Transcript Housing, as shelter, is one of the basic needs of human kind

Importance of Housing
Housing,
as shelter, is one of the basic needs of
human kind.
Houses are financial investments.
Housing is a significant component of the local,
regional and national economy.
Housing is a social priority as declared by the U.S.
Congress in 1949.
Housing is a merit good.
K.O.R.E Enterprises, LLC
The Definition of Housing
9/4/08
Functions of Housing
Protection
from elements, wild beasts and human
predators.
Storehouse for personal possessions.
Workplace.
Assembling workforce.
Privacy.
Forced savings/store of wealth.
Social status.
Housing: What We Care About
Quality:
size, amenities, habitability and livability.
Quantity: size of GDP, countercyclical measures, and
stabilizing the economy.
Cost: efficiency , affordability and appropriate
incentives.
Transactions and outcomes: fairness, equality and
equity.
Nature of Housing
Durability:
lasts a long-time, difficult and costly to
modify, today’s choices set future conditions.
Fixed in place and produces neighborhood effects.
Limited knowledge by the consumer produces severe
information failures.
U.S. Fixed Tangible Wealth
Ware/Man
4%
Residential
56%
Office
6%
Retail RE
5%
Equipment
17%
Durables
12%
Source: Dasso, Shilling and Ring; Hartzell et al.
How Housing Markets Work
Inputs
Land
Finance
Infrastructure
Labor
Materials
Production
P
R
I
C
E
S
Developers
Builders
Landlords
Homeowners
Demand
P
R
I
C
E
S
Renters
Homeowners
(Income and
Population)
U.S. Population By Age
350,000
300,000
65 +
45-64
35-44
25-34
18-24
Under 17
250,000
200,000
150,000
100,000
50,000
0
1950 1960 1970 1980 1990 2000 2010 2020
U.S. Households By Type
120,000
100,000
80,000
Non-Family
Female Head
Male Head
Married
60,000
40,000
20,000
0
1940 1950 1960 1970 1980 1990 2000 2010
U.S. Homeownership, 1890-1996
70%
P ercent ow ners
65%
60%
55%
50%
45%
40%
1890
1910
1900
1930
1920
1950
1940
1970
1960
1990
1980
Homeownership Rates, By
Income and Race/Ethnicity
Homeownership Rate
100%
80%
White
Black
American Indian
Asian
Hispanic
60%
40%
20%
0%
1
2
3
4
5
6
7
8
Household Income Decile
Source: 1993 AHS
9
10
Goals of Housing Discussion
 Why
is Housing Different?
 What are the Implications?
 Understand Basic Equations in a Housing
Market Model
Features that Make Housing Different
 Housing
is heterogeneous
 Housing is immobile
 Housing is durable
 Housing is expensive
 Moving costs are relatively high
Heterogeneity and Immobility
 Housing
is
– a bundle of housing services
– a set of features or
– a list of attributes
 The
bundle of services is produced from
– a combination of two set of characteristics
– Dwelling characteristics
– Site characteristics
Heterogeneity and Immobility
 Dwelling
Characteristics:
– Size: square footage of living space
– Layout: the arrangement of rooms within the dwelling
– Kitchen: the quality and efficiency of kitchen
equipments
– Utilities and utilities systems: heating, air conditioning,
plumbing and electrical
– Interior design: type of flooring, windows, cabinets
– Structural integrity: durability of foundation and the
roof
Heterogeneity and Immobility
 Site
Characteristics
– Accessibility: sites differ in access to jobs, shopping,
and entertainment
– Provision of local public services: schools, fire
protection and police services
– Environmental quality: sites differ in air quality and
noise levels (from cars, trucks, airplanes and factories
– Appearance of the neighborhood: exterior features of
neighboring houses and lots, curb appeal
Heterogeneity and Immobility

Implications for the Housing Markets

Housing is priced as a composite good.
– The market price of a dwelling is the sum of the prices of the
individual components.

The quality of housing or the quantity of housing services
depends
– not only on dwelling characteristics, but also on the
characteristics of its neighborhood.

