David R. Henderson  

What to Do about London Housing

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3 Answers from Robin... Deregulation, Voodoo, and Krug...

Update below.

James Jirtle, a long-time reader of Marginal Revolution, recently wrote Tyler Cowen and asked his views about what to do about high housing prices in London. Mr. Jirtle listed 11 proposed responses and asked which Tyler thinks "are likely to be effective." Tyler didn't answer with reference to any of the 11, but concluded that "marginal improvements surely are possible." I agree, and I was surprised that Tyler didn't say more on a blog titled "Marginal Revolution" and subtitled "Small Steps Toward a Much Better World."

Rather than copy his whole list of 11 and then respond, I'll list each and respond immediately after to each. I take it from the other parts of his letter that Jirtle wants solutions that make it easier for people to own and rent without causing shortages. I'll cover the straight economics of it, not the morality of various solutions. JJ means James Jirtle and DRH is David R. Henderson.

JJ: Raising stamp duty (tax on the purchase of a home - the UK government recently raised rates on homes worth more than £500,000, and introduced punitive rates on purchases of second homes).
DRH: This will drive up prices further. The best-case scenario is where the supply is vertical (perfectly inelastic), in which case it would not raise prices at all, but would simply punish owners and reduce mobility. With any slope to the supply curve, prices would rise.

JJ: Raising council tax (property tax - where a property is rented, this is paid by the tenants).
DRH: Somewhat ditto the reasoning above. With any degree of elasticity of housing supply, this would raise prices.

JJ: "Bedroom taxes" on unused bedrooms (currently in place for social housing).
DRH: Extreme degree of government intrusion required. Makes home owning less attractive for anyone. Could cause some bedrooms to be rented out, increasing effective supply, but the more likely response would be finding uses for bedrooms. Home office or storage, anyone?

JJ: Increasing taxes on private landlords (the UK government recently removed the ability of landlords to deduct mortgage interest, and capped deductions for repairs).
DRH: Reduces supply and raises prices.

JJ: Loosening planning restrictions and taking other actions to combat NIMBYism.
DRH: Increases supply and causes prices to fall.

JJ: Building on the green belt.
DRH: If he means allowing building on the green belt, this would increase supply and cause prices to fall.

JJ: Deposit assistance for first-time buyers (the UK government currently underwrites mortgages of up to 95% LTV for first-time buyers for properties worth up to £600,000 and has introduced savings accounts where the government adds 25% to savings used to purchase a new home, contributing up to £3,000).
DRH: Makes it easier for first-time buyers to buy, but the increased demand makes prices higher than otherwise.

JJ: Punitive taxes on unused planning permission.
DRH: Reduces supply, making prices higher. Increases supply, reducing prices.

JJ: Direct price controls.
DRH: Discourages supply of new housing, causes conversion to offices, reduces maintenance on housing stock (which means an effective reduction in supply), and misallocates housing among demanders.

JJ: Restrictions on foreign ownership of property.
DRH: First-order effects on housing supply would appear to be small. Could be substantial decline in demand from foreigners, which would cause prices to fall, but one of the main effects would be an increase in the number of foreign renters, which would offset the fall.

JJ: Increasing interest rates.
DRH: Which interest rates and how? Can't say more without knowing the policy change that changes interest rates. Remember that interest rates are an endogenous variable.

Update: I misunderstood the tax on unused planning permissions. I now understand, I think, that it means that you get approval to produce housing and you don't use it. Bryan Caplan's comment below made me aware of that.


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COMMENTS (30 to date)

David writes:

I was surprised that Tyler didn't say more on a blog titled "Marginal Revolution" and subtitled "Small Steps Toward a Much Better World."
I am not surprised. That's what I expect. Tyler's marginalism requires, in my understanding, that he always appear pointless to most observers. He makes steps so small that most people can't recognize these moves as steps. But I must admit membership in that majority: I've never actually seen one of these small steps myself, so I might be mistaken.

Yet, in defense of Tyler, somewhere recently I saw a quote about marginalism attributed to Benjamin Franklin. Franklin, whom I hold as a role model, reported that as a youth he got himself into trouble by candidly speaking his mind. So, now (then) in his old age, he reported that his own opinion had not escaped his lips for forty years.

I don't know. I hope there's some mid-ground.

RC writes:

I would add one to the list:

Progressive Land Value Tax on all land in London. Council rates should also be changed to fall on landowners, not tenants. Abolish any stamp duty.

