Big Houses and the Market
This David Leonhardt article is long, important, and a bit difficult to digest so I’ll hold off commenting on the substance of the thing. This offhand choice of example on page four, however, raised a pet concern of mine:
As Lawrence Summers, the former Treasury secretary and Rubin ally from the Clinton administration, says: “We’ve probably done a better job of the last 20 years on the problems the market can solve than the problems the market can’t solve. We’re doing pretty well on the size of people’s houses and televisions and the like. We’re not looking so good on infrastructure and education.”
I know what Summers is getting at here and I agree with him, but the housing market is about the furthest thing in the world from a free market imaginable. Specifically on the question of home size, we have various policies in the tax code that encourage people to take a large chunk of their savings in the form of housing, which encourages people to buy bigger homes than would otherwise be the case. And then on top of that, rules against “accessory dwellings” and/or “overcrowding” and minimum lot size requirements all discourage the construction of small homes. All things considered, in other words, we have a lot of public policy that pushes the size of our houses bigger than pure market considerations would dictate.
This is a pretty bad idea for a number of reasons, most notably energy efficiency but also because of positional arms race considerations. Nevertheless, I think a lot of folks would be resistant (for good and bad reasons) to the idea of market interventions aimed at encouraging small homes. Thus it’s important to get people to understand that the status quo isn’t a market-dictated one at all. This is just one of several aspects of American reality that people tend to think of as “natural” but that actually reflect deliberate and poorly understood policy choices.
46 Responses to “Big Houses and the Market”
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August 20th, 2008 at 5:38 pm
Trends show that magic houses of the future will be measured in terms of acreage, contain their own Starbucks franchises, and will generate more electricity than Hoover dam. Why do you rail against America’s revealed preference for this coming utopia?
August 20th, 2008 at 5:44 pm
I was driving through a neighborhood that was upper-middle class 150 years ago and is now very lower-class. The very large houses are historically protected, but have long since been converted into apartments, usually with 4 2-BR units.
While it seems bad for a neighborhood to (basically) fuck up beautiful houses this way, this has quadrupled the population density in Walnut Hills. Moreover, it’s kept home prices down by quadrupling the housing supply in the neighborhood.
So, a denser population with a smaller, less expensive space seems like EXACTLY the sort of America that we need to create, such that the American people can afford to buy the houses being sold to them by American corporations.
I guess what I’m saying is, fuck Robert Rubin.
August 20th, 2008 at 5:51 pm
This is a pretty bad idea… because of positional arms race considerations.
Huh?
August 20th, 2008 at 5:57 pm
Housing trends are evolving in a positive direction and will continue to do so. It is, however, going to take time. California will lead the way, as is often the case (historically speaking) with matters of pogressive domestic public policy changes.
August 20th, 2008 at 6:00 pm
To what extent does the mortgage deduction result in larger houses rathen than just higher prices for the same size houses? Are there any empirical studies showing the effect of the mortgage deduction on home size?
August 20th, 2008 at 6:04 pm
“the housing market is about the furthest thing in the world from a free market imaginable.”
Really? Really really?
I mean, I agree various measures are serving to modify the relative supply of and demand for various forms of housing, sometimes in inefficient ways. But I can imagine something a lot farther away from a free market–say, housing provided by the government, and irrespective of ability to pay. Which, incidentally, is how public school education works (as it should), and a lot of infrastructure as well.
By the way, there are some decent policy rationales for encouraging a bit more personal wealth in the form of housing than otherwise. Most notably, increases in housing wealth seem to result in more consumption faster than increases in other forms of wealth, so encouraging holding more personal wealth in the form of housing can help policymakers fight off deflationary recessions.
August 20th, 2008 at 6:10 pm
Led,
I don’t know of any empirical studies off hand, but I agree with Matt it is likely more total spending on housing will lead to at least marginally larger lots and marginally larger structures, since land development costs and structural costs remain components of overall housing costs (not the only ones, of course, but any increase in the total housing pie should lead to slightly larger total lot and total structure pies as well).
As the saying goes, though, the purpose of an empirical study in this case would be to measure the size of the effect, not just to prove such an effect exists. Which is consistent with what you wrote, in fact–I just wanted to make sure we were all on the same page.
