Major Housing Problems

1. Slums, low quality, and high prices for poor people

2. Abandonment

3. Racial segregation

Overall Evaluation of American Housing

1. Americans are better housed than at any other time in our history.

2. The incidence of lack of all basic indoor plumbing has fallen from 55.4 percent to below 2.7 percent since 1940.

3. The over crowding rate has fallen from 9 percent with more than 1.5 persons per room in 1940 to 1 percent in 1980. Blacks experience twice the crowding rate (have lagged the improvement in the white crowding rate), but blacks have shown the most improvement since 1940.

4. The two most quantifiable measure of housing deficiency --crowding and inadequate plumbing--have been virtually eliminated by 1980

What Has Caused This Dramatic Improvement?

1. Real income per capita has increased 2 percent per year from 1940 through the early 1970s and have increased the demand for housing services.

2. But, since 1973 real income per worker have ceased increasing, although real income per capita has continued to grow because of the increase in the labor force participation rate, especially of women.

3. Increases in labor force participation rate have neared completion in the early 1990s, so that more labor force growth will be replacement of aging workers. Hence, earnings per capita are likely to stabilize unless earning per worker increases.

4. An increase in household income is essential to further increases in housing demand, but most of this increase is among above average income households. In fact, rents per household have increased from 20 percent of income in 1970 to 26 percent of income in 1991.

5. The percent of owner occupied housing has fallen during the 1980s with most of the renters concentrated in the low end of the income distribution. Higher rents and lower relative income among renters who have below average income has resulted in the rise in rents as a percentage of household income.

Housing Problems

1. Despite improvement in housing the worst-housed 5 to 10 percent of Americans, nearly all of them minorities, live in slum housing.

2. Many of the important social problems surround housing--abandonment, displacement, homelessness, and segregation.

Adaptation of the Housing Market

1. Since housing is a durable asset that is quite inflexible once constructed, it adapts primarily through its maintenance and depreciation to the housing market. This adaptation is accelerated through the "neighborhood effects" of surrounding housing.

2. Although individual dwellings are inflexible, housing demands are not. Hence, the rise in income may give rise to new housing and an upgrading of existing housing., but the cheaper way may be to retire existing low-quality housing through demolition.

3. The adaptation of the housing market to changes in area demand gives rise to neighborhood filtering and abandonment. Indeed, abandonment does not necessarily mean an inefficient housing market, but rather an efficient adaptation to changes in market demand.

Filtering model: price extremes are determined by the cost of new housing at one end versus the out-of-pocket maintenance spending at the other end.

1. Suppose and increase in income results in new housing at the upper end of available housing services. This increase in income results vacancies in existing neighborhoods that allow persons to move up the price-quality curve.

2. Without an increase in population growth, the demand for the lowest priced housing will fall until rents fail to cover "out-of-pocket" costs of landlords. They will abandon or retire the rental property unless variable costs are met and something is contributed toward fixed costs.

3. The abandonment or retirement takes place among the lowest rent properties in the slum areas of the city.

4. Abandonment or retirement is the greatest when slow population growth is accompanied by increased income that gives rise to new construction.

5. In areas with rapid population growth, the rent quality line is flatter, so that there is less difference among rental prices for the newest properties versus the older properties.

6. Higher rental values for existing properties also increase the incentive for property owners to maintain or "fix-up" older properties.

7. Durable, hard-to-alter houses and growing income result in an excess supply of low-quality housing and an excess demand for high-quality housing. With the increase in income since the 40s and 50s when many older houses were built, existing dwelling units must be either upgraded or retired and replaced with better houses.

8. About two-thirds of housing construction accommodates population growth while the other one-third replaces units retired from the stock. The more rapid the pace of construction, the more rapid is the pace of retirement.

Abandonment versus Retirement

1. The difficulty in analyzing abandonment is in determining whether or not it is permanent or temporary, i.e. landlord developers may be in the process of adapting to market by eventually reinvesting or retiring the property from the housing stock. In general, this is more likely in growth markets with a flatter rent-quality curve, since the cost of gutting and rebuilding is about 80 percent of the cost of new construction without demolition costs.

