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How to fix a crisis: An Auckland housing manifesto

Yes, it is a crisis: a profound and persistent crisis, bedevilled by distractions. Economist Eric Crampton takes a deep breath and works his way through the factors.

The word crisis gets thrown around a lot. New Zealand has managed to have several crises in alcohol use over the past decade, despite official statistics showing generally flat or declining consumption and harms over the past decade, and substantial drops in consumption since the 1980s. In that case, it can only be a crisis now if it had been an apocalypse earlier.

We hear that we’re in a crisis in income inequality despite income inequality having been flat or declining since the 1990s; if that is a crisis, it has been a crisis for two decades. The Cuban Missile Crisis lasted for about two weeks. I have a hard time understanding crises that last for decades. Crises are supposed to be critical turning points. They can’t last for years on end.

But it is hard to think of a better word for what is going on in the Auckland housing market. Housing affordability has been a big problem for a while. I started as Head of Research with The New Zealand Initiative in 2014. In 2013, the Initiative released Priced Out, a report on housing affordability, which lamented Auckland’s house prices. At the time, the median house in Auckland sold for 6.4 times the median household income and was severely unaffordable.

Today, that median house would sell for 10 times the median household income. Crisis? We’ve probably been at crisis levels for the past year. If it goes on much longer, we will have to find another more suitable word for very bad things that really, really need to be addressed, but that have persisted for far longer than is reasonable if we want to keep calling it a crisis. Hopefully it won’t come to that point.

Why is there a problem?

Auckland is adding houses less quickly than it is adding households. But it cannot be as simple as that. Avocado shortages aside, high migration figures haven’t led to shortages of anything else that people buy – and I would not blame migrants for the avocado shortages either. Auckland doesn’t have a barber crisis induced by the tens of thousands more people who need haircuts every month as compared to the same time last year.

The skyline of Auckland seen from the village Devonport, New Zealand

Since you started reading this article these Devonport houses have appreciated by millions in value (probably). Photo: iStock

Fundamentally, the problem has to be constraints on supply: either the building industry simply cannot keep up, or the council isn’t zoning enough land for either building up or building out.

The constraint, so far, has not been the construction industry. When I was at the University of Canterbury, you couldn’t walk between two buildings during the earthquake rebuild without meeting Irish accents in fluoro vests. Markets can scale up to meet demand if they expect that demand to be sustained. Builders can come in from overseas. Cement plants can be expanded and upgraded. Unexpected housing demand can then cause price blips, but you shouldn’t get the years-long rolling maul we’ve seen in prices.

The series of three reports the Initiative released in 2013, our reports since, and the Productivity Commission’s reports, point pretty strongly to council-level constraints on new building. Pro-density activists made it too hard to expand at the outskirts of town; Not In My Back Yard activists made it too hard to build apartment towers or terraced housing close to downtown. When a city can’t go out or up, prices can only go one way when population increases.

Red herrings

It’s also worth going through a few red herrings that people like to point to when arguing about Auckland’s housing crisis. All of them deflect attention from the real issue: Auckland simply has not allowed new building to keep pace with demand.

Empty Houses

First up, empty houses. Every few months, somebody rediscovers the 2013 Census data showing there to be 33,000 empty houses in Auckland. This number then gets used to argue that foreign investors are buying houses and leaving them empty. I will come back to the blame-the-foreigners angle shortly. Is there really any evidence that empty houses are a problem?

At least as of the 2013 Census data, there was zero evidence that this was any kind of problem. The proportion of empty houses was down on 2006, and is lower than in other centres. Houses that are undergoing renovations count as empty in the Census. Houses that are empty while they’re being sold, or while they’re in the middle of a house sale, count as empty. And the bach that somebody keeps to use on weekends up at the beach? That would be empty on Census night too. Even simply netting out the people who just weren’t home on Census night drops the figure by a third.

And nobody has more recent data. One Herald article this month breathlessly reported on the empty houses problem while citing the 2013 Census data. It also quoted a property manager who had heard that the number could be up to a figure so suspiciously close to the Census number that it is hard to believe that it wasn’t just a ballpark remembering of what the Census figure was in 2013.