August 20th, 2008 at 6:13 pm
DTM, jeez, sitting in class and learning the alphabet is pretty far from a free market, too. there are all kinds of things if you’re not concerned with making sense.
what matthew is obviously saying here is that despite the seeming impression that housing is a free market – multiple buyers and sellers and a fairly non-differentiated product – in fact, it isn’t.
as for increases in housing wealth resulting in more consumption: whatever are you talking about? there are people who sell their home and buy a cheaper one and then use the differential to support consumption, but these are normally people who are looking to downsize and reduce their overall level of consumption.
borrowing against your house’s presumed worth (which i can only assume is what you are talking about given the critical role of HELOC-driven liquidity in maintaining standards of living) isn’t taking advantage of increased wealth; it’s increasing your mortgage size (effectively), and as we see, increased mortgage sizes don’t work out so well when housing prices fall.
ok, back to the serious matter: the mortgage deduction doesn’t do jack to make housing more affordable, since the sellers know of its existence too. what it does do – and perhaps this is what matthew was getting it – is convince people that they are getting a break and therefore encouraging them into the “forced savings” of a mortgage payment….
August 20th, 2008 at 6:19 pm
on the subject of housing size, i don’t know the cause-and-effect, but there’s no question that houses are getting bigger. someone with more time than i can spend it perusing the american housing survey in detail, but in 60 seconds with google, i produced:
The average new home grew to 2,434 square feet in 2005, according to the Census Bureau, up 3.6 percent from 2,349 square feet in 2004 and up 46.6 percent from 1,660 square feet in 1973.
http://money.cnn.com/2006/07/24/real_estate/home_stretching/index.htm
PS. and it ain’t because family size is getting bigger, is it?
August 20th, 2008 at 6:37 pm
The main reason that policy interventions in markets have undesirable outcomes is exactly because policies are always heavily distorted by undesirables.
August 20th, 2008 at 6:46 pm
Interesting take. I had just taken Summers’ line to refer to consumerism rather than housing per se. In that context, the reference to houses and TVs implies that we’re doing well on increasing ‘quality’ from a consumption perpsective. Even so, I think the equation of consumption with ‘quality’ is troublesome.
August 20th, 2008 at 7:05 pm
Regardless of what sort of market it is, real estate is a market, albeit a weird one. The contact point for the vast majority of housing consumers is a brokered affair. House buying isn’t something its easy to be good at if you are busy doing other things 99.9% of the time you are alive. The agent at the contact point is part salesperson, part trained squirrel. They take your info (income, credit, etc…), skitter over to a big black box, punch in the data, and then out pops a list of properties for you to choose from. Not to demean realtors, I know its a tough job, but the real business of the housing market is in that box. Even minus all the financial crises that would be an uncertain place right now. Energy and environmental concerns, sprawl fatigue, loss of a sense of community were all memes even when gas was cheap and nobody had taken a chainsaw to banking regulations yet. These are now vigorous actors on whatever the demand part of the equation is and are likely to become even more impactive going forward. I’d say there’s a lot of development money to be made on existing urban properties; and a strong incentive for developers to push for new zoning rules in aging suburbs that are about to start falling apart. It makes sense to encourage a value shift away from big houses to smart housing. It’s the only way the system can sustain itself.
August 20th, 2008 at 7:20 pm
I had just taken Summers’ line to refer to consumerism rather than housing per se. In that context, the reference to houses and TVs implies that we’re doing well on increasing ‘quality’ from a consumption perpsective.
I had the same understanding. Everyone else seems to be missing the point. If we spend all our time arguing over whether the market for houses is a “free market” or not, you’re not seeing the forest for the trees when trying to deal with Summers’ observation.
August 20th, 2008 at 7:22 pm
I’m pretty dubious that the non-market factors are making houses a lot bigger than they’d otherwise be. It’s easy to buy a more valuable house rather than a bigger house if you want the tax break, and a more valuable house (in, say, a better neighborhood) is probably better for positional reasons and other secondary factors (schools, say). Zoning requirements seem more likely to be pushing the size of houses down than up, and I just doubt that out-building laws are a big effect on much of anything.
But, hey, this is the kind of thing that we should be able to find out. In all the townships in the US, there’ve got to be some good natural experiments to be found for everything besides the tax stuff.