Benefits of amenities and costs of disamenities are
capitalized into house prices
Heterogeneity and Immobility

Implications for the Housing Markets

Implicit and Explicit markets:
– Households shop for characteristics in the implicit housing
markets where they determine their tradeoffs among the different
characteristics, but make their home purchases in explicit markets
for housing as a bundle.

Segmented but related markets:
– The heterogeneity of the housing stock means that a city’s housing
market is composed of a number of submarkets. The housing
market is segmented with respect to size, location and quality.
Durability of Housing
 Housing
is more durable than most goods
– If a dwelling is maintained properly, it can last
100 years or more
– The durability of housing has three
implications for the housing market
» the landlord can control the rate of physical
deterioration
» there is large supply of used housing
» the supply of housing is relatively inelastic
Durability of Housing: Implications


Deterioration and Maintenance
The landlord can control the rate of physical deterioration
– by spending time and money on repair and maintenance.

The question for the landlord is
– how much should be spent on maintenance over time.

Whatever amount of maintenance expenditure
– that maximizes the landlord profit should be spent.

However, the optimum quality of housing services
changes overtime
– as a result of
» changes in variable costs due to the aging of dwelling
» and also a decrease in demand for housing in the area.
Durability of Housing: Implications
 Durability
and Supply Elasticity
– There is large supply of used housing on the market
every year
– The supply of housing is relatively inelastic.
» The market is dominated by the stock of used housing, so
changes in price cause relatively small changes in the quality
supplied.
– There are three types of supply responses to an increase
in price:
» building new dwellings, slow deterioration of used buildings,
and remodeling used dwellings
Durability of Housing: Implications




The Filtering Model of the Housing Market
The filtering model captures some of the essential features
of the market for used housing.
It describes the interactions between different housing
submarkets and the process through which dwelling passes
from one use to another.
The filtering process has two basic features:
– Decrease in housing services. The quality of housing services
produced by particular dwelling decreases overtime.
» The decrease in quality results from physical deterioration,
technological obsolescence, and changes in housing fashion.
– Decreases in occupant income: the dwelling is occupied by
households with progressively lower incomes.
The High Cost of Housing


When a household buys a home, it typically spends
between two and four times its annual income on the
house.
The large cost of housing has four implications for the
housing market.
– First, given the large investment required for homeownership, a
large fraction of households rent instead of owning. In the United
States, about one-third of households are renters.
– Second, most middle-income households use homeownership to
accumulate wealth. In other words, a large fraction of the savings
of middle-income households is tied up in dwellings.
The High Cost of Housing
When a household buys a home, it typically
spends between two and four times its annual
income on the house
 The large cost of housing has four implications
for the housing market

– Third, most households need a loan to be able to
purchase their homes, hence the existence of the
elaborate mortgage finance infrastructure supporting
the housing market
– Fourth, the government assists the housing markets
with a substantial and wide range of subsidies
especially through the tax code
The High Cost of Housing
 Taxes
and Housing
 The federal government provides a number of tax
breaks for both rental and owner-occupied
property.
– The tax breaks for rental property decrease the
landlord’s costs, and these savings are passed on to
consumers in the form of lower rent.
– The tax break for homeowners are more explicit:
Homeowners deduct interest costs from their gross
income, so they pay lower taxes
Large Moving Cost
 Housing
consumption changes sometimes require
a move to a different dwelling
 Moving cost is substantial:
– in addition to the large cost of moving furniture,
clothes, and kitchen equipment,
– there is also a large personal cost associated with
leaving behind the old neighborhood
» with its people, schools, and stores.
 In
other words, a move to a new neighborhood
disrupts social and consumption patterns
Large Moving Cost:
Implications

Housing costs:
– a household changes its housing consumption only if benefits of
moving exceeds the cost of moving.

Small changes in income or price are unlikely to change
housing consumption.
– Most households tolerate some dissatisfaction with their housing
circumstances because moving is costly.


