Real Estate Economics 156

Fred Foldvary

Why is Housing so Expensive in Silicon Valley?

by Erin Adrian.

How fast have housing prices grown?

During the past 23 years, housing appreciated at a 10% continuous rate.

How fast have wages grown? About 4%, nominal.

2000 median house price Santa Clara county $500,000.

2006: $750,000?

Demand has gone up, but prices depend on supply also.

Without restrictions, the supply of buildings is very elastic, since input prices don’t change much as quantity increases.

With a fixed amount of land, increasing demand raises the ground rent and price.

But with no restrictions, the higher price of land is spread over more units,

so the long-run supply of an apartment should be very elastic.

Housing units have increased much less than jobs.

People have to live further out, increasing commuting and congestion.

Density is not the cause, because other cities with similar density have lower r.e. prices.

Restrictions artificially reduce the amount of land available for development,

increasing the price.

Regulations also increase the cost of construction, increasing the price.

California, Bay Area, Silicon Valley have ever tighter restrictions.

Table, page 9.

The housing market does not suffer from any significant market imperfections.

As in other industries, government cannot know the changing information details about local real estate markets.

The intervention dynamic: one intervention leads to another.

Like rent control leading to regulations prohibiting condo conversions.

Common-law torts can prevent externalities such as nuisances.

What about housing for the poor?

The vacancy chain or housing ladder.

As some homeowners move up, they leave behind vacancies.

Low income move into the lowest levels.

Empirical studies confirm the concept.

Any increase in the housing stock is good for the poor.

1972: growth restrictions enacted in Petaluma.

Housing starts were restricted.

Newcomers spilled over to Santa Rosa.

Motivations for restrictions

Homeowners benefit from restricting supply.

Also, NIMBY.

Homeowners in effect form a cartel when they get government to restrict development.

Cartels are illegal unless the government does it.

Environmental concerns.

Open space for natural habitats is not the problem.

In a free market, there would just be more density elsewhere.

The problem is restrictions in those areas that are developed or can be.

There is also the urban enviornment, with congestion and pollution.

Market-based remedies rely on prices: tolls and pollution charges.

Instead, governments have enacted regulations, such as smart growth.

Artificial urban limits just shifts development elsewhere, often at greater cost.

Zoning sets minimum costs of production.

Maximum density, minimum lot sizes. Maximum heights.

For example, the city makes it illegal to rent a room.

Urban growth boundaries.

Single-room occupancy hotels have disappeared.

Low-income tenants lose, but also families that could use the income to pay a mortgage.

For example, Los Gatos, 30-foot height limit.

Residents who wish to move in have no voice.

In Houston, with no zoning, house and rental prices are low.

Silicon Valley median price: $730K

Houston median price: $210K

Zoning in the US began in New York City in 1916.

The U.S. Supreme Court upheld the authority of the government of Euclid, Ohio, to impose zoning in 1926 (Euclid v. Ambler Realty).

"Euclidian zoning," also called "traditional zoning," is so-named after that town and case, after which there was a huge increase in municipal zoning.

Jane Jacobs’s 1961 classic, The Death and Life of Great American Cities,

identifies four preconditions for the creation and preservation of vibrant, diverse cities:

(1) high densities of population and activities; (2) mixtures of primary uses;

(3) small-scale, pedestrian-friendly blocks and streets; and

(4) retaining old buildings mixed in with new.

These principles are directly at odds with the underlying presumptions of Euclidean zoning. Euclidean zoning and related subdivision regulations restrain density, separate primary uses, favor roadway designs based solely on traffic needs,

and ignore the preservation of older buildings.

Some governments have moved away from such traditional zoning, but zoning to a great extent still restrains density and separates out primary uses.

Most cities combine permits with zoning. A new development, even if it satisfies zoning requirements, has to apply for a permit and receive permission, after a hearing before a zoning commission and often also a public hearing.

I personally observed in Berkeley, California, a delay in the opening of a wine store after opposition was voiced in a public hearing.

"Overlay zoning" means there is some base zoning, and then additional zoning regulations are added or overlaid over the underlying regulations. An example is "historic overlay zoning" to preserve historic structures.

There will often be a district that is superimposed or overlaid over another district.

There is also "fiscal zoning." Such zoning extracts revenue from new residents that exceeds the cost of services to them. Minimum lot sizes and single-house zoning, for example, limits the population and therefore the demand for government services.

This and other zoning laws contribute to urban sprawl.

Fiscal zoning operates under the premise that no new local property uses be permitted if the extra government spending is greater than the extra tax revenues. This results in less housing for low-income residents.

Building codes. Construction methods, materials, housing appearance.

There are often cheaper alternatives that are just as safe.

Codes prevent builders from using new technology and styles.

Codes specify materials and methods rather than performance.

Creates a “Cadillac” effect.

Alternative: covenants, easements, homeowner associations.

Taxes favor retail stores over residences and industry.

Sales taxes lead to favoring retail and hotels, which provide revenue.

Residences can be a tax burden.

Industry only pays property tax, and less and less.

Overall impact in the US is to reduce manufacturing and increase imports.

Proposition 13 limited real estate taxes, so cities imposed developer taxes.

Developers are also required to build streets.

This makes housing more expensive.

Those who build get taxed, while those who let their lands lie idle are not taxed.

While to some extent this can be justified in having the infrastructure costs be borne by the new residents, it is much more efficient for society to avoid such special charges and levy a general property tax on land value for the entire community.

Prop. 13 and transfer taxes discourages moving, and existing housing is used suboptimally.

Environmental impact reports (EIRs).

Create uncertainty, delays, legal expenses.

Superfund: Santa Clara prohibits development on its 29 sites, 3000 acres.

Not all are dangerous.

Govt should clean them up, not having required previous users to.

Redevelopment agencies (RDAs).

They use eminent domain.

New housing often cannot accommodate those displaced.

Funding is from tax increment financing:

the RDA gets the higher property tax from increased property values.

The often “redevelop” sites that are not blighted.

Most of the funds do not go to more housing.

Mandatory low-income housing (inclusionary zoning).

Require some percentage such as 15 of development for low-income dwellings sold below the market price.

Developers make up the loss by raising the price of the other units.

Or they develop elsewhere.

“Rent control” does not really control land rent.

It controls who receives the rent.

It creates an underground market.

When a tenant moves out, the landlord may charge the market rental.

In Berkeley, there were condo conversions until stopped by law.

Some 9000 units were taken out of the rental market.

San Jose has a mild rent control for apartments built before 1979.

Appendix B - takings

Fifth Amendment: private property may be taken for “public use” with “just compensation.”

Restrictions that take most of the market value are takings.

But taxes and zoning are not takings.