The land supply within the boundaries of London is fixed. Taxing it (or in other words, putting a charging to sit on land) would reduce the price of the land (because it now comes with future spending obligations), promote density and redevelopment.

It also internalises the cost of NIMBY. If local groups are successful at blocking development, they will push themselves into higher and higher tax brackets, paying for the costs of expanding housing supply in other areas.

It also has Nobel Economist Milton Friedman's tick of approval.

And so the question is, which are the least bad taxes? And in my opinion - and this may come as a shock to some of you - the least bad tax is the property tax on the unimproved value of land, the Henry George argument, from many many years ago."

- Milton Friedman, 1978

Source: Milton Friedman talks about property taxes

Ben writes:
Could be substantial decline in demand from foreigners, which would cause prices to fall, but one of the main effects would be an increase in the number of foreign renters, which would offset the fall

What? Many investors are using London property as a safe and rewarding investment, they're not buying them to actually live there full-time.

Sure, you would get a rise in foreign renters, but it would not come close to offsetting the fall.

Robert Thorpe writes:

> "Bedroom taxes" on unused bedrooms (currently in place for social housing).

It's worth mentioning that there isn't really a bedroom tax.

If your in housing paid for by social services, then your rent is paid for directly by them to the property owner. They know how many bedroom there are in the property. If you're renting a property with more bedrooms than you need then you'll pay an "under-occupancy charge" through reduced benefits. This was branded the "Bedroom Tax" by those who opposed it.

This policy was brought in to encourage recipients of housing benefit to downsize their properties. It hasn't really worked, as the supply of smaller properties is small.

Bryan Caplan writes:

Shouldn't the tax on unused bedrooms and the tax on unused planning permission have the same effects?

David R. Henderson writes:

@Robert Thorpe,
Thanks for the clarification.
@Ben,
Sure, you would get a rise in foreign renters, but it would not come close to offsetting the fall.
You and I are using the words “offset” and “offsetting” very differently. You are using the term as if “offset” and “completely offset” are synonyms. You’re right that it does not completely offset the first effect.

Market Fiscalist writes:

'JJ: Increasing taxes on private landlords (the UK government recently removed the ability of landlords to deduct mortgage interest, and capped deductions for repairs).
DRH: Reduces supply and raises prices.'

Wouldn't the short term effect be to cause some landlords to sell, and reduce prices for other buyers?

As I suspect the potential for building new properties in London is limited and not much affected by decline in demand for building new rental properties this option might actually decrease the cost of properties even long term.

This doesn't make such a market intervention a good idea - but I do it might actually do what JJ claims it would do.

ThaomasH writes:

Presumably the questions about taxes on existing "overpriced" housing -- unless it's just batty -- means increasing these taxes and using the remevue to construct housing accessible to lower income folks. Probably not the bets way to raise the revenue, but not totally crazy.

David R. Henderson writes:

@Market Fiscalist,
Wouldn't the short term effect be to cause some landlords to sell, and reduce prices for other buyers?
The best way to estimate the effect of a tax is by using supply and demand curves. A tax on landlords would reduce supply, which would raise prices.
Of course, not all people would respond the same way to taxes, which is your point--some would sell--but that’s a separate issue from the issue of supply.

I worked as a building contractor (in Hillsborough, NC) in one of my careers; built and sold three modest spec houses for the inexpensive end of the market. I was trying to provide decent housing for cheaper than it was commonly available.

I got established in that business. I could see that I could keep it up indefinitely if I wanted to continue building houses, largely with my own hands, at the rate of about one house per year. But, if I wanted to make more of myself and my enterprise, if I wanted to be the intelligence behind a more automated and productive undertaking, I could see what I was up against in that heavily regulated industry.

In the mix of factors of production, needed for any real estate development, the most uncertain factors, and therefore the most precious factors, are permissions from government. It is easy enough to see the price of land, and to estimate the costs of material and labor (for one experienced in such estimating). But the biggest uncertainty in a project is whether all the permits and certificates can be obtained at numerous steps of development. A successful real estate developer needs to be a political schmoozer, I realized. Maybe I could do that, if I wanted to become that schmoozer, but I did not want to.

I believe that housing would get cheaper and the quality would increase steadily, just as with televisions and other manufactured goods, if the industry were deregulated. I, who could stick-build houses, would have found myself in competition with house modules manufactured in China and dropped into place for a fraction of my expenses.

