Brandon Donnelly

Daily insights for city builders, delivered every morning at 6 AM ET. I’m Brandon Donnelly — a Toronto-based real estate developer and founder of Globizen. I’ve been writing here since 2013.

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Tag: rent control

  • Rent control and road pricing — economics is the study of choice

    Yesterday’s post tried to pit politics against the realities of how we know cities and economics work. So today, I thought I would share a set of memos from Howard Marks (of Oaktree Capital) titled Economic Reality, Political Reality (which he refers to as an oxymoron), and Shall We Repeal the Laws of Economics?

    In this last one, he specifically talks about things like price gouging (starting with the grocery industry) and apartment rent controls. Each is worth a full read when you have the time, but here I’ll leave you all with a few city building-related thoughts.

    Marks describes economics as the study of choice. And within these choices, there are many complicated moving pieces and second-order consequences. Take, for example, rent control in New York City. What rent control does is stop the free market from being able to freely set rents. The result:

    A person in favor of this arrangement would argue that it maintains affordability and diversity. What it means in purely economic terms is that some people who couldn’t afford to live in New York City if rents were set by free-market forces are able to live there if they’re lucky enough to secure an apartment with regulated rent. But other people who would like to live in New York City and can afford higher rents can’t do so because there are no apartments for them. And lastly, landlords that have apartments that are somehow unregulated can command higher rents than would be the case if additions to the supply of apartments weren’t being discouraged. It’s a matter of personal philosophy whether this is good or bad. But clearly, the laws of economics and the actions of free markets aren’t at work in New York City. Someone in government is making the decisions.

    Much like inclusionary zoning in the case of new housing, the tradeoffs with regulated rents are that you get (1) less overall housing supply and (2) more expensive prices for the people that can pay market rents.

    You could argue, as Marks suggests, that these are acceptable outcomes; but regardless of your opinion, there are real consequences to this policy decision. There’s no such thing as a “free lunch” in economics, and consequently there’s no such thing as no-cost affordable housing. The question is: Who pays?

    Going back to the topic of traffic congestion from yesterday’s post, Toronto’s general reluctance to implement any form of road or congestion pricing is also an economic choice. We have priced our roads so cheaply that demand is always going to outstrip supply. And this is expected. What we are experiencing today is a natural market outcome.

    Targeting bike lanes as part of the problem is meant to counter this by increasing road supply. Less bike lanes means more space for cars, right? But the second-order consequence of this choice is that you push people off their bikes (which take up less road space) and into cars (which take up more road space). So demand is also likely to increase.

    The stark reality of solving traffic congestion is that it will require greater change. It will mean fewer people driving, more people taking transit and biking, and the people who do continue to drive will have to pay more for it.

    Of course, this is not what any politician wants to talk about. As Marks says: “In the world of politics, there can be limitless benefits and something for everyone. But in economics, there are only tradeoffs.” The tradeoff we have decided to make is cheap roads in exchange for crippling traffic congestion.

  • Rents are lower, but what does that ultimately mean?

    Paris is the first city in France to implement some form of residential rent control. The first came in 2014 (enacted in the market in 2015), but this was later removed in 2017. The second came in 2019, and this current program remains in place until November 2026, at which time it will be reviewed.

    But given that it has already been in place for a number of years, people have started to analyze it’s effectiveness. Here is a study by Atelier Parisien d’Urbanisme (APUR) that was published this month.

    The report is in French, but I can tell you that, what they did, was compare the Paris region to 8 other cities in France — all of which do not have the same rent controls. They were: Aix-en-Provence, Grenoble, Marseille, Nantes, Nice, Strasbourg, Toulon, et Toulouse. These were allegedly chosen because their housing markets are thought to be similar to that of Paris’.

    What they found was that from July 2019 to July 2023, legislated controls in Paris lowered rents by approximately 4.2%, compared to where they would have been without any market intervention.

    At the same time, they noticed that these same controls seemed to become more effective over time. From July 2019 to June 2020, they lowered rents by 2.5%, but from July 2022 to June 2023, they lowered rents by 5.9%.

    Finally, they also found that the controls seemed to impact smaller places the most. For apartments between 8 and 18 m2, rents were 10.2% lower than expected during July 2019 and July 2023.

