DO AFFORDABLE HOUSING MANDATES WORK? EVIDENCE FROM CALIFORNIA Benjamin Powell, Ph.D. and Edward Stringham, Ph.D. Department of Economics San Jose State University

Overview Motivation Housing Market  Bay Area Supply  Below Market Rate Production Economics of Affordable Housing Mandates Costs of Affordable Housing Mandates  Level of “Tax”  Effect on Home Prices  Effect on Supply Long Term Problems  Income Targeting  Mobility  Improvements  Administration Debate  Density Bonuses  Housing Cost  Socioeconomic Integration  Supply Restrictions

When I went to grad school in Virginia, I lived in in this luxury highrise with a classmate for $655 per person.

When I got a job in California, I figured I could live an equivalent building like this one.

The Problem: Housing prices are very high In San Francisco the Median Priced Home sells for $735,000 In Santa Clara County “the suburbs”, the Median Priced Home sells for $670,000 Source: San Francisco Chronicle, October 2, 2005

That means housing payments for these median priced homes in Santa Clara County are $3,800 per month, $45,000 per year, or $125 per day! (Assuming a 30 year mortgage at 5.5 percent) The Problem: Housing prices are very high

High prices preclude many from buying

Why are prices high? Supply has not kept up with demand Are we running out of land?  Housing is unaffordable because of zoning laws (Harvard/Wharton study)  “Exclusionary” zoning laws mandate minimum lot sizes, minimum density, and other restrictions that prevent the market from supplying more housing

The proposed solution Inclusionary zoning  A mandatory inclusionary zoning ordinance as practiced in California is an affordable housing mandate that requires builders to sell a certain percentage of their homes at below market rates

The goals of inclusionary zoning The program is touted as a way to make housing more affordable The program is touted as a way to provide housing for all income levels, not just the rich Helps create diverse socio-economic communities

How inclusionary zoning ordinances work Varies by city, but most California ordinances require percent of new units to be sold at prices affordable to low income families (defined as a certain percentage of median income) For example, in Tiburon, California a low income family can only afford to pay $109,800 for a home so:  10 percent of new homes in Tiburon must be sold at $109,800  90 percent can be sold at market rates

Where do they have it? Most popular in California Also in place in New Jersey, Virginia, and Maryland and are being considered in many other places including DC, Chicago and New York

California cities with inclusionary zoning ordinances

What are the results?

Examples of below market rate developments

Examples of below market rate developments

Looks good right? Many people say the programs are a success and should be implemented in more cities

Assessing inclusionary zoning How do advocates measure success? What evidence do they provide that the ordinances are good? What’s the normative standard?

Number of inclusionary zoning ordinances in the Bay Area

Role of Economic Analysis Just because a policy is becoming more popular does not mean it is a good idea Hoping something is a good idea does not make something a good idea Some policies may not be the best means of achieving the desired ends of increasing housing affordability

Role of Economic Analysis Inclusionary zoning sounds good to many people, but my coauthor and I decided to investigate the actual results of the policy rather than just looking at the expressed intent What does economics have to say?

Some research questions Is inclusionary zoning helping increase the supply of affordable housing in California? How costly is inclusionary zoning? Are there any drawbacks that have not been considered?

First let’s compare an estimate of housing need to how many units inclusionary zoning produces

Association of Bay Area Government’s Estimated Affordable Housing Need by City

How many units does inclusionary zoning produce?

Need versus actual production of affordable units by Bay Area city

Need versus actual production of affordable units by Bay Area city Fewer than 7,000 units in 30 years Only 228 Annually Average city produces fewer than 15 per year after adopting a program

Production Compared to Need

Why does inclusionary zoning do a poor job? Despite its attractive sounding name, inclusionary zoning is nothing more than a price control If economists agree on anything, its that price controls (price ceilings) on housing reduce the quantity and/or quality of housing supplied

Economics of Affordable Housing Mandates Price ceiling on a percentage of units Essentially a tax on the remainder of units Increases prices for the vast majority of homebuyers Decreases quantity of housing produced

Economics of Affordable Housing Mandates Price ceiling on a percentage of units Essentially a tax on the remainder of units Increases prices for the vast majority of homebuyers Decreases quantity of housing produced

Inclusionary Zoning Creates Two Markets: First the Price Controlled Market PRICE OF HOUSING QUANTITY OF HOUSING Affordability Control Supply of Housing Demand for Housing P1 Qs w/ control Qd w/control Qs w/out control= Qd w/out control

