Lecture 3B: Housing. Instructor: Hiroki Watanabe Summer 2012

Transcription

1 Econ 460 Urban Economics Lecture 3B: Housing Instructor: Hiroki Watanabe Summer Hiroki Watanabe 1 / 51 1 Housing Market 2 National Policy on Housing 3 Social Policy 4 Subprime Mortgage Crisis 5 Now We Know 2012 Hiroki Watanabe 2 / 51 1 Housing Market Cheesecake vs House Hedonic Price Housing Supply Abandonment Housing as Property Speculation 2 National Policy on Housing 3 Social Policy 4 Subprime Mortgage Crisis 5 Now We Know 2012 Hiroki Watanabe 3 / 51

2 Cheesecake vs House C.f. O Sullivan [O S08] Chpt 13, 14. Differentiated: dwellings differ in size, age, style, features, location Yet competitive Durable: Deterioration rate depends on maintenance and repair decisions Large fraction of consumer expenditure 40%. Slow supply adjustment Hiroki Watanabe 4 / 51 Hedonic Price Hedonic price measures increase in rent due to a unit increase in certain attributes of a house (c.f. Lecture 1D). St. Louis housing market in the 1960s (See [KQ70]) Hiroki Watanabe 5 / 51 Hedonic Price Rental # of Bathrooms # of Rooms (log) Age Q of Proximate Properties Interior Quality Hedonic Price 2012 Hiroki Watanabe 6 / 51

3 Hedonic Price Owned # of Bathrooms # of Rooms (log) Age Q of Proximate Properties Interior Quality Hedonic Price 2012 Hiroki Watanabe 7 / 51 Hedonic Price Other factors that could affect rent: Positive proximity to jobs, schools, transit stations, churches Negative crime, toxic waste, noisy highways, airport(?) 2012 Hiroki Watanabe 8 / 51 Housing Supply Housing supply is inelastic in the short run elastic in the long run Supply adjusts slowly. 2-3% annual new construction 2012 Hiroki Watanabe 9 / 51

4 Housing Supply Demand Short term Supply Rent ($) 0 0 Housing Units 2012 Hiroki Watanabe 10 / 51 Abandonment New construction shifts the provision level to the right. What causes the provision level to shift the opposite direction? 1 Boarding up: 1 Expected price hike 2 The opportunity cost of holding assets in other forms becomes high. 2 Conversion: to office, a store, or a parking lot. 3 Abandonment: none of the above Hiroki Watanabe 11 / 51 Abandonment Declining income from property and constant property tax Abandon when Income < Property tax A flexible property tax declines with income, prolonging use Externalities from abandoned buildings: Eyesores and crime havens Broken windows theory 2012 Hiroki Watanabe 12 / 51

5 Housing as Property Speculation Stylized facts about housing: Residential investment leads the business cycle. Depreciates more slowly than business capitals. Compared to business stocks, houses are much harder to diversify the investment with Hiroki Watanabe 13 / 51 1 Housing Market 2 National Policy on Housing Overview Tax Policy Social Policy 3 Social Policy 4 Subprime Mortgage Crisis 5 Now We Know 2012 Hiroki Watanabe 14 / 51 Overview Discussion 2.1 (Housing Policy) No government supports your purchase of cheesecake. Nonetheless, there are a number of federal assistance available for housing. Listen to the KWMU Clip and list the public policies that help housing consumption. What is the rational behind these policies? 2012 Hiroki Watanabe 15 / 51

6 Overview Two targets: 1 Tax policy to promote long-term home ownership ($66B to mortgage subsidy) 2 Social policy to improve low-income populations housing ($30B annually) 2012 Hiroki Watanabe 16 / 51 Tax Policy 1 Mortgage interest deduction Housing is preferred collateral (against cars etc) Encourages home ownership 2 Property tax deduction New York: Elasticity(abandonment, property tax) = Hiroki Watanabe 17 / 51 Tax Policy 3 Capital gains exclusion Capital gains (sell the house at the higher price than you bought it for) Tax deductible if you owned the house for more than 3 years. 4 No tax on imputed rent The landlord has to pay the income tax on the rental income. If you own a house, you pay the rent to yourself, but this hypothetical rent (imputed rent) is exempt from the tax on rent. 1 If Liz and Kenneth live in their houses, no tax on rental income. 2 If they switch their residences, they have to pay tax Hiroki Watanabe 18 / 51

7 Social Policy Low-income populations tend to overlook housing. Imperfect capital market Hiroki Watanabe 19 / 51 Social Policy Question 2.2 (Cost and Benefit of Social Policy) Typical housing policy for low-income households includes 1 public housing 2 subsidy for private housing 3 housing voucher Which is the most preferred policy for low-income households? Which policy is most cost effective? 2012 Hiroki Watanabe 20 / 51 1 Housing Market 2 National Policy on Housing 3 Social Policy 1. Public Housing 2. Subsidies for Private Housing 3. Housing Vouchers Efficiency 4 Subprime Mortgage Crisis 5 Now We Know 2012 Hiroki Watanabe 21 / 51

8 1. Public Housing 1 Public housing policy: About 1.3M households budgetary cost about $7M Managed by local housing authorities Rent no greater than 30% of recipient income 2012 Hiroki Watanabe 22 / Public Housing Example utility maximization problem: max s,z (s, z) = sz subject to m ps + z. MRS at (s, z) is z s. Optimal bundle is (s, z ) = m 2p, m. 2 Policy target: (s p b, z p b ) =.3m,.7m. p p b 2012 Hiroki Watanabe 23 / Public Housing What happens if the tangency condition is violated? What is the price p p b that is consistent with tangency condition? MRS(s p b, z p b ) = zp b =.7m = 7pp b [house/basket] s p b.3m/p p b 3 Relative price = p p b [house/basket] The ray from (0, m) will never be tangent with indifference curves on z =.7m Hiroki Watanabe 24 / 51