A household moves to a different dwelling only if the
change in income and price is large relative to moving
cost.
When a household changes houses, it is likely to make a
large change in its housing consumption.
Large Moving Cost:
Implications
 Economic
Elasticities
– Because of large cost of moving, households
base their consumption choices on permanent,
or long run, income.
– Given the cost of moving, the household makes
a long-term commitment to living in a
particular dwelling.
Large Moving Cost:
Implications



Income Elasticity of Demand for Housing
There is a consensus on three points regarding income
elasticity of demand for housing
(1) the overall income elasticity is about .75:
– a 10 percent increase in income increases housing consumption by
about 7.5 percent.


(2)the income elasticity of renters is less than the income
elasticity for owner-occupants.
(3) the income elasticity increases with income,
– the elasticity for low-income households is between 0.14 and 0.62
and for high-income households is between .72 and 1.10.
Large Moving Cost:
Implications


Price Elasticity of Demand for Housing
What is the price elasticity of demand for housing?
– Most estimates of the price elasticity fall between -0.75 and -1.2.

The consensus is that demand is slightly price-inelastic
– (elasticity slightly less than 1.0 in absolute value).

This means that an increase in price decreases the quality
demanded by slightly smaller percentage amount, so total
expenditures (price times quality) increase by a small
amount.
Basic Equation in Housing
 Concept
of the Price of Housing
 Housing Demand
 Housing Supply
 Home ownership Choice
What is the price of rental
housing?
 Rental
price (pr): cost per period for a
constant quality of housing
 Rent = pr h
 h is the quantity of rental housing services
per period
What is the price of owneroccupied housing?
 User
cost: analog to rental price
 Value = P H
 H is the quantity of the housing owned at
one point in time
User Cost: Definition
 The
cost of using one unit of capital for one
period.
 Equals the sum of the opportunity cost of
capital invested in housing, mortgage
payments, depreciation in the housing unit
less tax benefits and appreciation
Components of User Cost
 cost
of equity = ie E
 cost of mortgage debt = im M
 property taxes = pt P
 depreciation = d P
 expected appreciation = pi P
 tax benefits = tax P
Equation for User Cost
 uc
= (ie E + im M + pt + d - pi - tax) P
User Cost: Example
 Let
i = .1
 k = .75 (ratio of mortgage to price of house)
= M/(M+E)
 d = .02
 pi = .04
 P = 100,000
 tax = 0
 UCo = (.75*.1 + .25*.1 + .02 - .03)100000
= $9,000
Housing Demand for Renters
 Standard
Utility Maximization Problem
 Max U(x,h)
 subject to: pr h +p x x = Y
 Result: h = f(pr, Y, px , preferences)
Housing Demand for Owners
 Same
except we now have
 h = f(uc, Y, px , preferences)
Empirical Specification
h
= a0 + a1 pr + a2 px + a3 Y + a4 Z
 pr = rental price for renters and UCo for
owners
 usually in natural logarithms
 ln q = ln alpha + ln y - ln ph
Measuring Ph
 Problem:
how do we measure the price of a
standard housing unit
 Method #1: Repeat Sales
 Measure change in same housing unit over
time to determine change in P
 Method #2: Hedonic Index
 Estimate causes of variation in Value
among housing units in one market
Measuring Income (Y)
 Problem:
Housing is a decision that lasts for
many years; therefore, current income is not
the sole or even primary determinant
 Permanent or average income is key
 Method #1: Proxy: average consumption
 Method #2: Predicted Income
 ln y = b0 + b1 Education + b2 Age + b3
occupation, etc
Housing Supply
 Standard
Specification
 Profit Maximization
 Max PQ
 subject to: C(Q)
 where C = C(Q, production function, w, i,
pm)
Empirical Specification
Q = c0 + c1P + c2 w + c3 i + c4 pm
 Q is the value of the entire stock

– number of units
– average value per unit
To Own or Rent?
 What
is the cost of owning (UCo)
 What is the cost of renting (rental payments
= pq)
Why would they differ?
– Externalities
– Income Tax Preferences for Home ownership
To Own or Lease a Car?
 Same
logic but different parameters