Politics

The housing theory of everything

Western housing shortages do not just prevent many from ever affording their own home. They also drive inequality, climate change, low productivity growth, obesity, and even falling fertility rates.

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14th September 2021
Issue 5

Western housing shortages do not just prevent many from ever affording their own home. They also drive inequality, climate change, low productivity growth, obesity, and even falling fertility rates.

EconomicsPolitics

Try listing every problem the Western world has at the moment. Along with Covid, you might include slow growth, climate change, poor health, financial instability, economic inequality, and falling fertility. These longer-term trends contribute to a sense of malaise that many of us feel about our societies. They may seem loosely related, but there is one big thing that makes them all worse. That thing is a shortage of housing: too few homes being built where people want to live. And if we fix those shortages, we will help to solve many of the other, seemingly unrelated problems that we face as well.

The obvious effects of expensive housing

Where you live affects nearly everything about your life – where you work, how you spend time off, who your friends and neighbours are, how many kids you can have and when, and even how often you get sick. Most people’s most valuable asset is, by far, their own home. And housing is so important for the overall economy because it determines the location and supply of the most important ‘resource’ of all: people.

There’s a growing consensus that housing is too expensive in most Western countries. In many places, the prices of new homes far exceed the cost of building more of them. Higher incomes in cities draw people to those places, who use some of their increased wages to bid up rents and house prices there. Easier credit and falling interest rates, which reflect a lower cost of borrowing and lower returns from other investments, have helped people bid up the price of housing as well. For most goods, including very expensive and durable goods like ships and airplanes, higher incomes and falling interest rates would cause supply to increase, instead of keeping the price permanently high. But for housing in and around many in-demand cities, supply has not been able to keep up with demand.

This is true across the developed world: Dublin, Singapore, Auckland, Paris, Vancouver, Rome, Hong Kong, Barcelona, Moscow, Cape Town, Zurich and many other cities have wildly expensive housing compared to the cost of building more of it. Costs are especially high in places whose economies are built on intangible capital, like software or financial services. In these kinds of industries, there are especially large benefits to people being near one another, because it makes them both more productive and more innovative. This is why the San Francisco Bay Area – probably the most productive place in the Western world – is also one of the most in-demand places to live. And that demand, plus restrictions on building more houses, is why it is one of the most expensive places to live as well.

This housing affordability problem has become much worse over the past four decades – coinciding with, and partly driven by, the growth of the intangible economy — the move towards production based on software and intellectual property, instead of machinery and other physical capital. In the 1960s, it was commonplace that a middle class single-earner American or British family would be able to afford a comfortable home.

When more people want to live in an area, we either build more homes to accommodate them or squeeze them in to the existing housing stock, with those people bidding up the price of living there. We can see all of these mechanisms in play in the Western world’s most in-demand cities. In London, for example, empty homes now make up only a few percent of the total, as it becomes more and more costly to leave something empty.

The most dramatic evidence of housing scarcity can be seen in price rises over the past forty years. Average New York City metropolitan area house prices are up 706% since 1980 (or 376% more than US consumer prices, and 326% more than US wages). For San Francisco the rise is 932%. London house prices are up over 2,100% in that period (or around 1,500% more than wages). Prices in Sydney, Australia, have risen by 1,450% (compared to hourly wage increases of 480%). In Ireland, prices have risen by about 800% in that period, driven by rises in Dublin in particular. Rents show similar, but less extreme, trends, because they are not directly affected by interest rates.

These prices range from about twice to four times the cost of building new homes of equivalent specification. This wedge, between build costs and house prices, is a rough proxy for how much extra cost is being driven by restrictions on new building.

By contrast, almost every other household product has become better and less expensive since then. Compared to 1975, the number of hours a median American worker would have to work to buy a television fell from 60 hours in 1975 to 7 hours in 2013; to buy a fridge-freezer, it fell from 65 hours in 1975 to 20 hours in 2013; to buy a manual exercise treadmill, from 18 hours in 1975 to 6 hours in 2013; and to buy a washer-dryer, from 67 to 30 hours. Even cars are three times ‘cheaper’ in terms of hours worked on an average hourly wage now than they were in 1964. And none of these estimates accounts for how much better most of these products are now than they were in 1975.