So there is no strong evidence as yet that empty houses are a substantial concern. But imagine that they were: that some investors, whether foreign or domestic, were leaving houses empty because tenants are not worth the hassle in a strongly appreciating market. If that were really true, what possible policy moves would be desirable and work?

I do not believe the stories on empty Chinese-owned houses as there is not yet data supporting it. But if the stories are true and if it’s Chinese nationals trying to hide money in a safe jurisdiction, and they’re already throwing away $26,000 per year to do that, give your head a shake if you think a $5k stamp duty would do anything. Is it at all likely that higher rates, stamp duties, or anything short of draconian fines would convince somebody to rent out an empty house if they are already throwing away $26,000 per year to avoid having to have a tenant?

And remember that fines or other penalties would also hit folks’ empty baches, or the person who takes a year to sort out a deceased person’s estate, or someone who is hospitalised, or any of a dozen other rather reasonable reasons for having a house empty for a while.

Even more interesting are politicians who simultaneously believe that investors are so scared of having tenants that they’d throw away tens of thousands of dollars to leave a house empty, and that mandating tougher standards on landlords would have no effect on the number of houses available for rent. It’s not easy to see how those can both be true.

Capital Gains Taxes

Next up, capital gains taxes. In the real world, these almost always exempt the family home, so would be more limited in effect than you might expect. But plenty of unaffordable jurisdictions have capital gains taxes, as do plenty of affordable ones. Just look to the United States. Capital gains taxes apply across the whole country, but house prices in San Francisco are about as bad as they are in Auckland, while Atlanta is affordable. Differences in zoning regulations across American cities mean that prices range from about two and a half times median incomes in places like Houston or Atlanta to about ten times median income in places like San Francisco. And they all have a capital gains tax.

Implementing a capital gains tax would cause a one-off drop in house prices, but it is harder to see how it affects the rate of price increases. If investors can earn more by putting money into some other asset that’s as risky as housing, they will do that. If what you can earn by owning houses decreases, then the price today has to drop. By how much does it have to drop? Until the rate of return investors get from owning houses is about as good as they can get elsewhere. You might then expect a level effect on the price of houses, but not really any effect in the rate of house price appreciation. And that does not really make housing any more affordable either: you get a slightly lower mortgage because the house was cheaper, but that’s matched by the tax you will have to pay at the end.

Finally, it is really hard to see why not having a capital gains tax would affect housing in particular as compared to other kinds of investments. Taxing interest, and especially taxing the inflation component of interest, can mean that people prefer assets that provide a capital gain instead of interest, but that should not really distort choices between different assets that provide capital gains. And remember that people doing up houses to on-sell do pay tax on that activity.

Those darned foreigners

Enough with capital gains taxes. They haven’t made Sydney affordable or Houston unaffordable. What about overseas investors? Unless they’re leaving houses empty, or picking up the houses and shipping them away while leaving a vacant lot, they can’t be causing the problem. From a housing affordability perspective, the best foreign investor is the one who never moves here – if we cannot build more housing. An overseas buyer who does not move here does not change the number of available houses but also does not increase the number of families here needing houses.

More people wanting to live in Auckland can be a substantial problem, though, if it is hard to get new housing built. That is true whether they move there from the provinces or from abroad, but that has nothing to do with who owns the house.

And net inbound migration has been much higher than has been expected. Treasury tends to expect net inflows of about 12,500 per year; this past year we crossed 65,000, and most want to live in Auckland. This means that all the prior forecasts of substantial housing shortages underestimated the scale of the problem. When supply is relatively fixed and demand jumps, prices can only go one way.

But does high migration really necessarily kill housing affordability? Let’s turn to Atlanta. The metropolitan region there grew from just under 3 million people in 1990 to 5.7 million in 2010. Yet housing has stayed under three times the median household income. Why? Atlanta builds more houses, more townhouses, and more apartments when more people want to live in Atlanta.

