Builders could surmount this obstacle by building multifamily housing (apartments), but they are often blocked by the aforementioned land use regulations. And even when they can build, government fees can remain a serious impediment: according to one study, for example, around one quarter of the cost of building affordable housing in California goes to government fees.
Tax and other policies.
The aforementioned policies are probably the ones that most commonly arise in discussions of housing policy, but others also play a role. For example, economist Alan Cole earlier this year found that (1) itemized deductions for property taxes and mortgage interest, intended to increase housing affordability, “have the perverse effect of increasing the price of existing homes, making it hard for young would-be-homeowners looking to buy for the first time”; and (2) recent limitations on these deductions—implemented in the Tax Cuts and Jobs Act (TCJA) of 2017—have slowed home price growth in some of the costliest places in the country.
In the rental market, the Tax Foundation’s Scott Hodge notes that current tax policy, which requires apartment developers to depreciate (write off) their construction costs over decades, raises the real cost of those investments because the dollars invested today are worth less—due to inflation and the “time value of money”—when they’re finally deducted from the developers’ taxes in 20-plus years. This tax treatment can not only make other investments more attractive than real estate, but also discourage the construction of low-income apartments, which tend to have lower profit margins (due to lower rents but many of the same upfront costs and fees as fancier buildings). Put another way, current tax policy raises investors’ total cost of building, thus making some low-income units unprofitable (as opposed to higher-margin luxury units). According to the organization’s estimates, a more neutral tax approach that accounts for inflation and the time value of money would reduce construction costs by around 11 percent, thus making low-income units more profitable (and therefore more likely to be built).
Other policies potentially affecting housing include occupational licensing, immigration, transit and transportation, telecommunications, education, energy, environment, and even entitlements. But we’ll save those for another time.
Adding Supply Works—For Everyone
Regardless of what kind of housing is built, we have good evidence that adding supply in any form can reduce local rents and home prices. For example, a 2019 Upjohn Institute study of 11 cities found that new construction lowered the rents of nearby existing units by 5 percent to 7 percent and encouraged people living low-income areas to move into the now-cheaper neighborhoods. Researchers have found similar effects in specific local markets, such as New York, the Bay area, and Washington, D.C., or in other countries like Germany. In each case, the lesson is the same: more supply, regardless of its form, lowers prices.
Recent anecdotal evidence backs this up. Here in Raleigh, for example, a major increase in apartment construction “is starting to put a dent into the region’s rising rents.” On the flip-side, pandemic-induced departures from major urban areas have caused rents to collapse: