Considerations on Rent Control

Among economists, rent regulation seems to be in a similar situation as the minimum wage was 20 years ago. At that time, most economists took it for granted that raising the minimum wage would reduce employment. Textbooks said that it was simple supply and demand […]. Today it is clear that minimum wages do not reduce employment.

A number of recent studies have looked at the effects of rent regulations on housing supply, focusing on changes in rent regulations in New Jersey and California and the elimination of rent control in Massachusetts.

A 2007 study by David Sims and a 2014 study by Autor, Palmer, and Pathak both look at the effects of the end of rent control in Massachusetts, after the passage of Question 9 by Massachusetts ballot referendum in 1994.

Sims

• the end of rent control had little effect on the construction of new housing
• rent control decreased the number of available rental units, by encouraging condo conversions
• found significant increases in rent charged after decontrol, suggesting that rent control was effective in limiting rent increases
• rent controlled units had much longer tenure times, supporting the idea that rent control promotes neighborhood stability.

Autor and coauthors

• eliminating rent control also raised rents in homes in the same area that were never subject to controls, reinforcing the idea that rent control contributes to neighborhood stability.

A 2007 study by Gilderbloom and Ye of more recent rent control laws here in New Jersey finds evidence that rent controls actually increase the supply of rental housing, by incentivizing landlords to subdivide larger rental units.

A 2015 study by Ambrosius, Gilderbloom, and coauthors also looks at changes in New Jersey rent regulations. As with the previous study, they find that rent control in new Jersey has not produced any detectable reduction in new housing supply. […] many of these laws, because of their relatively generous provisions, in particular vacancy decontrol, only limit rent increases on a relatively small number of housing units.

[Study by Diamond McQuade and Qian in 2018 uses data from San Francisco, to look at the effect of mid-1990s change in rent control rules]. They suggest that while the law did effectively limit rent increases, and had no effect on new housing construction, it did have a negative effect on the supply of rental housing by encouraging condo conversions.

The main conclusions from this literature:

1. rent regulation is effective in limiting rent increases
   • although how effective it is depends on the specifics of the law
   • Vacancy decontrol in particular may significantly weaken rent control
2. there is no evidence that rent regulations reduce the overall supply of housing
   • They may, however, reduce the supply of rental housing if it is easy for landlords to convert apartments to condominiums or other non-rental uses.
   • limitations on these kinds of conversions may be worth exploring
3. rent regulations also play an important role in promoting neighborhood stability and protecting long-term tenants

Let me now turn to the question of why the textbook story is wrong. There are several features of housing markets and of rent control that help explain why the simple supply-and-demand model is inapplicable.

1. These arguments misunderstand the goal of rent regulation
   • In part, it is to preserve the supply of affordable housing
   • But it also recognizes the legitimate interest of long-term tenants in remaining in their homes.
   • Just as we have a legal principle that people cannot be arbitrarily deprived of their property, and just as many local governments put limits on how rapidly property taxes can increase, a goal of rent control is to give people similar protection from being forced out of their homes by rent increases.
2. there is a social interest in income diversity and stable neighborhoods
   • in the absence of rent regulation, turnover among tenants will be higher, leading to less stable communities and discouraging investment by renters in their neighborhoods.
   • The absence of rent regulation may also create political obstacles to efforts to increase housing supply, attract new employers, or otherwise improve urban areas, since current residents correctly perceive that the result of any improvement may be higher rents and displacement.
   • Rent regulation removes these conflicts between the social interest in thriving, high-wage cities and the interests of current residents.
3. rent regulations in general affect only increases in rents
   • When a new property comes on the market, landlords can charge whatever the market will bear.
   • And when they make major improvements, again, most existing rent regulations […] allow them to recapture those costs via higher rents.
   • what rent control is limiting are the rent increases that are not the result of anything the landlord has done–the rent increases that result from the increased desirability of a particular area, or of a broader regional shortage of housing relative to demand.
   • There is no reason that limiting these windfall gains should affect the supply of housing.
4. in many high-cost areas, housing supply is relatively fixed
   • The reason that existing homes in many large cities cost multiple times more than the costs of construction, is that the ability to add new housing in these areas is very limited, by some mix of regulatory barriers like zoning, and physical or economic barriers. In economist’s terms, the supply of housing in these areas is inelastic
   • In a setting where the supply of new housing is already limited by other factors […] rent regulation will have little or no additional affect on housing supply.
   • Instead, it will simply reduce the monopoly profits enjoyed by owners of existing housing.
5. housing is very long-lived
   • the average age of a tenant-occupied residential structure in the US is 42 years.
   • Most business investment is expected to repay its costs in less than 10 years.
   • Housing construction may have a longer payback period–as we know, much construction is financed with 30-year mortgages.
   • But the rents 40 or more years in the future are simply not a factor in the construction of new housing. This means that there is a great deal of space to regulate the rents on existing housing without affecting the decision to build or not build.

The bottom line is that rents in the everyday sense are often also economic rents. When economists use the term rent, they mean a payment that someone receives from some economic activity because of an exclusive right over it, as opposed to contributing some productive resource. When a landlord gets an income because they are lucky enough to own land in an area where demand is growing and new supply is limited, or an income from an older building that has already fully paid back its construction costs, these are rents in the economic sense. They come from a kind of monopoly, not from contributing real resources to production of housing. And one thing that almost all economists agree on is that removing economic rents does not have costs in terms of reduced output or efficiency.

Finally, I would like to offer a few design principles for rent regulation, based on my read of the literature.

1. rent control needs to be combined with other measures to create more affordable housing
   • The main goals of rent regulation are to protect renters' legitimate interest in remaining in their homes; to advance social interest in stable, mixed-income neighborhoods; and to curb the market power of landlords.
   • Other measures, including subsidies and incentives, reforms to land-use rules, and public investment in social housing, are needed to increase the supply of affordable housing. These two approaches should be seen as complements.
2. there are good reasons that most existing rent control focuses on rent increases rather than the absolute level of rents.
   • Rent control structured this way allows new housing to claim the market rent, giving the developer a chance to recover the costs of construction.
   • Rent increases many years after the building is finished are more likely to reflect changes in the value of the location, rather than the costs of production.
   • From the point of view of allowing existing tenants to remain in their homes, it also makes sense to focus on increases
3. since rent regulation is aimed at the monopoly rents claimed by landlords, it should allow for reasonable rent increases to reflect increased costs of maintaining a building.
   • there is a danger that landlords will engage in unneeded improvements if this allows them to raise rents more than they would otherwise be allowed to.
   • A natural way to balance this is to adjust the allowable rent increase each year based on some measure of average costs or a broader price index
4. for rent control to be effective, tenants also need to be protected from the threat of eviction of other pressure from landlords
   • To give renters genuine security in their homes, they need an automatic way to renew their lease, unless the landlord can demonstrate nonpayment of rent or other good cause.
5. rent control is more likely to have perverse effects when the controls are incomplete
   • When rent regulations do reduce the supply of affordable rental housing, this is typically because they have loopholes allowing landlords to escape the regulations.
   • In particular, vacancy decontrol or allowing larger rent increases on vacancy significantly reduces the impact of rent control and may encourage landlords to push out existing tenants.
   • There is also some evidence that landlords seek to avoid rent regulation by converting rental units into units for sale.