August 20th, 2008 at 7:29 pm
I would say that the biggest problem with David Leonhardt’s article is that it pays to little attention to the fact that Obama is a politician. Obama’s economic positions reflect the combination of his principles and the incentives that exist on him as a politician. The incentives probably matter more.
August 20th, 2008 at 7:35 pm
I’ve been thinking of housing a lot because I am hoping to finally close on a house I am selling next week. There’s a whole mythos about home ownership in America and there are a lot of stakeholders in perpetuating the myths who would lose big if people were to look at ownership differently.
The mistake is regarding your house as an investment. The average return on a single family house over the long haul is inflation plus 0.5%. There may be broad trends that push that return up (pockets like Westchester Co. NY) or down (NE Ohio or PA). And the WSJ once estimated that over the life of a 30 year loan your expenses (if you choose to keep your house current with the market) will run you 2x what you paid.
So people sink more than they should into houses that may not be worth what they think over time. And they don’t make the investments they need to make to become financially secure.
Can public policy change these attitudes? I think only a little.
Regards.
August 20th, 2008 at 7:43 pm
Nice picture. The Breakers is about 5 minutes from my house.
August 20th, 2008 at 7:48 pm
Ok, first, I think your claim that because there’s some government regulation of the housing market, that means that it’s not free is preposterous.
Honestly, it seems like you’re just creating the label because it conveniently lets you justify further intrusion into controlling the size of houses so they end up smaller and closer together, which matches your personal policy objectives: “Since it wasn’t free housing market anyways, its ok for the government to seize control of it, and build the houses I like.”
Second, I find your claim disingenuous because you regularly claim that the US would be a lot better off with more government oversight over, well, everything. And yet, somehow, housing markets were too controlled the whole time?
Third, if government control over the housing market is what got us into the current situation of too-large houses, that was a government made of human beings (let’s call them Primitive Government-Of-Yesterday), just like the Yglesias Government-Of-Tomorrow. Why is it that the Primitive GOY human beings got everything wrong, and the Yglesias GOT will get everything right? If I take your claim seriously that the housing market is unfree, then it represents a massive failure of management and execution by government. Why, oh why, is the Yglesias GOT so much better? Because it’s conventient for your argument? Feh.
Lastly, if the current situation of too-large houses is due to the perverse incentives of a poorly-government-managed housing market, then what sort of nightmare awaits us as we let government take over other markets (health care, for instance)?
I mean, based on this post, your general frame of mind appears to be: “Government failed dramatically in managing housing and created a bunch of perverse incentives that led us to a terrible situation. We should therefore put a lot more Government in place to fix the housing market, and health care, and education, and pharmaceutical development, and… and… and…”
August 20th, 2008 at 7:58 pm
Misguided policies helped to create this situation… therefore, improved policies couldn’t possibly fix it.
An argument I keep running into, even though it doesn’t make a lick of sense. Odd.
August 20th, 2008 at 8:04 pm
Not so odd when you ask the right question: cui bono?
August 20th, 2008 at 8:15 pm
Matthew points to home sizes that have increased and concludes, “government policies caused those home sizes to increase”. But those government policies Matthew cites did not change substantially in recent years. What changed recently was easier access to credit in the midst of (or, more precisely, causing) a housing bubble. This home-size increase went hand-in-hand with people having easier access to capital to use to buy houses.
A shorter way to say this is: when people were loaned more money to play with (than people in the same financial situation would have been in years past), they chose to use it to buy bigger houses than they otherwise would have. The most logical and parsimonious interpretation of this fact is simply that (drumroll) people like to live in bigger houses if they can. If they can’t, they won’t, but if they can, they will. Imagine that.
Matthew, of course, doesn’t like this interpretation; he ignores peoples’ preferences altogether. Why? Evidently, because Matthew Yglesias wants other people to live in smaller houses regardless of their wishes.
He, like others, calls this sort of thing “liberalism”.
August 20th, 2008 at 8:50 pm
It’s only coercive if the policies work against what I want…
There’s #2.
August 20th, 2008 at 9:07 pm
Howard,
First, I already granted that the housing market is not a perfectly free market. But to say “the housing market is about the furthest thing in the world from a free market imaginable” is just a silly overstatement on Matt’s part, and substituting something more sensible for what Matt actually said just highlights that point.