I’ve stolen the chart below from a presentation by Auckland Council’s Chief Economist Chris Parker. San Francisco, Boston, Seattle and New York all have pretty tight rules making it hard for their cities to expand. Their housing markets showed substantial appreciation and huge price variability. Look instead to the cluster of lines at the bottom of the chart. Detroit we can leave to one side: they have experienced population decreases. But Atlanta has had huge population increases, and a very stable price trend. Houston added almost a million people from 1990 to 2000, and almost another million from 2000 to 2007. It’s the dark green line that hovers at the very bottom of the chart. Houston allows more building to accommodate all the people running from San Francisco’s high prices.

ec-house

Net migration only matters for Auckland house prices because zoning restricts new building. Fix that, and house prices would not be an issue. If you really want to weep, go to an American real estate site and look at the kind of house you could buy in Atlanta or Houston if you sold your place in Auckland and moved there.

State housing

If anybody wants to build more housing, whether they’re a government agency or a private developer or a private developer in some public-private arrangement with the government, they need to have council permission to build. The zoning has to allow for it.

State housing as a solution then requires that central government have some magic wand it can wave to make Auckland’s district plan allow more housing. If central government has that kind of wand, and it might in a world where both National and Labour seem ready to overturn the Auckland Independent Hearings Panel’s recommendation if it does not seriously address land supply issues, why should it only use that wand to build state houses? Why not fix zoning properly so that everyone can build?

The government has been selling off some of its state houses. To put it bluntly, the government owned a large stock of houses that had been poorly maintained for decades, didn’t always suit current families’ requirements, and were not always in the right places. The Government can support more people’s accommodation by selling those off and using the money to help with rental costs.

Unless the new owners are bulldozing the houses and leaving vacant lots behind, the policy does not reduce the number of houses available – but it could change who winds up getting houses. Again, the number of people forced into shoddy, overcrowded housing, or into their cars, depends on how many more people there are than houses. If selling off state houses does not reduce the number of houses in existence or increase the number of people in existence, it is not going to be increasing the number of homeless people.

In functioning markets, sold-off state houses would be bulldozed and replaced with terraced housing for many more people, reducing the scale of the problem. But that is less likely to happen if owners can expect strong returns from just sitting on the land for a few years: why sell now if you think the land will be worth a lot more later on? Why build the development now if you think prices for those houses would be even higher if you build them later?

This should not really happen as expectations of future price increases ought to affect prices today – and at least some of the current high prices likely reflect expectations of continued shortages. Policy needs to move sharply enough to break owner expectations of ongoing future price increases.

The construction sector

Last year’s report from the Productivity Commission, Using Land for Housing, pointed to some things that have worked to push up housing costs. New Zealand’s construction industry is fairly small-scale and delivers a lot of bespoke housing rather than large subdivisions; this pushes up construction costs. But, that gets causality backwards. We have small scale builders for the most part in New Zealand because councils make it very difficult to get consents to put in new subdivisions to build at scale. The Productivity Commission of course recognises that, but public commentary often forgets it. It is easier to point to symptoms than to try to fix root causes.

The Commission also pointed to fragmented land holdings and difficulty of accumulating parcels for development: basically, land-banking. While land-banking seems to be a real and substantial issue, it too is a symptom. When Auckland Council sets a Rural-Urban Boundary (RUB) allowing only small bits of land to dribble out for development at any one time, land supply is artificially scarce. When that happens, the price of the scarce thing gets bid up, and quickly, and even more where people expect scarcity to worsen over time. Or to put it another way, why would anybody sell off an asset today that has been appreciating far more quickly than any other asset out there, unless they expect land prices to ease back?

One solution to accumulating big enough parcels of land for development when owners are land-banking is compulsory acquisition. The Productivity Commission pointed to Urban Development Authorities (UDA) with powers of compulsory acquisition as solution, and John Key this week also suggested UDAs as a way forward. But that still is just treating symptoms. Labour’s housing critic* Phil Twyford is absolutely correct: the solution to land-banking is eliminating the RUB and allowing development to “leapfrog” over existing land-banks.

Where it is currently profitable to just sit on land that attracts scarcity pricing because of the RUB, that incentive disappears when the artificial constraint goes away. When leapfrog development is possible, land owners would expect prices to start dropping. And they would then want to be the first to have developed houses on the market, before prices fall too much, rather than waiting until prices have fully adjusted.

More serious solutions

Council incentives

Over the past four years or so, we’ve achieved a generalised political consensus in Wellington, across parties and agencies, that the bulk of the problem comes down to statutes and council regulations that make it too hard to build out or up.