2. Abandoned dwellings occur in nearly every U.S. city where no one claims title. Abandonment is one way to retire a dwelling unit, as opposed to conversion or demolition and sale of vacant land or other forms of reinvestment.

3. Abandonment is a rational economic decision when current and prospective rental income fails to cover out of pocket costs and the value of land is less than demolition costs.

4. If successful in hiding ownership then property taxes are avoided. Sometimes the city demolished the property and places a lien on the property to cover demolition costs if the property is ever sold in the market.

5. Higher property taxes will not force development if the demand is insufficient to meet rents at current tax rates. Developers can cease to pay property taxes and lower costs by about one-third, losing clear title to the property. This is rational if the future value of the property does not warrant reinvestment.

6. Other factors contributing to abandonment are the decline in inner city land values due to neighborhood effects and out-migration of upper income families. Also, the federal tax code favors new housing more than old housing.

7. Estimates are that about 10 percent of dwelling unit retirements are abandonments that are vacant and dilapidated, as opposed to units retired by demolition, merger, or conversion to another use.

Policy Implications

1. Retirement (as opposed to abandonment) is a reflection of the adaptation of the housing market to changes in housing demand. Neighborhood filtering is very significant in upgrading housing quality for all residents.

2. Property taxation can have an adverse effect on properties ripe for abandonment, since properties in this segment are generally over assessed because of declining values. Reassessment of these properties to lower property tax burdens can reduce abandonment and save the city government the cost of dealing with abandoned properties.

3. Can changes in property tax valuations for inner cities reduce abandonment or simple relocate abandonment?

4. The Federal Tax code that favors new housing construction may provide benefits that filter downward, but it also speeds up the replacement cycle. Perhaps tax incentives for rehabilitation would be more efficient.

5. Policies to subsidize low-income housing demand will have less inflationary effects on housing markets with excess supply generated by filtering.

6. Abandonment has serious neighborhood effects that may be avoided, and the problem feeds on itself. Externalities may be so large that even cleared property has no market value.

7. Is there a point in which externalities outweigh any positive benefits that could accrue through individual incentives to invest in dwelling units?

Implications of Filtering

1. Older houses produce fewer services than newer houses, so that rents must fall to induce persons to pay their rent. Filtering is a natural process of deterioration and income growth.

2. Almost all unsubsidized construction is of high-income housing, because the demand based upon services provided must cover new construction costs.

3. The housing-cost savings resulting from filtering means that low-income persons must live where used housing exists, generally in central cities.

4. The location of people that is dependent upon income is highly correlated with racial segregation.

5. Neighborhood effects may accelerate the filtering process (white flight).

Neighborhood Effects

1. So far the quality of housing has been defined solely by its characteristics and location. However, externalities arise because of proximity of housing occupants to their neighbors.

2. Negative externalities result in suboptimum maintenance, since spillover effects reduce the incentive for household investment without a joint effort.

3. Neighborhood effects are likely to have the most serious consequences in the lowest income neighborhoods. Abandonment is concentrated in this area, and more of the housing stock is destined for retirement in the near future, reducing the landlord's incentive for maintenance.

4. Measurement of the neighborhood effects have been difficult to obtain statistically, although they appear to be obvious . The problem is that most neighborhood effects are extremely localized geographically, making it difficult to measure with even block statistics in a systematic way. Also, the neighborhood effect might be "swamped" by the influence of other quality variables that are highly correlated with its influence. (Multicollinearity).

Neighborhood Effects in Stable Neighborhoods

1. Because not everyone has the same attitude about nonconforming uses of land, it is possible that property values are not adversely affected by things, such as power lines or railroad tracks or adjacent high rise apartments.

2. As long as the marginal buyer exist that is unaffected by a nonconforming use, then the market price (on the margin) is unaffected.

3. Hence, there is little concern about neighborhood effects except in slum areas, especially since stable neighborhoods are more likely to have land use controls in place.

Neighborhood Attachment

1. Many of the problems regarding neighborhood effects occur when there is a change in the character of the neighborhood, but movements in response to changes impose high costs on households.