So while other durable goods have become cheaper over time, housing has become more expensive. Even though incomes have risen, both parents in a family now typically have to work to afford a decent family house in a major city, and people have had to move farther and farther outside city centres to find somewhere they can afford to live, spending more time and money on commuting to and from work.

So the obvious effect of expensive housing is that people often spend a lot of their money on renting or buying their home, leaving them with less money to spend on other things, especially if they live in and around the Western world’s most wealthy cities. And the problem is getting worse.

Illustration by Kade Byrand for Works in Progress

 

The hidden effects of expensive housing

Productivity

The obvious effect of expensive housing – people having less money to spend on other things – is the one most people focus on. But it is only part of the story, because expensive housing makes people change their behaviour too – it affects where you live, what your job is, how big your family is and what your day-to-day life looks like too. And it’s these hidden effects that are the most important.

As we’ve described above, better jobs drive up the price of housing when it’s difficult to build more. But that works both ways: when housing is scarce in high-productivity areas, some people are priced out of the area altogether, so they can’t move within range of better jobs.

This means that many people are working in less productive jobs than they could if it was easier for them to move to more productive places. Their wages and productivity are lower and it’s harder for highly productive businesses to hire them. That means people who do get to live in these high-productivity places are less productive than they could be, because they are less able to combine their skills with the complementary skills of the people who have been priced out.

As a result, many businesses end up leaving highly skilled staff without assistance, spending their time on work that could be done by others, lowering the time they can spend on the tasks they’re best at. This happens in people’s private lives too: people often spend hours trying to fix their leaky pipes instead of just calling in a plumber, because the prices of plumbers near them have risen to cover the costs for plumbers to live there.

On average, workers in larger cities tend to be more productive than workers with similar skills and education in smaller cities. Sheer size is not all that matters, because complementarity between workers matters even more – a skilled software engineer will likely increase her income more by moving to Berlin (population: 4.4 million) than to Mexico City (population: 21 million). But there is strong empirical evidence that, other things being equal, bigger is better. This helps workers directly: people who moved from small to large cities in a study in Spain gained a wage premium when they did so, and accumulated better experience as time went by – and their experience persisted even if they moved away later, in the form of higher wages.

In the United States, productivity per worker tends to rise by 2% or more with each doubling of city size. The link between size and productivity is only apparent when the city includes skilled, educated workers, which suggests the effect is mostly driven by the transfer of knowledge and division of labour among high-skilled workers. Metropolitan areas that are largely made up of unskilled workers do not become more productive as they get bigger.

By historical and global standards, today’s most successful cities in America and other Western countries are astonishingly sparsely populated and sprawling. Haussmann’s Paris, Gaudi’s Barcelona, and the Georgian and Victorian areas of London are much more densely populated than nearly every square mile of the Bay Area and even most of the NYC metro area, other than Manhattan.

The main cause of this is regulations that ban buildings that make better use of the land. Economists Gilles Duranton and Diego Puga judge that if New York allowed more of the sorts of densities that were more common historically, rents and house prices would fall towards construction costs, and the city would at least double in population, to over 40 million people. Similar things would happen to the Bay Area, Boston, Los Angeles, and other US ‘superstar’ cities if higher densities were allowed. This could mean those places looking more like central Paris or Barcelona, both of which are incredibly dense (and also happen to be very nice places to live).

The total cost of this regulation-induced sprawl in the United States may be enormous. According to one study, if just three cities – New York City, San Jose and San Francisco – loosened their rules against building denser housing to the national average level of restrictiveness, millions would move to jobs that made the best use of their skills and total US GDP would be 8.9% higher. This would translate into average American wages being $8,775 higher per year. Others go even further. Duranton and Puga estimate that the average income gain from a housing regime that allowed easy building could be around 25%, or around $16,000 more per person per year.

To put that in perspective, 9% is approximately how much the US economy contracted by in the second quarter of 2020, after Covid and lockdowns brought much of the US economy to a standstill. Sixteen thousand dollars per capita is the entire yearly income of people in Greece or Hungary. That’s a lot of money to leave lying on the sidewalk.