Inclusionary Zoning Creates Two Markets: First the Price Controlled Market PRICE OF HOUSING QUANTITY OF HOUSING Affordability Control Supply of Housing Demand for Housing P1 Qs w/ control Qd w/control Qs w/out control= Qd w/out control Shortage

Economics of Affordable Housing Mandates Price ceiling on a percentage of units Essentially a tax on the remainder of units Increases prices for the vast majority of homebuyers Decreases quantity of housing produced

Inclusionary Zoning Creates Two Markets: Second the “Market” Rate Units PRICE OF HOUSING QUANTITY OF HOUSING Supply of Housing Demand for Housing P1 P w/ tax (for market buyers) Supply of Housing w/ IZ tax Q1Q w/ tax

Our research was the first attempt to quantify the cost of the program Without knowing the cost of a program policymakers have little idea whether better ways of helping low income households exists

Sample Calculations of Cost Associated with Providing Units for “Low” Income

Average cost associated with selling each price controlled unit

Average cost associated with selling each price controlled unit times the number of units

Who pays for the below market units? Because government does not write a check for the below market units, the affordable housing mandate is essentially a tax on new housing:  There is no free lunch here but unfortunately the tax is hidden  This hidden tax must be borne by some combination of market rate homebuyers, builders, and landowners

Inclusionary Zoning Acts as a Tax on New Homes (Cost per BMR unit)(% BMR Units) = Tax Per Market Unit (% Market Units) For example in Mill Valley one out of ten units must be sold at a lost of $750,000 so: ($750,000)(10%) = $83,000 Tax Per Market Rate Unit (90%) In other words, in a 10 unit development the $750,000 cost would be spread over the 9 market rate units.

Inclusionary Zoning Acts as a Tax on New Homes (Cost per BMR unit)(% BMR Units) = Tax Per Market Unit (% Market Units) For example in Mill Valley one out of ten units must be sold at a loss of $750,000 so: ($750,000)(10%) = $83,000 Tax Per Market Rate Unit (90%) In other words, in a 10 unit development the $750,000 cost would be spread over the 9 market rate units.

Inclusionary Zoning Acts as a Tax on New Homes (Cost per BMR unit)(% BMR Units) = Tax Per Market Unit (% Market Units) For example in Mill Valley one out of ten units must be sold at a loss of $750,000 so: ($750,000)(10%) = $83,000 Tax Per Market Rate Unit (90%) In other words, in a 10 unit development the $750,000 cost would be spread over the 9 market rate units.

Inclusionary Zoning Acts as a Tax on New Homes What is the magnitude of the tax in San Francisco Bay Area cities?

Effective tax imposed on new market-rate units caused by inclusionary zoning

Economics of Affordable Housing Mandates Price ceiling on a percentage of units Essentially a tax on the remainder of units Increases prices for the vast majority of homebuyers Decreases quantity of housing produced

Increases in Price of New Homes Caused by Inclusionary Zoning (Under Three Different Assumptions About Who Bears the Costs

Important lessons that are difficult to convey to advocates of affordable housing mandates Taxes on a product makes that product more expensive Affordable mandates act as a tax on housing and make market rate homes more expensive

Economics of Affordable Housing Mandates Price ceiling on a percentage of units Essentially a tax on the remainder of units Increases prices for the vast majority of homebuyers Decreases quantity of housing produced

How do price controls influence the amount of new construction? We looked at data over the past 30 years to compare housing construction in each city before and after the imposition of inclusionary zoning.

Production in San Francisco Bay Area

Production in Southern California

If those decreases are indeed attributable to the price controls the value of homes not built because of price controls (over a 7 year period in 8 Southern California Cities) $11,000,000,000

Example of Fort Ord

1 Year for Bay Area Comparing the increase in "affordable" units to the overall decrease in new construction associated with inclusionary zoning

7 Years for Southern California

Our report has been moderately successful at putting some constraints on the claims by those who advocate inclusionary zoning Advocates of price controls no longer claim inclusionary zoning is a full solution as they used to, but those who still advocate the ordinance claim it’s a partial solution. They say that producing a few units is better than none They say at least it can benefit a few people

Some remaining questions Still are “inclusionary” units as good as the advocates say? Even though inclusionary zoning does not benefit most people, could it at least benefit me?

Some remaining questions Still are “inclusionary” units as good as the advocates say? Even though inclusionary zoning does not benefit most people, could it at least benefit me?

$300,000 Looks like a great deal right?