9 5 1. Public Housing Indifference Curve Budget Constraint Targeted Policy Composite Goods (z) Housing Consumption (s) 2012 Hiroki Watanabe 25 / Public Housing There is no p p b that meets the tangency condition. Marginal rate of substitution not revealed Possible catastrophe: Pruitt-Igoe in St. Louis Hiroki Watanabe 26 / Public Housing 2012 Hiroki Watanabe 27 / 51

10 1. Public Housing (a) (b) Figure: Hiroki Watanabe 28 / Subsidies for Private Housing 2 Subsidies for private housing: Subsidies for Private Housing: Section 8: the govn t pays the difference betw the household s rent and the fair market rent. Tangency condition will be met. Optimal bundle m 2p, m Hiroki Watanabe 29 / Subsidies for Private Housing Indifference Curve Budget Constraint BC w/ Subsidy Composite Goods (z) Housing Consumption (s) 2012 Hiroki Watanabe 30 / 51

11 2. Subsidies for Private Housing Can backfire if housing consumption is Giffen (reduction in price leads to reduction in housing consumption) Hiroki Watanabe 31 / Subsidies for Private Housing 10 8 Budget Constraint BC w/ Subsidy Composite Goods (z) Housing Consumption (s) 2012 Hiroki Watanabe 32 / Housing Vouchers 3 Housing vouchers: Tangency condition will be met. Plus, the gov t can realize the minimum housing quantity Hiroki Watanabe 33 / 51

12 3. Housing Vouchers 15 Indifference Curve Budget Constraint BC w/ Voucher Composite Goods (z) Housing Consumption (s) Hiroki Watanabe 34 / Efficiency Under some conditions, market equilibrium is efficient (1st fundamental theorem of welfare economics). Recall: 1 Consumer surplus: The differential betw what consumers are willing to pay and what they actually pay. 2 Producer surplus: The differential betw producers (marginal) cost and what they actually sell their products for. 3 Total surplus = consumer surplus + producer surplus 2012 Hiroki Watanabe 35 / 51 Efficiency 2012 Hiroki Watanabe 36 / 51

13 Efficiency Do vouchers increase the total surplus (i.e., more efficient than the economy without vouchers?) 2012 Hiroki Watanabe 37 / 51 Efficiency 2012 Hiroki Watanabe 38 / 51 Efficiency TS = 16 to TS = 25? Somebody has to finance vouchers Hiroki Watanabe 39 / 51

14 Efficiency 2012 Hiroki Watanabe 40 / 51 Efficiency Government outflow = 2 5 = 10. TS = CS + PS+ gov t budget balance. TS = = 15 < TS. Poltical intervention incurs the deadweight loss (net loss) of $1. Ramsey rule: deadweight loss is small for an inelastic market Hiroki Watanabe 41 / 51 1 Housing Market 2 National Policy on Housing 3 Social Policy 4 Subprime Mortgage Crisis 5 Now We Know 2012 Hiroki Watanabe 42 / 51

15 1993: low interest rate expanded the loan market to reach out to borrowers with low credit ratings (subprime mortgage). Mortgage: a loan secured by houses (preferred collateral) banks sell mortgage to investors (mortgage-backed securities) Poorly communicated to borrowers and investors. High risk of default offset by high interest rate. Disguised in a combination of other securities Hiroki Watanabe 43 / 51 Default was avoided by taking out home equity loan. Home equity loan (second mortgage): Loan arranged based on home equity (= housing value less mortgage payments) How do we determine housing value? 2012 Hiroki Watanabe 44 / 51 A dollar in July is different from a dollar in August. Suppose that monthly interest rate is (=.05 for example). Month Jul Aug Sept $1 in Jul 1 1(1 + ) 1(1 + ) 2 $1 in Sept (1+ ) 2 1+ Real-time monthly rent r 7 r 8 r 9 Value as of Jul r 7 r 8 1+ The value of house is the sum of discounted present values: DPV = r 0 + r r 2 (1 + ) 2 + r 3 (1 + ) 3 +. r 9 (1+ ) Hiroki Watanabe 45 / 51

16 The equity finance scheme above works as long as housing price keeps going up. But it did not. Aggregate-level high delinquency rate. Moral hazard: gov t expected to bail out, if things went too bad. Speculators will not incur the full cost. Liz being prudent would increase Kenneth s welfare (due to smaller gov t bail out). Kenneth wouldn t have to pay for it Hiroki Watanabe 46 / 51 1 Housing Market 2 National Policy on Housing 3 Social Policy 4 Subprime Mortgage Crisis 5 Now We Know 2012 Hiroki Watanabe 47 / 51 The nature of housing market Housing policy and its effectiveness Government intervention and its consequences 2012 Hiroki Watanabe 48 / 51

17 References [KQ70] John F. Kain and John M. Quigley. Measuring the value of housing quality. Journal of the American Statistical Association, [O S08] Arthur O Sullivan. Urban Economics. McGraw-Hill, Hiroki Watanabe 49 / 51 Map du Jour Source petewarden.typepad.com/searchbrowser/2010/02/ how-to-split-up-the-us.html 2012 Hiroki Watanabe 50 / 51 Index abandonment, 11, 12 broken windows theory, 12 capital gains exclusion, 18 discounted present values, 45 externalities, 12 Giffen goods, 31 hedonic price, 5 home equity, 44 home equity loan, 44 housing voucher, 20 imputed rent, 18 moral hazard, 46 mortgage, 16 Pruitt-Igoe, 26 public housing, 20, 22 second mortgage, see home equity loan subprime mortgage, 43 subsidy, 20, 29 voucher, Hiroki Watanabe 51 / 51