • How does the creation of subsidized dwellings affect the market for unsubsidized dwellings? • Does it affect Supply or Demand? 15-12

13. Effects on unsubsidized dwellings Text Text Text 15-13

14. 4: Housing Vouchers Instead of producing housing, housing vouchers allow low-income households to find housing in the private market. This provides low-income households with more choice on where to live About 2.2 million households receive housing vouchers, at a cost of approximately $19 billion per year. Economists estimate that recipients value $1 of a housing voucher at about $1. 15-14

15. Market effects of housing vouchers – nonsubsidized units • How does the provision of housing vouchers affect the market for medium quality housing (i.e. housing just slightly more expensive than what can be rented by households with vouchers)? • Does it affect supply or demand? • How does the provision of housing vouchers affect the market for moderate quality housing (i.e. housing that can be rented by households with vouchers)? • Does it affect supply or demand?

16. Market effects of housing vouchers – nonsubsidized units

17. 5. Growth Controls • Another way that governments are involved in housing markets is by regulating the number of buildings that can be built. • How does a ban on new housing (high quality) affect housing prices? • Will these bans affect supply or demand? 14-17

18. Price Effects of Growth Controls Step 1: High-Quality Submarket 14-18

19. Price Effects of Growth Controls Step 2: Supply Effects on Medium-Quality Submarket 14-19

20. Price Effects of Growth Controls 14-20

21. Discussion: Rethinking housing policy • Housing Affordability in MA: Why does Ed Glaeser believe that young workers cannot afford homes in MA? Cite evidence from the article. • Rethinging Federal Housing Policy: What changes does Ed Glaeser propose to our federal housing policy? Why will these changes be more “sensible”? Cite evidence presented by Glaeser in the article. • Boston’s Housing Policy: Do you believe that Mayor Menino’s plan will increase housing affordability in MA? Why or why not? Cite specific policies he proposes from the article.