Market Fiscalist writes:

'The best way to estimate the effect of a tax is by using supply and demand curves. A tax on landlords would reduce supply, which would raise prices.
Of course, not all people would respond the same way to taxes, which is your point--some would sell--but that’s a separate issue from the issue of supply.'

For some reason I was thinking the aim of the policy proposals were to make it easier for owner-occupiers to buy, rather than reducing rents so was focusing on house prices rather than rents.

I see that a tax on renting would likely increase rents but I still think it would likely also reduce the price of houses. Some landlords would sell their properties and some renters (faced with higher rents) would decide to buy instead and some renters would choose to rent elsewhere. It seems likely the net result would be less demand and lower prices.

michael pettengill writes:
Building on the green belt. DRH: If he means allowing building on the green belt, this would increase supply and cause prices to fall.

But the reason the prices would fall is most likely the reasons prices have fallen for housing in many cities. The new housing in the green belt would either draw in people from near it opening up their housing for the working poor who would do anything to get their kids into the schools, so now the schools and neighborhood near the greenbelt become less desirable, lowering the prices of both the housing near, and in the greenbelt, driving those in the green belt to move further out, opening up housing in the former green belt to working poor as the prices keep falling.

This is the pattern for many cities with the green belt around the city becoming suburban housing that is now three generations later rundown lower class housing with the next generation slightly better housing providing a barrier for the desirable housing further out.

One claim made is people want single family housing which promotes civic values and such, so that's the best kind of housing to build. But Detroit in 1930 and in 1960 was two-thirds or more single family housing, and Detroit is still above the US National average of only 60% for single family housing. Detroit became a really big city based on the car from 1910 to 1960.

Just look at the suburbs built in the 50s and 60s, (the Levittowns), the "exurbs" built in the 80s, and the new housing built in the later 90s and 00s. How much of the 50s and 60s single family housing that is small (900-1000 sq-ft) and thus ideal starter homes stock is desirable housing today?

AlexR writes:

I agree on every point except "building on the green belt." The effect of this on the value of the housing stock appears to me to be ambiguous, because people value having green spaces close to where they live. This is especially true for housing overlooking green spaces. Witness the astronomical property values adjacent to Central Park. Would the aggregate value of NYC housing go up if Central Park were completely paved over and built up with skyscrapers? Possibly, but I don't see how one could be confident of this. The amount of green space may be above the optimum, in which case building may increase total surplus at the margin. But it might be that green space is below the optimum. If there is a compelling argument either way, I'd like to hear it. I can imagine scenarios that push in either direction.

Miguel Madeira writes:

A difficulty in using the supply/demand approach is that we are really talking about two markets, not one: the market for the selling of houses, and the market for renting of houses (in a certain way, I think that we can consider that the demand in the first market is the supply in the second market - both represent the desire to own houses).

Everything (like taxes on property) that makes less attractive to own houses reduces the demand in the first market (lowering the price of houses) and reduces the supply in the second market (raising the rent of houses).

jon writes:

JJ: Direct price controls.
DRH: ... misallocates housing among demanders.
I mentioned this in the other thread, but that's the whole point, right?

jon writes:

@Ben,
Sure, you would get a rise in foreign renters, but it would not come close to offsetting the fall.
You and I are using the words “offset” and “offsetting” very differently. You are using the term as if “offset” and “completely offset” are synonyms. You’re right that it does not completely offset the first effect.
Would the offset be significant or trivial? Does anyone have actual data on the number of foreign owned homes in popular cities around the world that are used as investments or occasional vacation spots versus the number that are actually lived in for a significant portion of the year.

Tim Worstall writes:

The correct answer to London's (and SE England's) housing problems is to blow up the Town and Country Planning Act 1947 and successors.

The 1930s was the last time that the private sector managed to meet new housing demand. When planning permission was a largely laissez faire idea.

Today the T&C act makes it near impossible to build near London. There's more of the county of Surrey underneath golf courses than housing.

This is one of those times when we don't want government to do something, we want government to do less.

Robert Thorpe writes:

A tax on unused planning permission is also unlikely to work.

In Britain there are several stages of permission before a development can be built. Usually, permission is unused because it can't proceed to the next stage. That's because either the architects haven't finished the plans or the planning authorities haven't finished looking at the plans. If it is taxed during this stage it will be effectively a tax on development. A tax on final planning permission could encourage development, but people generally use that type of permission very quickly anyway.

