Home Real Estate Rent Control Does Not Work—So Why Does the Government Insist on Making Landlords Follow It?
Real EstateTravel

Rent Control Does Not Work—So Why Does the Government Insist on Making Landlords Follow It?


It’s no secret that housing has gotten extremely expensive in the United States, both in terms of buying and renting. This chart should make that clear as day:

CPI: Rent of Primary Residence vs. Case-Shiller Index - St. Louis Federal Reserve
CPI: Rent of Primary Residence vs. Case-Shiller Index (2000 – 2023) – St. Louis Federal Reserve

Indeed, the same trend has taken place throughout the Western worldHousing affordability has become one of the greatest challenges facing governments worldwide. And it’s perfectly understandable that people find this issue important and want it addressed.

To address the affordability of housing, many restrictions have been passed throughout the United States on landlords, most of which either won’t help or will actually make the problem worse. Unfortunately, one of the proposed solutions is one that has been proven to fail time and time again: rent control.

A History of Rent Control

Rent control is a pretty basic idea. It simply caps the amount landlords can charge in rent or the amount they can increase rent each year. And indeed, some form of rent control has existed for a long time. 

John Willis has followed the history of rent control in the Cornell Law Review and even found some unverifiable references to it from Ancient Rome. In the early fourth century, Roman Emperor Diocletian put price controls on all sorts of things, so it wouldn’t be surprising if housing was included, but any documentation to prove that has been lost in the sands of time. 

As for documented cases, Willis finds the first such things in 15th-century Florence and 17th-century France. He notes that in the past, it was rarely some well-thought-out government policy to improve the welfare of its people but an ad hoc solution to a major dislocation, saying: 

“[In] almost every instance, the hand of the legislator has been forced by some calamitous event or situation which has upset the normal state of affairs—war, depression, earthquake, fire, plague, or some other vagary of history which either destroys the balance of supply and demand, thereby creating a housing shortage, or makes it impossible for tenants to continue to pay their contractual rents.”

One could also argue that the Catholic idea of the just price, a particularly influential idea establishing fairness in pricing during the Middle Ages, provided a theological instead of a legal implementation of various price controls. However, in a time when accurate information about the going rate of various items wasn’t always available and geographical challenges made it impossible to find alternative sellers, putting theological and moral restrictions to prevent sellers (or landlords) from exploiting their customers was a very good idea. 

And, of course, it still is today. You absolutely should not rip anyone off by overcharging them. That said, at the time, many peasants weren’t renters but serfs who were bound to their lord’s land and allowed to work on it in exchange for a portion of their harvest.

As for modern rent control, the first such laws in the United States were passed in the 1920s and became more widespread throughout the United States and Europe over the next few decades, particularly in New York. 

New York makes sense for being the focal point of rent control. Between 1900 and 1940, the population more than doubled. Much of the new housing was subpar, and the dilapidated tenements were immortalized at the turn of the century in Jacob Riis’ famous (or perhaps infamous?) photography and book How the Other Half Lives

While the housing was of poor quality and there was severe overcrowding, the increased demand from its growing population kept pushing rents and home prices higher. Thus, it’s understandable that rent control was put in place, even though it did not end up working.

The Urban Institute points out, “During the postwar 1950s housing boom, most cities abandoned this strict version of rent control, commonly known as first-generation rent control.” But then, in the 1970s, as popular sentiment leaned toward more government intervention in the economy, another round of rent control kicked off.

The Urban Institute says: 

“[T]hese second-generation policies were more moderate than the previous efforts. Unlike first-generation rent control, newer policies that allowed periodic rent increases tended to apply only to certain building types rather than to all tenant-occupied housing within a city. These second-generation rent-control laws, often referred to as ‘rent stabilization’ to distinguish them from stricter first-generation policies, were introduced in several large or growing coastal cities, especially in the Northeast and in California… Cities with relatively fixed housing stocks viewed rent control as an easy, available solution to immediately address affordability concerns. Policymakers wanted to ensure rent control laws benefited vulnerable tenants without reducing the quantity or quality of housing supply.”

That last bit is key because it became apparent quite quickly that rent control discouraged new construction and renovation. And the reason for this is good ol’ supply and demand.

Why Rent Control Does Not, Nor Ever Did, Work

In a typical market, supply and demand looks like the chart, where the amount of supply and the corresponding amount of demand for any given good determines its price.

supply and demand chart for rental housing

But when an artificial ceiling is put in place, it reduces the incentives businesses have to produce that product because there is obviously less money to be made in doing so. This means they pull back production and supply is decreased, even though demand has increased given the artificial ceiling on prices. Prices fall out of equilibrium. 

It looks like this: 

supply and demand chart for rental housing with rent control

The part in green is the reduction in supply the artificial ceiling creates. But it also creates artificial demand, as demand is higher at the controlled price than the market price. Thus, when price controls are put in place, there are almost always shortages and waiting lines. And this happens for housing in the same way it happens for any other product.

One good example of this effect in action is a study from the Brookings Institute, which found that:

“While rent control appears to help current tenants in the short run, in the long run, it decreases affordability, fuels gentrification, and creates negative spillovers on the surrounding neighborhood.”