    This is all interesting stuff, but in many ways, it is expected. Rent controls are intended to depress rental growth. That’s the whole point. And based on this data from APUR, it is working in Paris.

    But the really tough questions pertain to the possible knock-on effects. If rents are 4.2% lower, but operating costs are now growing faster than rents, then this is a problem for the housing market. You’re on an unsustainable path.

    And if lower rents mean that fewer developers are going to build new housing, then this is also a problem, because less supply will eventually translate into more upward pressure on rents. I don’t know for sure that this is happening in Paris, right now, but these are crucial considerations.

    It’s never as simple as just looking at rents and thinking lower is better for long-term affordability.

  • Rent-controlled apartment

    It is estimated that about 1% of the total housing stock in New York City is rent controlled (2019 figure), which is something different than rent stabilized.

    Generally the way the former works is that you have to have been living continuously in the home since July 1, 1971, and the building itself needs to have been constructed before 1947. If this is the case, then in theory, you should have seen relatively minor rent increases over the years.

    This was the case for the late real estate agent, Alice Mason, who died at the beginning of this year at the age of 100:

    She never left the rent-stabilized [controlled?] apartment where she held her storied dinners, in a century-old building on East 72nd Street. (In Manhattan real estate parlance, it was a classic eight, a gracious prewar layout that included three bedrooms and two maid’s rooms.) In 2011, the developer Harry Macklowe bought the building for a reported $70 million and began to turn the units into condos, buying out the tenants to do so. But Ms. Mason refused to give up her apartment. When she moved there in 1962, the rent was $400 a month. At her death, it was $2,476. The apartment below her, in the same line, was recently on the market for just under $10 million.

    Green, Penelope. “Alice Mason, Real Estate Fixer and Hostess to the Elite, Dies at 100.” The New York Times, 13 Jan. 2024, www.nytimes.com/2024/01/11/style/alice-mason-dead.html.

    For better or for worse, this is an obviously awesome deal, and reason enough to never move and have family members move in with you before you die so that you can try and pass down this asset for generations to come.

  • New rental apartments in Toronto by year of construction

    “Your local self-inflicted housing criss ouroboros” tweeted this chart out over the weekend, showing the number of new rental suites completed in Toronto since 1900. The data is from Open Data Toronto and it does not include any condominiums. It also only includes apartment buildings with 10 or more suites (which would be most of the supply anyway).

    This chart is a good example of what we spoke about yesterday: “If you want to negatively impact new supply, cap rental growth.” And that’s exactly what was done in the 1970s. But in reality, the changes were more broad than this. The 1970s saw a philosophical shift in the way Canada thought about new housing.

    Housing became rightly viewed as a basic human right. But because of this, the policy landscape shifted away from facilitating the private sector, to intervening and regulating the private sector. This included tax changes which negatively impacted new housing development and, yes, rent controls.

    Ironically, but not unexpectedly, this dramatically lowered the overall supply of new rental housing. To the point where we had effectively shut off the taps by the late 1990s. Thankfully, the condominium sector stepped in and started meaningfully delivering new housing — both for sale and for rent (via individual private investors).

    The supply of new condominiums in Toronto is not shown above, but there is no question that this (shadow rentals) has formed the vast majority of our new rental stock over the last two decades. But in my view, this shift was largely the result of policy decisions. We decided that we didn’t want the private sector building so many new purpose-built rentals, and so we told them to stop.

    It then listened remarkably well.

  • Two ideas for increasing the supply of new rental housing

    There are lots of ideas out there for how to improve the supply of new rental housing. But it is important to remember, at least here in our market, that the playing field is not level between new condominiums and new rental homes. We have spoken about this before, over here, where I compared the (per square foot) revenue generated from your average new condo against that generated by your average new rental home. Of course, since I wrote that post in 2020, we have seen upward pressure on cap rates (meaning downward pressure on values). So feasibility has gotten even more challenging.

    The important thing to remember is that developers do not have some philosophical aversion to building more rental housing; it is that the math is challenging. You generally need economies of scale (really big projects), patient long-term capital, and a belief that rents will continue to exhibit meaningful positive growth. If you want to negatively impact new supply, cap rental growth. But if you want to encourage new supply, somebody needs to pull out a development pro forma and make the call to improve the cost structure for new rental housing.