TheManFromFairwinds writes:
JJ: Increasing taxes on private landlords (the UK government recently removed the ability of landlords to deduct mortgage interest, and capped deductions for repairs). DRH: Reduces supply and raises prices.

Huh? Wouldn't this decrease demand (since LLs can no longer deduct mortgage interest buying homes as an investment housing becomes a less appealing investment vehicle) and as a result prices should fall?

benj writes:

The value of location(Land) makes up around two thirds of house prices in the UK. Therefore a 100% Land Value Tax would bring the selling price for an average house down from £280K to £100K ie the bricks and mortar value.

Furthermore, as owner occupiers would have to pay rent instead of imputing it, the market could thus allocate land/immovable property at optimal efficiency, reducing vacancy, under occupation, land banking, regional inequality and urban sprawl. Negating the need to build any extra new housing stock for the foreseeable future.

Sorted.

If common sense doesn't tell you, or looking at a supply/demand curve don't tell you, then there are dozens of examples of where added costs lower rental incomes and thus selling prices.

What happened when SDLT went up? Or interest rates etc, etc, etc.

benj writes:

DRH says
The best way to estimate the effect of a tax is by using supply and demand curves. A tax on landlords would reduce supply, which would raise prices.
Of course, not all people would respond the same way to taxes, which is your point--some would sell--but that’s a separate issue from the issue of supply
.

No it doesn't reduce supply(to any great extent) because it will be bought at a by new owner occupiers.

Or do you think when a landlord is force to sell because of taxes he demolishes the building too?

The only reason it would reduce supply is because owner occupier impute their rent, thus be more likely to over consume immovable property.

But, I'm guessing this isn't what you had in mind.

The solution to that inefficiency is they should pay land rent, just as tenants do. Only it can be collected from them and landlords as taxes instead.

Sorted.

Adam Daniels writes:

Two points. First, the reading of council tax to more bands would encourage the subdividing of large properties into condos as would removing the single peso discount. Also encourage older people to downsize. What do you think of treating dwellings as all other assets in Capital Gains Tax and estate duties

J Roger writes:

You misunderstood point 10 (foreign ownership): London property is a great place to park money for investors from Middle East/Russia/Asia. They don't buy the apartments to live in them or to rent them out - they simply buy them and hold them, watching from afar as their investment increases by 10% each year.

It's unclear just how many properties are owned in this way, but parts of Bayswater feel like they've been abandoned and many of the new build apartment towers are fully sold but barely inhabited.

daguix writes:

The only reasonable solution is for the government to take back control of the housing market in London and build more. It is time for the government to step in and intervene.

Ivan S writes:

Ref the Land Tax suggestion, the problem with the idea that this would promote more intensive development is that London (and the UK generally) is subject to strict planning restrictions, so the idea that there'd be a response is therefore largely false- particularly in central London. The main holders of underused property are the local councils who own anything up to 40%+ of land (Southwark)- and would potentially therefore potentially be paying tax to themselves. Public housing built in the decades after the war was largely low density as the population was decanted to new towns outside the green belt. Some councils are responding (Camden for example) and building on green spaces near existing blocks.

Separately- the government's plan to force councils to sell off higher valued public housing has been treated cynically but if they do deliver on the commitment to get the money spent on new housing this seems like a win-win, & it would always be possible to make the sales with perhaps a block on them being rented out, or a right of repurchase if they were left empty.

ChrisA writes:

I think the question should be "how do we expand the supply of housing in London", rather than the question of "how to lower house prices". How to lower house prices is quite simple, have a recession. We saw this in the early 1990's in London. But that is a cure worse than the disease. It is a good economy where people want and can pay high prices for houses.

In terms of expanding the supply of houses there are many potential options as noted above. Probably the best approach would be to offer a holiday for the next 10 years on planning permissions. Essentially all planning permission would be approved, subject to the house being built within 5 years of the planning permission being approved. If necessary this permission could be limited to the areas outside historic areas. People would definitely find new places to build that currently are overlooked if this was introduced. And many existing houses would be knocked down and replaced with multi-story houses. I think that in terms of cost/density in most parts of London 4 or 5 story buildings are probably the most efficient, so the city would start to look more like Barcelona in terms of apartment living rather than single dwellings.