Specifically, the Brookings Institute looked at Cambridge, Massachusetts, where rent control was in place between 1970 and 1994 before the city rescinded it. The results were quite elucidating:

“The economic magnitude of the effect of rent control removal on the value of Cambridge’s housing stock is large, boosting property values by $2 billion between 1994 and 2004. Of this total effect, only $300 million is accounted for by the direct effect of decontrol on formerly controlled units, while $1.7 billion is due to the indirect effect. These estimates imply that more than half of the capitalized cost of rent control was borne by owners of never-controlled properties. Rent-controlled properties create substantial negative externalities on the nearby housing market, lowering the amenity value of these neighborhoods and making them less desirable places to live. In short, the policy imposed $2 billion in costs to local property owners, but only $300 million of that cost was transferred to renters in rent-controlled apartments.” [Emphasis mine]

That’s quite the economic loss!

But the damage rent control does is even more apparent when it comes to new construction (although sometimes new builds are exempt from rent control). Putting caps on rents dissuades new construction in the first place, as it makes projects less economically viable. A study by the National Association of Home Builders found that rescinding rent control “contributed to faster supply growth in the ensuing years for rent-controlled communities.” 

Another 2019 Stanford study found rent control exacerbated San Francisco’s housing shortage. Indeed, pretty much every study finds this same result.

Overall, there are very few things that economists on both the right and left agree on more than that rent control does not work. A 1990s survey of 1,350 economists asked them if “a ceiling on rents reduces the quantity and quality of housing available.” In the survey, 93% said it did (76.3% wholeheartedly and 16.6% “with provisions”). 

The survey asked 40 other questions on all sorts of economic matters, and no other question had such a lopsided response.

This survey asked about both the quality and quantity of housing—because one way landlords can make properties economically viable with rent control is to skimp on repairs and upgrades. I remember walking into a friend’s apartment in a wealthy part of San Francisco and was shocked by how dated everything was. Then it hit me: This apartment is under rent control. That’s how the landlord makes it work financially. 

This point was made rather crudely in a report from the Frasier Institute, which analyzed six countries’ experience with rent control and found the costs to be high and rewards dubious in each case. The crude part was a running joke throughout the report, which showed pictures of wrecked buildings and asked if it was “bomb damage or rent control?”

After all, if there’s no money to be made with a property, there’s no good reason to maintain it. Overall, the evidence is pretty clear. Rent control doesn’t work.

Raising a Policy Corpse

Many activist groups have been pushing for a national renters bill of rights, and many states and municipalities have already passed such legislation. While laws are necessary to protect tenants from bad landlords, the things many of these groups want in these bills of rights are much more radical than that. 

One group, for example, wants to make a “major intervention that takes housing off the market and decommodifies it.” 

I’m not sure if that’s a push to return to Cabrini-Green-style public housing projects or outright communism, but either way, that public housing project in Chicago ended in disaster.

While I doubt things will go anywhere near that far, the Biden administration is proposing a blueprint for a Renters Bill of Rights. Most of it involves things like “clear and fair leases” and “resources to avoid eviction,” but there are also some not-so-subtle pushes toward rent control.

The point in this proposal that garnered the most attention was regarding the Federal Housing Finance Agency (FHFA) examining ways to cap “egregious rent increases.” 17 Senators wrote a letter to the FHFA asking them to limit rent increases on properties with Fannie Mae or Freddie Mac loans. 

This would be a financing-based form of rent control that, from what I understand, would be a completely new approach. But it would be quite an unfair one, as the rules of the game would have dramatically changed for only some property owners and not others. And the rules would have changed after they took out those loans—loans they likely would not have gotten had they known these restrictions were coming.

And, of course, this odd version of rent control being proposed should have the same sort of effects on the housing market as every other form of rent control or rent stabilization has had in the past.

What Is the Solution?

The solution to a housing shortage is quite simply to build more housing. You could also argue that immigration and general population growth will continue to exacerbate the issue indefinitely, but that’s a different conversation. Either way, no long-term solution to a housing shortage is ever going to work unless you build enough housing to satisfy existing demand.

Rent control makes building (and renovating unlivable units) more costly and disincentives it. Thus, it actually works against solving the housing crisis by dissuading investors, developers, and even DIY homeowners with thoughts of house hacking from building new properties and renovating current housing stock.

Other factors like overly arduous building codes also need to be eased. After all, it shouldn’t come as a surprise that California has one of the nation’s worst housing crises and also some of the most arduous building codes at the same time.

I think government-funded housing (such as LIHTC) tends to be more costly than market-funded properties. But given where interest rates are amid the rate hikes by the Federal Reserve, it’s probably a good thing to help finance new construction right now. Offering income support or rental assistance to struggling tenants or potential homebuyers could also help.

But messing with supply and demand never works. And it especially doesn’t work in housing. Hopefully, we won’t have to learn that lesson again.

Ready to succeed in real estate investing? Create a free BiggerPockets account to learn about investment strategies; ask questions and get answers from our community of +2 million members; connect with investor-friendly agents; and so much more.

Note By BiggerPockets: These are opinions written by the author and do not necessarily represent the opinions of BiggerPockets.



Source link

Leave a comment

Leave a Reply

Your email address will not be published. Required fields are marked *

Related Articles

Real EstateTravel

Did Western Wealth Capital Cost Investors Thousands of Dollars?

In this article Five years ago, on the BiggerPockets forums, the name Western...

Real EstateTravel

How Moving Overseas Made Me a Better Real Estate Investor

In this article Whenever I hop on a conference call, someone asks,...

Real EstateTravel

These 10 Markets Are Great Places to Find Fixer-Upper Properties—Here’s What You Need to Know

In this article With home prices and interest rates still at record...

Real EstateTravel

HSA vs. FSA and When to Drain Your Emergency Fund to Pay Off Deb

Want to know how to avoid capital gains on your next home...