    In my opinion, two obvious line items to focus on are development charges (as well as the other government levies) and HST (our harmonized sales tax). The point of development charges, as we always talk about, is for growth to pay for growth. They are intended to pay for municipal services like roads, transit, water and sewer, and so on. In the other words, they’re supposed to capture of the cost impacts of new housing. But what about the impact of not building enough new rental housing? Are we thinking about this the right way? Especially if you consider the possibility of more new rental housing in our existing transit nodes.

    The HST charged on new rental housing is also significant. There is a new residential rental property rebate available to builders (not tax advice!), but the thresholds have not been indexed and so it’s grossly out of date compared to where values sit today. In any event, if the goal is more homes, why not make new rental homes exempt? Developers are simple. If the math works, they will build. If the math doesn’t work, they will not build. And these two line items, alone, would go a long way to helping the former.

    Photo by Pierre Châtel-Innocenti on Unsplash

  • The average wait time for a rent-controlled apartment in Sweden is now over 9 years

    I’m not all that familiar with Stockholm’s housing market, but according to this recent article, it would appear that, like most big cities, there isn’t enough affordable housing to go around. This is despite the fact that everyone in Sweden is technically entitled to it.

    As of December 2021, there were 736,560 people (in Sweden) in the queue for a rent-controlled apartment, resulting in an average wait time of about 9.2 years. So basically what you want to do is put yourself on the list as soon as you turn 18. And then hope that at some point in the future you’ll be granted an affordable apartment.

    Given this dynamic, it makes sense there would be a long waitlist. If everyone is entitled to a rent-controlled apartment, you are effectively giving people two options: pay the market price or put yourself on this list, wait for a decade, and then pay less than the market price.

    Why wouldn’t you at least try to pay less?

    The problem with this approach is that supply will almost certainly never keep pace with demand. It also appears to be fuelling a robust (and I guess illegal) secondary sublet market. Because if you have a below-market contract that is yours to keep forever and that lots of other people want, you have a valuable asset.

    Getting housing right certainly isn’t easy.

  • Artificially low property taxes

    A blog reader responded to yesterday’s post about rent controls (and inclusionary zoning) with an excellent point: If you’re against rent controls, then you must also be against artificially low property taxes for homeowners. And I would agree with this.

    One of the points I was trying to make yesterday was that if you’re in a situation where your revenue is capped but your operating expenses are free to grow based on the market, then you are likely heading down an unsustainable financial path.

    This is true if the revenue is in the form of rent and this is true if the revenue is in the form of property taxes. A good example of this is California’s Proposition 13, which is the principal thing that keeps property taxes artificially low over on that coast.

    Similar to what I argued yesterday with rent controls, it too creates a misallocation of housing. If you’re sitting on historic and artificially low property taxes, then you are now highly incentivized to stay put where you are. Why would you move only to have your taxes mark to market?

    So this line of thinking cuts both ways, whether we’re talking about renters or homeowners.

  • Rent control and inclusionary zoning

    I received an email from a reader over the weekend saying that my comments around rent control have been too critical, and that they are not doing proper justice to the challenges that renters face in today’s cities. I thought this was a fair comment and so I’d like to respond to it publicly on the blog.

    But before I get into that, it’s worth saying that housing issues are incredibly complex. And I am certainly not professing to have all of the answers. In fact, part of the reason I write this blog is so that I can think critically about these topics and hear what other people have to say.

    It is obvious that wages have not kept pace with home prices in many cities around the world. This is a problem. And so we can all agree that we need more economic opportunities, we need more housing, and we need more attainable housing. The question is how best to go about this.

    Mechanisms like rent control and inclusionary zoning might seem like obvious solutions. Just cap rents and force developers to build affordable housing. Problem solved at no cost to anyone, right? It’s not that simple. Every intervention creates distortions in the market.

    To give just one example, studies suggest that rent controls end up creating a misallocation of housing. Because if you are living in a rent controlled home and your rent is well below market, you are now heavily incentivized never to move. Even if you have an empty nest with 5 bedrooms, why would you?

    Of course, there are other possible repercussions. Residential contracts are typically gross leases (though some utilities might be sub-metered and paid for by the tenant). This is in contrast to commercial leases where net leases are common and most, if not all, of the operating costs are passed through to the tenant.

    Why this matters is that if your rents are capped but your utility costs, taxes, and other operating expenses are continuing to rise, you may run into a situation as a landlord where you can no longer afford to upkeep your building. And you’re certainly not going to invest in any new improvements if this is your situation.