Second, I believe the relationship between housing wealth and consumption is well-established empirically (feel free to google the issue and fact-check me if you wish). Note that the existence of such an effect does not necessarily require people to sell their house or increase their borrowing against their house. Rather, they could, for example, simply increase their consumption out of other sources of income, also known as decreasing their savings rate. Which is precisely what you need people to do if there is a danger of a deflationary recession.
Now to be sure, there are limits to how much one could plausibly use this effect, and indeed arguably the housing bubble was caused in part by overreliance on this effect by policymakers. But the fact this tool might have been misused recently doesn’t imply it is a bad tool in general.
August 20th, 2008 at 9:11 pm
Matt,
I agree that the housing market is somewhat distorted, but don’t overstate the case.
I’m not a finance guy so my numbers will be rough, but here goes. Since I can deduct my mortgage payments and not my other savings sure, I’m federally encouraged to buy 28% more house than I need (where “more” may mean more space or may mean more amenities). However, countering that the city of Philadelphia levies a nice property tax on me (basically the only tax I have to pay year-on-year to hold onto an asset) and that’s a good 15% of my total mortgage payment each year. That tax burden is small compared to my friends in Jersey, and oh yeah, I’ll keep paying that tax on owning long after the mortgage is paid off and I’m not getting the mortgage tax deduction. So, between the two I’ll agree that I’m encouraged to buy 10-15% “more” house than I need. If the market is putting us in pretty much the house we want plus 15%, I’d say that Bob Rubin’s claim is more right than it is wrong.
As for lot size requirements, as I drive around I see an awful lot of townhouse developments here (along with the free-standing single family home developments), and I don’t see those so many of those townhouses out in the midwest which I visit occasionally. If they’re building them in suburbs in the east coast and not in the midwest that may suggest that denser suburban living here (and more open living there) is a matter of preference, not policy imposition.
August 20th, 2008 at 9:55 pm
DTM, i think we’ll just forget the whole “free market” issue and move to the meat.
i think the problem is the way that you’re tossing around the term “household wealth.” it ain’t a gain until you realize it: what people have been doing is maintaining current consumption out of presumed future values. it’s exactly the same as living off your margin account, except at least there is good reason to believe in a long-term positive return from investing in stocks and bonds whereas there is only good reason to expect to protect principal in the house against inflation in housing.
it’s a bet on the come, not an expression of “wealth,” and it is, in my mind, not a useful policy goal….
August 20th, 2008 at 11:34 pm
I don’t know why people are ganging up on Matt’s statement that real estate is one of the most regulated markets – there are a few markets which are more regulated, but real estate is one of the most regulated industries around. Zoning tells you precisely what’s allowed on each and every parcel, and you have to get your building plans (and even minor renovation plans) specifically approved – in most places, this means your (new) neighbors get to jam into a meeting hall and tell you that your proposed plan is ugly. And that you should build a one-story imitation Victorian (or that you should be able to build absolutely nothing). And that you should give money to their pet charities. There’s a reason why a substantial portion of the yuppie population everywhere are real estate attorneys. The building codes tell you precisely how your building is to be constructed, and were effectively written by the building trades.
“As for lot size requirements, as I drive around I see an awful lot of townhouse developments here (along with the free-standing single family home developments), and I don’t see those so many of those townhouses out in the midwest which I visit occasionally. If they’re building them in suburbs in the east coast and not in the midwest that may suggest that denser suburban living here (and more open living there) is a matter of preference, not policy imposition.”
…..because Philadelphia’s economy is bad enough that they’re willing to be flexible (i.e. relax the regulatory regimes). There’s of course some preferences as well naturally, but the market is so highly regulated it’s very difficult to tell what they are. There are plenty of townhouse developments in Chicago, and the ones I know about in Minneapolis have done relatively well. There are dense(r) urbanist developments in such places as Tucson, Atlanta and Houston that have been successes that critics thought would never take off when proposed (”no one wants to live in a condo in downtown Tucson”, etc).