$300,000 Looks like a great deal right? What advocates of inclusionary zoning often fail to tell people:  this San Francisco condo will have resale price restrictions for the next 55 years  I am age 30, so that means I would be able to sell it at market rate when I am age 85  Meanwhile, the already higher market rate units appreciate at normal rates creating further disparity between neighbors

Other questions aspects of affordable housing mandates Is it really ownership if a person cannot gain any appreciation? Is it really ownership if a person cannot give their home to their children unless their children are also low income? Is a program that creates two tiers of ownership really good for low income families? How costly are these programs to monitor? What will be the long run effects?

What do “owners” of these price controlled units have to say?

How Should We Deal With High Prices? Worst Idea….price controls Inclusionary zoning has many problems that will only get worse over time Inclusionary zoning does not address the real reason why housing has become so unaffordable

How Should We Deal With High Prices? Worst Idea….price controls! Inclusionary zoning has many problems that will only get worse over time Inclusionary zoning does not address the real reason why housing has become so unaffordable

PRICE OF HOUSING QUANTITY OF HOUSING Affordability Control Supply of Housing Demand for Housing P1 Qs w/ control Qd w/control Qs w/out control= Qd w/out control Just say no to price controls!

As an alternative to price controls how can we encourage more affordable housing? Better idea…

PRICE OF HOUSING QUANTITY OF HOUSING Supply of Housing 1 Demand for Housing P1 Q1 Allowing supply to keep up with demand

PRICE OF HOUSING QUANTITY OF HOUSING Supply of Housing 1 Demand for Housing P1 Supply of Housing 2 Q1Q2 P1 Allowing supply to keep up with demand

Real Solutions (as alternatives to price controls) Eliminate Exclusionary Zoning, Eliminate Growth Boundaries, Eliminate Permit Moratoria, and Eliminate Inclusionary Zoning….

My favorite quote on this subject “Production is the key for being able to have a wide range of housing options,” said Michael Houlemard, executive director of the Fort Ord Reuse Authority. “If we encourage production….that alone is going to either stabilize or drive down home prices in the area.” (The Californian, Salinas, CA, January 19, 2004)

My favorite quote on this subject “Houlemard draws his assessment directly from a study done by two San Jose State economists.” (The Californian, Salinas, CA, January 19, 2004)

DO AFFORDABLE HOUSING MANDATES WORK? EVIDENCE FROM CALIFORNIA Benjamin Powell, Ph.D and Edward Stringham, Ph.D. Department of Economics San Jose State University

DO AFFORDABLE HOUSING MANDATES WORK? EVIDENCE FROM CALIFORNIA Edward Stringham, Ph.D. Department of Economics San Jose State University Based on research with Ben Powell

Inclusionary Zoning Advocates Speak “The price of housing is not a function of its development cost. Rather, housing price, be it rents or sale prices, are solely a function of market demand” (David Paul Rosen 2004). “Even if their profits are not maximized, developers will still realize acceptable profits. Therefore, developers will still develop” (Padilla 1995). Institute for Local Self Government states that inclusionary zoning helps, “Offset the demand on housing that is created by new development.”

Advocates of inclusionary zoning speak “High enough density bonuses create affordable units at no cost to landowners, developers, or other homeowners” (Padilla 1995). "Most inclusionary rules are actively sought by developers, and can hardly be considered taxes" Dietderich (1996). “Developers often fail to participate because they do not understand the economics of the program” Kautz (2002).

Long-Term Controls Income Targeting Mobility Improvements Administration

Reaction to our research Research has been featured in over seventy papers, including favorable stories in San Francisco Chronicle, San Jose Mercury News, Sacramento Bee, and Miami Herald In the past twelve months the report has been downloaded from Reason’s website 73,364 times

Reaction The Critics:  “Their paper suggests that the “market” will solve our housing problems. Funny that it hasn’t yet!” - Gary Patton, LandWatch  “It theorizes but offers no proof, that developers pass the costs of the IH units to market-rate consumers... In reality, developers are not philanthropies and will charge the highest price the market will bear, with or without IH.” - Rob Wiener, California Coalition for Rural Housing.

Reaction The Best:  “At best, using IZ to provide low-income housing is at like fighting a forest fire with a garden hose. Under the harsh light this new study shines on the policy that hose may be spraying fuel, rather than water, on the fire.” - Daniel Weintraub, Sac Bee.

DO AFFORDABLE HOUSING MANDATES WORK? Benjamin Powell and Edward Stringham Reason POLICY STUDY 318 1Should I do Terry Anderson? 2 Fort Ord story “I know price controls are bad” The following two are in Monterey presentation in The notes section 3. Sam Farr story about gravity 4. Brain surgeon.