Innovation

Nearly all innovation happens, and has always happened, in cities. Just as cities have vast labour pools that make it easier for workers to find jobs that match their skills, they also allow innovators to collaborate to come up with new ways of doing things. Sometimes cities have experienced bursts of innovative output that changed the world – like Amsterdam in the 17th century, Edinburgh and London in the late 18th to early 19th centuries, Cleveland in the late 19th century, Vienna and Detroit in the early 20th century, and San Francisco today.

The Bay Area, including Silicon Valley and San Francisco (population 7.5 million), for example, has played host to more tech start-ups growing to valuations of more than $1 billion than the entirety of Europe (population 750 million) put together. Ten US cities in 2007 produced 70% of the total patents related to computer science and 79% of the total patents around semiconductors – with less than 10% of America’s population.

Part of the reason is that geographical closeness is especially important for the transfer and combination of ideas. And for unconventional ideas, the most valuable combinations are often not obvious in advance and may depend on chance interactions or mixing of individual elements.

Bell Labs, the legendary R&D lab that invented revolutionary new technologies like the transistor and the photovoltaic cell, was designed so that everyone would at some point bump into everyone else for this reason. Similarly, Steve Jobs designed Pixar animation studios to have communal areas situated centrally, and many tech companies today use a similar model. Both the London Stock Exchange and Lloyd’s of London began in the 17th Century as coffee houses – the places where people habitually met both deliberately and accidentally.

US evidence from over 600,000 patents filed from 2000–2010 suggests that low-density places can sustain specialised clusters, but that unconventional breakthroughs benefit from high-density urban environments. For idea-focused industries like software, localisation benefits dissipate within 10 miles; for extremely idea-focused industries like advertising, they dissipate within half a mile. Inventors who move from a smaller cluster to a bigger cluster tend to see large increases in their patenting productivity.

So by limiting the number of people who can go to live in places like the Bay Area, by limiting the number of homes there, we may not just be hurting productivity directly by restricting who people can work with. We may also be missing out on the new ideas that drive society forward and that can lead to dramatic improvements in how we live.

Inequality

Constraints on supply have made houses into scarce assets, more like bonds, fine art or precious metals than durable goods like refrigerators or cars. This only feels normal because we’re used to it, and does not happen in places where developers can easily add more homes to an area, such as Tokyo, Seoul, or New York City before the 1920s. In places like these, rising demand leads to more supply, not just higher prices.

A fixed supply of housing means improvements in people’s aggregate incomes often partially go to landowners, since people bid up the price of housing with some of their increased income. This is one of the bases for the economist Henry George’s proposal for taxes on land value. George realised that even improvements in a local area – a new park, or better sanitation – would also be captured by local landowners. The new park would make people more willing to pay to live nearby, bidding up the price of housing in that area, so that existing landowners captured much of the value the park created.

These effects play out visibly in fights over gentrification. Rising wages let bankers and tech workers bid up the rents on poorer parts of cities that have become fashionable, driving up rents. Many low-income communities have been broken up as people have been forced to move away by these rising rents, and by shops and other services changing to cater to wealthier new customers. Few people object to making a place more pleasant, greener and safer: the biggest concern for current residents is not improvement in the place, but the risk of being priced out of their homes and communities.

There is another way. Increasing the supply of housing and commercial space, while ensuring that it benefits existing residents, could turn this zero-sum situation into one where everyone can be better off. This might be done, for example, by allowing them to vote on increased density, and benefit from it directly. The new demand could be accommodated and the financial rewards to development could be shared with existing residents without displacing them.

The aggregate, countrywide effect of housing being so limited in supply has been that economic growth in most Western countries has accrued more and more to landowners and less to everyone else. Economist Thomas Piketty famously demonstrated an increase in the share of national income that flows to owners of capital, rather than to labour. But what was less widely acknowledged was that, at least in the US, it was really an increase in the share of income going to landowners, driven by increases in the cost of housing, and that this effect was particularly strong in states that have highly restrictive rules against building more homes.

The rising inequality Piketty demonstrated appears to have been largely driven by housing shortages turning, in one economist’s words, ‘houses into gold’. And this is the case across the Western world: housing inequality, not income inequality, primarily determines how much wealth inequality there is in most Western countries.

Left-behind areas and regional inequality

Housing shortages have driven regional inequality as well. Earlier, we told the story of workplaces deprived of lower-skilled staff having to get their star employees to do work that would be better done by someone with less-expensive skills. And the other side of this is that people who cannot earn top salaries are unable to move to high-income cities at all.