2. Many households are willing to endure substantial property value losses in familiar neighborhoods without moving to a strange new neighborhood. The same bias toward familiarity may result in unwillingness to move in response to higher wages in other communities.

3. External costs associated with change may result in considerable perceived adjustment costs on households that cannot be recovered in the resale price houses discouraging household mobility.

Racial Segregation

1. Racial segregation and racial discrimination are quite different concepts. Segregation comes from the physical separation of races into relatively homogeneous neighborhoods. Discrimination in housing refers to the situation in which housing is offered on different terms to blacks than to whites.

2. Urban housing markets are obviously segregated by race. Blacks occupy central cities and whites occupy white areas of the central city and the suburbs. This segregation is not fully explained by differences in income (only about one-third).

3. Even if segregation is voluntary, based upon preferences for living in homogeneous neighborhoods, it imposes significant costs on the black populations of our cities.

4. Black central city location reduces access to suburban jobs (including manufacturing) that have become increasingly suburbanized. It also precludes access to suburban schools.

5. Segregation measurement uses the dissimilarity index: It divides the sum of the difference between percent of blacks in each sub-area (census tract, blocks) and the area percentage of blacks times the number of persons in the sub-area Ni(bi - b) by 2Nb(1-b), where N is the population of the reference area, and multiplies by 100.

a. A value of 0 means that the neighborhood percentage is the same as the area percentage.

a. If the area has all blacks or whites, then the numerator is either Ni(1-b) or Ni b and the measure is the largest value or 100.

b. Problems with the measure are the determination of subarea boundaries and the determination of the reference area.

6. A study of segregation indexes among cities shows that the distribution of blacks in metropolitan areas is far from random. Furthermore, a comparison of the actual values of D with a generated value of D when households are sorted by levels of income shows that only about 30 percent of racial segregation can be explained by differences in income.

Discrimination

1. Theoretically, race discrimination cannot exist in a competitive economy. In labor markets discrimination is costly when wages do not reflect differences in productivity. In housing markets, a person who refuses to sell or rent to blacks would suffer an economic loss.

2. In the real world the competitive microeconomic model is inadequate in explaining discrimination in housing, job, and other markets, even though competitive forces do place some limits on black-white wage and price differentials.

3. One of the reasons that the competitive market will not completely eliminate discrimination is the lack of perfect information. Judgments about credit worthiness, future income prospects, etc. require risky decisions that are costly to obtain. Observation--race--is a readily obtainable proxy for costly information.

4. Racial discrimination in the job and housing market are illegal, but studies have shown that disparities between black and white housing gaps have narrowed even more slowly than the earnings gap. Nearly all studies show that blacks are discriminated against in home-mortgage applications, especially when they do not restrict their search to housing in neighborhoods of their own race.

5. Formal theories of black versus white housing markets assume that both live on separate islands without any interaction of supply and demand. With interaction, these models have shown that blacks pay a premium to live near whites while whites expect a discount to live near blacks.

6. Concentrating on this boundary, if blacks pay a premium and whites pay a discount, then a we would expect conversion to occur until price differences are eliminated. If so, how quickly?

a. Ethnic neighborhoods (strong white attachment) have been more resistant to conversion than nonethnic neighborhoods.

b. The greater the difficulty of altering housing to satisfy black demand in response to lower relative income, the greater the sustainable price difference.

c. The greater the rate of population growth in the black area (ghetto) the greater the pressure on boundary prices.

7. Regression studies show that blacks were paying significant rent premiums for the same quality of housing relative to whites in the late 1960s and early 1970s, More recent studies have shown that these rent differentials have been largely removed.

Homelessness

1. We touched on the homeless in our discussion of poverty. There are about 750,000 homeless in the U.S. according to a "best quess" estimate. Homelessness emerged as a public issue in the 1980s. Why not sooner?

2. The rising inequality of earnings in the 1980s may have caused persons to drop out of the labor force and become more dysfunction (alcoholism, etc.)

3. Homelessness is not a housing problem. Most cities have excess housing, but should cities become involved in constructing shelters for the homeless? A big issue recently in Dallas.

HOUSING POLICIES

Housing policies can be classified according to which group is affected and/or according to whether it is supply oriented or demand oriented.