    Rent controls could also impact the supply of new housing by making it no longer feasible to build. This is similar to what we have seen with policies like inclusionary zoning. Just last month San Francisco went on the record saying that it’s going to rethink its inclusionary zoning policies because of a view that it is now choking off new housing supply.

    And so herein lies one of our great housing challenges. We want more housing and we want more affordable housing. But depending on how we approach the latter, it could hurt the former, which ends up creating a viscous cycle.

    Building new rental housing is very challenging in Toronto (and elsewhere). Typically the way the process goes for a developer is that you start by preparing a detailed development pro forma. This pro forma will then tell you that your new rental development is infeasible. And so you go back, convert it to a condominium development, and then it magically becomes feasible.

    I am exaggerating, but only slightly. The point is that there are lots of developers out there who would love to build more rental housing — they just can’t make the math worth.

    My goal with this post was to explain where I have been coming from with some of my past comments. I also used the opportunity to link to a number of my related posts. But I haven’t really put forward any possible solutions. I plan to do that in a follow-up post, and I think I’m going to call it “the definitive but crazy guide to creating more affordable housing.”

    So if any of you have any crazy ideas, please send them over.

  • Berlin apartment rent freeze has frozen capital expenditures

    Last year, the city of Berlin agreed to a five year rent freeze for some 1.5 million flats constructed before 2014. The way it was initially approved is that it would freeze rents at mid-2019 levels and allow for only 1.3% inflationary increases. All of this is being challenged in the courts, but the Financial Times is suggesting that it could still come into force by March 2020. Here is an excerpt from a recent article. (Guy Chazan isn’t holding back about the kind of people that he believes Berlin attracts.)

    The legislation, which should come into force by March this year, is City Hall’s response to a lingering housing crisis that shows no sign of easing. Packed out with Brexit refugees, international party people and wannabe tech entrepreneurs, Berlin is in expansion mode, its population growing by 40,000 a year. Yet affordable housing remains scarce. Rents have doubled over the past decade, as new residential construction fails to keep up with soaring demand.

    As I mentioned before on the blog, these policies are not intended to apply to new buildings. That would surely choke off new construction, which would only exacerbate the underlying supply issue that Berlin is facing. But not surprisingly, this move has also put a freeze on capital expenditures, according to the same FT article. Local trades are complaining that, “It’s as if someone’s just turned out the lights.”

    Photo by Gilly on Unsplash

  • When rent control goes too far

    I was catching up with a friend of mine over coffee this morning and he was telling me about his recent trip to Porto, Portugal. I’ve never been, but it’s fairly high up on my list of places to visit.

    He was telling me about how beautiful the center of the city is and how it’s a UNESCO World Heritage Site. But he was also telling me how eerie it was to see so many abandoned and decaying buildings.

    And part of the reason for this – I learned – is that up until fairly recently, Portugal had some incredibly onerous pro-tenant rent controls in place that dated back to the beginning of the 1900s.

    In fact, they were so onerous that, by some estimates, roughly 150,000 households in Portugal were paying less than €50 per month in rent before the laws were changed!

    Because of this, landlords in many cases could not, and cannot, actually afford to maintain their properties. Buildings were left to decay, and in some cases they were completely abandoned. That was their only option. And it led to a virtually non-existent rental housing market (according to the IMF).

    Clearly, this is a problem. If you have a market distortion as serious as this one – where there’s virtually no incentive to invest – you’re on a highly unsustainable economic trajectory.

    Which is why when Portugal received its bailout package from the International Monetary Fund and European Union following the 2008 financial crisis, it was asked to reform its rent control laws – which it agreed to do.

    The hope was that the reforms would allow Portuguese landlords to charge more reasonable and market-oriented rents, as well as do other crazy things like evict tenants that don’t actually pay their rent. Not surprisingly, many fought the changes.

    I don’t know precisely how these reforms have ultimately played out in the market over the past few years (if you do, I’d love to hear from you in the comments below), but I do believe that liberalization of the market was, and probably still is, needed.

    While paying €5 a month for a 4 bedroom apartment in a desirable central neighborhood might be great for that one individual family, it’s not so great for the economy as a whole. And ultimately that comes around to impact even that household.

    Image: Flickr