Consider a cleaner living in Alabama. In 1960 they could move to NYC and earn wages 84% higher, and still end up with 70% higher income after rent. In 2010, they could move to New York City and become 28% more productive, and earn a wage 28% higher – and reduce the surplus of workers back home, letting them demand higher pay. But since housing costs are so much higher, the net earnings and living standards of someone like this would fall if they moved today, and wouldn’t be worth it. The same would be true for plumbers, receptionists and other professions that allow other people to specialise at what they’re best at and minimise the time they spend on things like DIY and answering the phone. By contrast, top lawyers get wage boosts that are still sufficiently higher to justify a move in both 1960 and 2010, even after the higher rents they’ll have to pay.

Economists Peter Danong and Daniel Shoag conclude that this effect, on aggregate, has directly led to a slowdown in the rate at which poorer US states have been catching up with richer ones. Between 1880 and 1980, poorer US states caught up with the richest ones at a rate of around 2% per year; since then, this rate of convergence has halved, to around 1% per year. Where previously people of all income and skill levels would move to more prosperous places, now only well-paid ones at the top do, leaving behind many who are not so lucky in places with a surplus of labour.

Many Western countries have regions where the most economically productive people have moved away like this, leaving behind their lower-skilled peers competing for a limited supply of lower-wage jobs and driving wages down further. Scarce and expensive housing in ‘superstar cities’ means that when a city suffers a downturn, only the most skilled leave. Since these people have positive spillovers, this further depresses activity. By contrast, in history it was typically the worse off locals who left an area when times got tougher.

A great deal of attention has been spent on attempts to stop the outmigration of these talented people, to minimise the losses for those left behind. Few of these attempts have succeeded, and the solution may instead be to make it easier for people of all income and skill levels to move for work, as was the norm historically. Without that mobility, many communities have an unhealthy mix of people all competing for the same low-paid jobs, shut out entirely from the places that could be offering them a better life.

Families

The price of housing does not just affect the places where people live; it determines the kinds of homes they live in as well. And that has a huge influence on people’s family lives, affecting both when people have kids and how many kids they have.

The more expensive an extra bedroom is, the more expensive it is to have more (or any) children. Expensive housing can force people to wait before having kids and move out of city cores and into cheaper suburbs when they do. This means losing many of the amenities and social life benefits of city life, adding a long commute to their day, and probably reducing their number of job options.

Across the developed world, the number of children that women actually have is well below the number they say they would like to have. According to one recent study, after controlling for other factors, a 10% rise in house prices was associated with a 1.3% fall in overall births. Put together with the huge rises in housing costs we’ve seen over the past four decades, this implies a massive reduction in births across the Western world. One report estimated that rises in the cost of UK housing between 1996 and 2014 may have led to 157,000 fewer children being born in that period alone.

Combine these effects with the fact that higher incomes allow people to have more kids because they can more easily afford things like childcare, and housing costs may be causing dramatically fewer children to be born than people would like to have. There is also a fiscal cost to this, of course, but it is fundamentally a personal, human one: fewer brothers and sisters, less time spent with grandparents, and less of the meaning that children bring to their parents’ lives.

Obesity

No one is sure why America’s obesity rate rose from just 10% in the early 1960s to 35% today. Some blame increases in income, but over the same period, Japanese income rose even faster and obesity rates barely budged: they remain under 5%. Higher incomes may enable obesity, but they do not guarantee it.

Undoubtedly, no single factor is solely responsible either for the rise over time, or for the difference between Japan and America. Technological innovations allowing more processed and palatable foods are likely one cause. It may be that rising consumption of some nutrient, such as a type of fat or sugar, is another cause. In Western countries, the decline in smoking – which can act as an appetite suppressant – is also likely responsible for a fair portion of the rise in obesity.

The Japanese eat about half as much processed food as Americans do. They also consume dramatically more omega-3 fatty acids in their diet. Cigarette smoking is still slightly higher in Japan than the USA as well. But there is another dramatic and visible difference between Japanese and American lives: the way their cities are built.