Owner-Occupied Housing

1. The most important housing program quantitatively is the favorable tax treatment afforded to home owners. Estimates are that the rate of home-owned occupancy has increased about 15% in response to tax advantages.

2. Tax subsidies for new construction can benefit lower income renters through the filtering model, and some government policies have directly benefited lower income households (especially first time home buyers) by increasing the affordability of housing purchases through low down payment/low interest mortgage loans guaranteed by the government or from funds generated by tax-exempt government bonds.

Housing the Poor:

There is no federal housing policy, only goals that are administered by local housing authorities. These goals are to (1) improve housing quality for low-income people; (2) improve or remove slum neighborhoods; and (3) eliminate racial discrimination in the housing market.

Supply Based Subsidies

1. Urban renewal and public housing, first instituted in 1937. The federal government provided subsidies to local and state governments for construction of public housing projects.

2. Local housing authorities own and operated the units, renting them out at below full cost to low income persons. There is no entitlement or horizontal equity guaranteed.

3. Support for public housing comes from the construction industry, but it has been criticized by social scientists and economists. Some of the units have been sold or demolished and new projects are not being built, although congress has funded large-scale rehabilitation of public housing in the early 1990s.

4. Section 236 of the 1968 Housing and Urban Development Act provided interest subsidies to private developers of low-income rental properties. This was later replaced by Section 8 of the 1974 Housing and Community Development Act.

Demand Based Subsidies

1. Section 8 subsidies provides a housing subsidy to an eligible household if a "standard" rent is more than 30 percent of their income. The government provides the difference in what is a pure income transfer if the family already lives in an eligible Section 8 unit.

2. If an eligible household does not live in an eligible Section 8 unit they must move in order to receive the benefit.

3. The side benefit of Section 8 is the incentive by landlords to maintain properties that meet housing codes as well as to rehabilitate existing units in order to qualify. Participants also have an incentive to seek the cheapest housing available that qualifies.

4. There have proposals to go to a pure voucher system (Housing Certificate Program) as opposed to present Section 8 subsidies only for qualifies housing units.

Housing Allowances (Vouchers)

1. Vouchers would be an entitlement designated for housing available for all eligible households.

2. It would be based upon income levels as opposed to the difference between 30 percent of income and some "fair market rent" used as a local standard.

3. The amount spent on housing would be more variable if a household elected to spend a higher proportion of their own income on housing in order to elect higher housing services.

4. In general, demand based programs work best when there is a supply of housing through filtering. It is more efficient than supply based policies and has not had as much of a rent inflation impact as expected in areas that have experimented with a voucher system.

Rent Control

1. Rent control is designed to help low income renters by placing a statutory ceiling on annual rent increases.

2. The benefit of rent control is that it lowers housing cost to some persons, but the cost of rent control is that it adversely affects the supply of rental housing, especially since the supply of becomes more elastic in the long-run.

3. Landlords limit supply in the short run by ignoring maintenance. Rent control increases the incentive for abandonment and demolition and reinvestment by landowners.

4. What happens when rents below market clearing levels are faced with tenants that move out? If allowed to raise rents then this encourages landlords to force current tenants out as fast as possible. Also, present tenants have a strong incentive not to move which can adversely affect mobility.

5. If demand exceeds supply too much an underground sublease market will develop.

6. In general, the only beneficiaries of rent control are those that have leases at the time the law is adopted. Subsequent renters (even if poor) do not benefit and owners experience a transfer of income to initial tenants.

Why Subsidize Housing?

1. The public donor (taxpayer) knows what's best for households and prefers giving money for housing rather than for income transfers.

2. Housing is a merit good that gives more benefits than household realize, causing them to undervalue housing when making consumption decisions.

3. Subsidies are necessary to restore efficiency in a market that does not work smoothly because of capital market imperfections.

4. There are substantial externalities that result in spillover costs when households spend too little money on housing.

5. Donors are simply unaware of the high cost of housing programs compared to the benefits, especially in the case of supply based subsidies.

6. Certain groups (construction industry) is an important beneficiary that impacts on the economy.