Monday, March 3, 2014

The Not-So-Complex Argument Against Rent Control

No one likes having to pay more for housing than necessary. For a vast majority of people, housing is the single largest expense in a personal budget. With regards to apartments, it is even worse when landlords exploit the system by overcharging tenants. To deal with the "money-grubbing landlords" and to provide people with affordable and accessible housing, some think the solution is for the government to step in with rent control. For proponents, it's supposed to solve information asymmetry, protect citizens from absurd rent increases, and promote community stability.

However, a forthcoming study in the Journal of Political Economy, entitled Housing Market Spillovers: Evidence from the End of Rent Control in Cambridge Massachusetts (Autor et al, 2013), tells a different story. The authors use Cambridge, Massachusetts as a case study to show that once rent control was removed back in 1995, the property value between 1995 and 2003 increased by well over a billion dollars. This is not the only case in which rent control has been disastrous, whether you look at San FranciscoNew York City (also see here), or Cambridge (also see here). Countries such as France, Vietnam, and the United Kingdom had to eliminate their rent control policies because they were that deleterious. Economists have a virtual consensus that rent control is a bad idea. Socialist economist Assar Lindbeck was known for saying "In many cases, rent control appears to be the most efficient technique presently known to destroy a city, except for bombing." Paul Krugman is even on board. What is it about rent control that ends up going so awry?

Rent control is like any other government-imposed price ceiling in that it mandates a maximum price on how much a landlord can charge a tenant for rent. What happens when the government imposes this price ceiling?

The economic effects of the price ceiling are numerous and unintended. The first is the quantity demanded is greater than the quantity supplied (Qd-Qs >0), which is to say that rent control causes a shortage of housing. The shortages in the controlled sector cause the demand to spilled over into the uncontrolled sector. That is why the second effect is that although prices are depressed in the controlled sector, they rise substantially in the uncontrolled sector, which would explain why a place such as New York City has such high rental costs. The third is because of the shortage, the landlords are disincentivized to upkeep the apartments under rent control (given the difficulty to make profit due to depressed prices and the long queue created to make people desperate to acquire the rent-controlled housing, that makes sense), and as a result, the apartments become run-down. This also discourages incentive to build new, improved housing for everyone but the super rich. Another unintended consequence is that the substitution effect takes place, i.e., more people want to buy houses than rent (Fetter, 2013). Let's not forget the deadweight loss created as a result (see below).

Rent control is like any other price control: you can't control the unintended consequences of rent control. Rent control hurts the very people it intends to help. If you want to protect both the tenant and the landlord, as well as create across-the-board affordable renting (see World Bank policy research paper here), remove rent control in the cities that still enact it and watch their housing markets proliferate.

1-9-2018 Addendum: The National Bureau of Economic Research just released an interesting paper on rent control in San Francisco. Its findings? Rent control limited the housing supply by 15 percent, as well as increase rent by 5 percent.

No comments:

Post a Comment