Japanese land use regulation is light touch. At its most restrictive, it allows buildings three floors high that use up the entirety of their parcel of land. This means both that Japan’s superstar cities grow far more densely than American cities, and also that they absorb far more of the country’s population. The urban environment this produces is akin to the traditional urbanism of pre-bicycle, -train and -car cities around the world: with narrow streets, finely grained, that are highly walkable. Of course, modern Japanese cities are not quite so tightly knit, and there is space for cars, bicycles and transit. But streets are extremely narrow, parking is expensive, major roads are tolled, and pedestrians mostly have priority over other road users.

Because of that urban style, people living in large Japanese cities drive much less than people in America. In Tokyo and Osaka just 12% and 13% of trips are by private motor vehicle, compared to 85% in Los Angeles, 77% in Chicago, 91% in Houston and 87% in Phoenix. Most American cities are far too spread out to get around by walking, cycling or even public transport, which needs dense pockets of population to be efficient.

Far more Japanese than Americans experience this sort of city life. There are 23.7 million residents in North America’s biggest metropolitan area, New York City, and these people are spread over 34,500 square kilometres. Only a small part of this is dense enough to sustain walking, cycling, and transit. By contrast, Tokyo metro area has a far larger population, with 38.1 million people, but they are four times more densely populated, across only 8,500 square kilometres. This means practically all of them can live car-optional lifestyles most of the time. Japan’s second city, Osaka, has 19.3 million: more than 45% of the country’s inhabitants live in the biggest two cities alone. By contrast, even at the most expansive definition, only around 12% of the US population live in its biggest cities.

It is obvious how this would affect obesity. The average Japanese walks thousands more steps than the average American every day. What’s more, nearly all Japanese walk a lot, whereas in most cities American activity is much more unequal, split between enthusiastic exercisers and those who drive everywhere. Evidence from hundreds of thousands of smartphone step counters suggests this difference drives obesity both within and between countries. New York City, America’s densest and most walkable, has the lowest rate of obesity in America – about half the national rate. In the latest study of this, Manhattan had a rate half as low again, one quarter of the national average.

So it’s possible that preferring sprawl over density, and the housing shortages that kind of policy creates, may be damaging health, equality, average wealth and the number of children we have. Yet the health effects of more, denser housing are often ignored.

Climate change

Walkable cities are not just important to combat obesity. In 2018, the average Japanese person’s consumption caused 10.3 tonnes of CO2 emissions, while the average American caused 17.6 tonnes of emissions, or 74% more. Focusing on transport, we can see how much of that is explained by Japan’s denser, transit-rich, more walkable cities. In 2016 transport accounted for 1.63 tonnes in Japan, versus 5.22 tonnes in the US – over three times worse.

Maps of the UK and US East Coast show clearly how the densely populated parts of cities like New York, Philadelphia and London emit far less carbon per head than the rest of the surrounding sprawl. The UK’s Centre for Cities estimated that people living outside cities accounted for 50% more carbon emissions than those living inside them.

Household carbon footprints in East Coast metropolitan statistical areas (J) and New York metropolitan area (K). Jones and Kammen. Environ. Sci. Technol. 2014, 48, 2, 895–902 (Figure 1). Reproduced with permission.

 

Per capita carbon footprint of 434 municipalities in the UK. Jan Minx et al 2013 Environ. Res. Lett. 8 035039 (Figure 2).

 

In 2020, California’s population shrank for the first time since records began. The pandemic was just the latest factor that encouraged people to flee expensive, temperate Californian cities – some, like San Francisco, with decent public transit and relatively dense housing – to more affordable sunbelt cities like Atlanta, Phoenix and Dallas, reliant on cars and power-hungry air conditioning. In the last two decades, Atlanta’s population has increased by nearly 50%. Houston is now America’s third or fourth largest city. Phoenix has gone from 99th most populous in 1950 to 5th today. That reliance on cars and air conditioning contributes towards environmental disaster.

New homes are also much better insulated than old homes. Heating or cooling bills in a German PassivHaus, housing which is designed to stay at the right temperature without the use of additional energy, can be just a few dollars a month: one PassivHaus in Oregon kept 30 degrees Fahrenheit below external temperatures during the recent heatwave, with no air conditioning. Apartment blocks are greener than single-family houses, because each home has less external surface area to gain or lose heat. And new homes can be built with zero net embedded carbon, with payments for reforestation or other means to improve the environment. New homes can hugely help the environment.