August 21st, 2008 at 12:31 am
howard,
First, as an aside there is a real return to residential housing. It just comes from the rent, not the appreciation–or the rent savings, if you live in the house. The personal finance implication of this is that buying a home is not necessarily a bad investment, provided that the rent-to-price ratio in the relevant market is reasonable, and you will actually value the implied rent savings.
Second, you are not addressing the policy issue I raised. In a deflationary recession, we need to encourage people to consume more and save less, and it appears home ownership helps that happen. Whether or not you think stocks and bonds are a better form of investment than real estate (personally, I recommend holding all of those asset classes, and maybe a couple more) is beside the point.
August 21st, 2008 at 4:42 am
It’s a pipe dream, I know, but I think that perhaps the subprime crisis should make us think more in the long run about whether it’s really so wise to make equity and housing consumption so closely linked. We see the consequences when it fails, and consider the disasters that ensue, but what about the consequences when it works as planned? The housing boom was regarded as a good thing while it lasted, like a stock market boom, and, to some extent, it was a good thing for the same reasons a stock market boom is. Yet it was also a bad thing — housing is something people need to live. Increasing the price of housing — which is what happens with a real estate boom — makes it less affordable. From this perspective, costlier housing is no more a boon than costlier food or costlier gasoline.
Of course, the dominant media discourse seemed to be built on the assumption that everyone who mattered was a property owner who had more to gain than to lose from booming housing prices, and that no one was a buyer who would have to go deeper into debt that she otherwise would have to acquire a house with a price inflated by the housing boom. I imagine a few young couples looking to move into a first house aren’t entirely displeased if some banks find themselves wringing their hands over how to liquidate all of the real estate they’ve acquired through foreclosures.
Perhaps a few small steps to try to decouple equity and housing consumption could be found in things like adding estimated imputed rent to adjusted gross income and getting rid of the mortgage deduction, but I’m tempted by even more radical changes. Perhaps a high Henry George-style site-value tax on Ricardian land rents, so that real estate speculation on unimproved land is no longer a very profitable activity. I can’t help but think, though, that if this were a federal tax regime, such an arrangement that squeezes San Franciscans and New Yorkers dry while leaving exurban mansions built on cheap land almost untouched would be the Republicans’ dream — unless there were also a commensurate change in spending priorities that didn’t heighten the transfer from New Jerseyans to Mississippians.
August 21st, 2008 at 10:00 am
Julian Elson,
I think you need to distinguish a couple different things. If you wanted just to raise the prices of existing homes, you could indeed do something like artifically restrict the supply of new homes, which would have the ill effects for new housing consumers that you suggest.
But if you instead just wanted to raise the total amount of money being spent on housing, you could instead subsidize buyers rather than restricting supply. And that could actually cause supply to increase at a higher rate, thus moderating any price effects in the long run, and of course new buyers would get this same set of subsidies. And somewhat obviously, the mortgage deduction and capital gains exclusion fit into this second category (they are subsidies for buyers, not supply restrictions).
In short, I think you need to distinguish between policies aimed at increasing prices and policies aimed at increasing the number of buyers.
August 21st, 2008 at 4:50 pm
It needs to be pointed out that Matt’s basic argument is crazy. The reason houses are getting bigger isn’t because of how the financial and tax incentives work. These incentives have been in place for many decades. The reason houses are getting bigger is – drum roll – people enjoy bigger houses. Now, one can certainly decry people’s likes and dislikes, and think that small is beautiful and envision a world in which people are forced to live in smaller, denser housing, but one can’t pretend that the free market isn’t working in the housing market. It just goes to show that the free market doesn’t always produce “quality”, as defined by select individuals, and impose it on the marketplace. In fact, if there are financial incentives to building bigger houses, it’s simply because that’s what buyers want? And why? Because they can afford it. A lot of people have more income than the used to, and they’ve decided to spend it close to home – on their homes actually. That’s how the free market works. It’s certainly true that local zoning helps make this possible, but it’s not true that this goes against what people seem to want. If people really wanted to live in small, high density housing, zoning laws would change to accomodate that. The laws don’t change because the people elected to local zoning boards do what the people who voted them in want them to do. Is that so hard to figure out? If you can convince people to desire something different, fine, go ahead, but don’t complain that the market isn’t working because it doesn’t produce the result you find desirable.
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