Of course there would be tremendous opposition to this policy - but if there really are numerous people looking to buy houses then it should be able to get votes. Perhaps one of the major parties (say the Lib-Dems) could adapt this as their signature policy. Despite me being a house owner in central London, I would support this idea.

Robert Thorpe writes:

TheManFromFairwinds & benj

Think about supply & demand some more.

benj wrote:
> No it doesn't reduce supply(to any great extent)
> because it will be bought at a by new owner
> occupiers.
>
> Or do you think when a landlord is force to sell
> because of taxes he demolishes the building too?

You're only thinking of existing property.

David is thinking about existing property and the building of new property. Also, the problem he's discussing is housing availability overall, he's not just talking about owner occupiers.

Think about the supply & demand curves for new property. Potential owner occupiers are part of the demand curve. Potential landlords are part of the demand curve too. The taxes on landlords push the demand curve to the left. The reduce the price of new property and the quantity supplied.

The price of new property isn't directly related to rental rates though. That's a different market. In the short term the supply of properties to rent is quite inelastic. Demand varies and therefore the price varies. In the short run landlords are at the mercy of this market. If they end up losing money (or making less than they could make elsewhere) then they may sell up. If they sell up to an owner occupier then the supply of "housing" overall hasn't changed. Over time though landlords will will chose not to expand the number of units unless the profit justifies it. Their profits will come back to what they were before by this restriction of supply. So rents won't come down.

To put it another way, in the long run the taxes on landlords are taxes on renters. It's the same situation as employers national insurance contributions (in the UK) the burden of which falls on employees not employers.

Benj writes:

@Robert Thorpe

If we were to make owner occupation compulsory then yes we would see a drop in supply. But only because there would now be segment of society who could not stump up/get a mortgage for the capital costs of the lowest price property in the UK. Say £40k. They'd either move in with friends/family or sleep rough.

But that's pretty extreme. If private landlordism was banned but local authorities had to house those in need, the supply of new homes wouldn't change one jot.

It's not landlords that need or build housing. People need housing and builders build them. Landlords due to financial circumstances are able to outbid their tenants in the market and then charge them a ransom fee.

Don't get me wrong singling out landlords comes with efficiency costs and is thus a bad idea. But the supply of housing, new or existing, would not dramatically change if they were taxed. Even putatively.

Robert Thorpe writes:

> If private landlordism was banned but local
> authorities had to house those in need, the
> supply of new homes wouldn't change one jot.

It depends if local authorities were willing to pay the same amount the private landlords currently are. If the local authorities spent less then the supply of new houses would be lower.

> It's not landlords that need or build housing.
> People need housing and builders build them.
> Landlords due to financial circumstances are
> able to outbid their tenants in the market

Certainly builders build houses. The amount they build depends on what buyers will pay for them. Both landlords and owner-occupiers are buyers. If one group is dis-incentivised to buy using taxes then that weakens demand.

> charge them a ransom fee.

In what way is rent ransom? To put it another way, how is being a landlord different from any other business?

benjamin writes:

The benefit of local authorities housing people is they get the value from the uplift in planning/rising values, instead of land bankers and landlords. The reason why the economy of Singapore has done so well is in great part due to this policy.

Naturally, the thought of trillions of unearned cash not falling into private hands was an anathema to the Tories who set about privatising Council Housing and making sure Councils would find it difficult to build any more.

"Certainly builders build houses. The amount they build depends on what buyers will pay for them".

Nope. Any reduction in demand, due to taxes on landlords for example, merely reduces the price the price of land. Taxes/costs fall on the most inelastic factor first (something DRH seems shockingly unaware of).

It may reduce the profits of the land bankers like Persimmons, but not the actual builders.

"In what way is rent ransom? To put it another way, how is being a landlord different from any other business?"

If land were reproducible like other factors they wouldn't be different. But then we'd also all be living in Mayfair with a second home in St Tropez.

Someone who rents out cars has to buy value that has been produced, and then, through their own work effort and enterprise, maintain that value. They are most certainly not getting something for nothing.

But, no one produces location. It only has any value due to demand for a scarce resource supplied by nature. Not the work, effort or enterprise of a landlord.

Some locations are more productive than others, perhaps due to different wage levels. By merely owning land, and landlord is able to extract the difference in wage levels by those who need land in order to access those differences. In other words they are being held to ransom.

But, to be honest, I'm sure you must know the moral and therefore economic difference between a capitalist and a landowner. One is an economic producer, the other an economic parasite. By definition.


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