Rising incomes mean people want bigger homes. Few would happily return to eight family members crammed into a 1900 two-room tenement. If walkable cities ban new homes, their residents will move to more affordable places like Atlanta which build larger, more carbon-hungry homes, drive more and emit far more carbon than they would if they had the freedom to live where many of them really wanted to.

Scratching the surface

Once you see the effects housing shortages have on things as wildly different as obesity, fertility, inequality, climate change and wage growth, you start to see them everywhere. Scott Sumner and Kevin Erdmann have argued, for example, that the housing ‘bubble’ that preceded the 2008 financial crisis wasn’t really a bubble after all. In fact, they suggest, house prices were rising rationally because too few houses were being built in places people most wanted to move to, not because of irrational speculation. The ensuing crisis was caused by a misdiagnosis of this problem, as the Fed hiked interest rates in a misguided attempt to ‘burst the bubble’. In support of this view, prices are now back above their ‘bubble’ peak, with no imminent sign of falling.

Housing shortages might have made Covid worse too. Overcrowding drives disease, including Covid, as people squeezed into the same houses can spread illness to one another. Counterintuitively, more density can mean less overcrowding, because there are more homes to go round. It is too early to say for sure, but in time we may learn that housing supply played an important role during the Covid pandemic, with more overcrowded cities suffering worse outbreaks.

It is possible that even the political and culture wars being waged in many Western countries have their roots in housing shortages, as a recent report for The Economist argued. Elections in the English-speaking world are increasingly becoming divided between relatively prosperous and well-educated citizens of cities and their suburbs on one side and people in the rest of the country – rural areas and economically depressed towns – who resent the perception that the system is rigged in favour of the already well-off. Britons and French people living in areas where house prices were stagnant were more likely to vote for Brexit or the National Front respectively.

Many young people have had to delay forming families and often take poorly paid, insecure jobs that can barely cover rent and living costs as the price for living in culturally attractive cities. They see opportunity as limited and growth as barely perceptible. Meanwhile, older generations sit on housing property worth many times what they paid and, stuck in a zero-sum mindset, often prioritise the protection of their own neighbourhoods over the need to build more homes. Can you blame young people who resent older people, and the West’s economic system itself, when this is what it offers them?

If all this has a solution, then we suggest it is unlikely to be won through a zero-sum political ‘tug of war’. Western countries could become trillions of dollars better off by addressing their housing shortages. A well-designed solution can spread those gains widely enough that everyone is made better off, including people who currently oppose existing efforts to build more that would make them worse off.

We have suggested one possibility elsewhere: radically localized democracy that allows individual streets to opt in to greater density by voting for it. No construction would happen anywhere that a majority did not opt for it, but streets that voted for more density would become extremely valuable, so there would be a big incentive for homeowners in high-demand areas to vote for greater density.

But whether this or another approach is the best solution is not the key question. What matters is that housing shortages may be the biggest problem facing our era, and solving it needs to become everyone’s highest priority. And as important as it is, we should be wary of letting it become politically tribalised: the disastrous politicisation of Covid vaccines in the United States highlights the danger of that. Some kind of creative, below-the-radar solution that turns this zero-sum game into a positive-sum one is likely to have a better chance. In a tug of war, it’s often surprising how far you can go if you tug the rope sideways.

If we’re right about this, it means that fixing this one problem could make everyone’s lives much better than almost anyone realises – not just by making houses cheaper, but giving people better jobs, a better quality of life, more cohesive communities, bigger families and healthier lives. It could even give renewed reasons to be optimistic about the future of the West.

 

Sam Bowman is an editor at Works in Progress and Director of Competition Policy at the International Center for Law and Economics. You can follow him on Twitter here. John Myers is co-founder of the London YIMBY and YIMBY Alliance campaigns in the UK. You can follow him on Twitter here. Ben Southwood is an editor at Works in Progress and was most recently Head of Housing, Transport, and Urban Space at Policy Exchange. He is the recipient of two grants from Emergent Ventures. You can follow him on Twitter here.

Illustrations by Kade Byrand for Works in Progress. Byrand is currently based in Providence, Rhode Island and has a particular interest in urbanism and Liberalism. You can find more of his work here.