So far, it might sound like I am blaming Auckland Council for the entirety of this mess. But that would be far too simplistic. Would you blame the birds for flying, the children for laughing, or the sharks for biting? No. Or, at least you shouldn’t – even if some people lodge objections to new playgrounds because of the potential for loud laughing children.

Councils operate within financial and legislative constraints. The problem is that what is best from the perspective of council or any councillor can differ from what is best for the country.

But just as it is too simplistic to just blame Council for this, so too is it too simplistic to just blame the Resource Management Act.

The RMA lets councils set whatever district plan that councils want to set. It doesn’t force councils to be very restrictive, though it doesn’t make it easy to subdivide. What the RMA does do is make it very hard to amend a district plan once one is set.

There are reasons that Auckland Council has taken years to produce the unitary plan. And, there’s also a reason that local objections have had so much sway.

homeless boy holding a cardboard house, dirty hand

A real estate agent proffers an affordable housing solution. Photo: iStock

Just look at the mess in Auckland where a developer wanting to build housing for 1500 households in an old gravel pit at Three Kings, turning much of it into parks and open spaces, has bought almost a decade’s worth of objections and processes and hearings. How can anybody build anything to scale under those conditions? In the middle of a housing crisis, with daily news stories about the number of children having to live in cars with their parents because there are not enough houses to go round, NIMBY activists block new construction.

Every time a NIMBY cries, an angel has to sleep in a car, or in a garage.

Consider it from Council’s side. If the Council’s infrastructure costs for servicing a new development eat up most of the potential new rates revenue that the new residents would bring, and if allowing new development buys every councillor tons of aggravation, why encourage development? Local residents can vote out sitting councillors long before anybody might be able to move into any allowed new terraced housing. People who do not yet live in your district do not count for much in the local planning hearings.

Similarly, from current residents’ perspective, why wouldn’t they object to change? If a new apartment building goes up near you, it could be that the leafy tree in your front yard, which was only one of many leafy trees before the apartment building, is now an important neighbourhood amenity – and that could let others object to changes you might want to make some day. Failing to object to a neighbour’s change in land use could mean that you’re prevented from subdividing later on.

Even worse, the new residents can make your life much worse. Imagine that you owned a bar that had live music and somebody proposed putting up an apartment tower next to you. If it looked like those apartments would cater to rich old people likely to complain if they could hear anything other than the closing theme song for One News Tonight after 10.30 pm, well, even I’d be lodging objections to that new apartment tower. The local councillor is pretty likely to care a lot more about the votes of the folks in the apartment tower than killing nightlife; younger people are less likely to vote.

The RMA has abandoned the old common-law principle of coming to the nuisance, under which you cannot complain about things in the neighbourhood that were there before you moved in. Planners call this problem reverse sensitivity. If new development can block the things that you are already doing, why wouldn’t you object?

One of my favourite examples comes from one of my favourite bars in Christchurch, where the effect went the other way. The gelatine plant in Opawa has always made a horrible stench. The stench got worse after the earthquakes – at and the same time Cassels & Sons set up a bar next door. The outdoor seating area was often a bit too fragrant to enjoy. They had a poster up with the number for the Council official to whom patrons could complain about the smell. The gelatine plant was there first, and the bar came to that nuisance – then made life rougher for the plant that was there first.

While the stench really was terrible, think through what incentives like this do in encouraging people to resist new development. I wonder if the gelatine plant’s owners regretted not having made a stink about Cassels opening in the first place.

Better incentives

So, what can we do to flip this around? Right now, everybody recognises that what is happening in Auckland is hugely damaging – not just for all the usual reasons around housing affordability and crowding, but also for national productivity and overall fiscal stability. Central government’s typical approach is “let’s beat Auckland Council with a really big stick until they stop behaving in ways that are contrary to the national interest”. But that only gets us so far. Long term, we need councils to have better incentives.

When a city grows, it faces infrastructure costs and gets a small increase in rates revenue. Central government gets the increase in income tax, company tax, and GST. If a Council hinders growth, it only bears a small portion of that cost to the country, but it can help keep its infrastructure bill down and avoid annoying NIMBYs who love to turn out to vote in local elections.

The country then needs to find better mechanisms that allow the private sector to fund infrastructure costs. In affordable American jurisdictions, new subdivisions put in their own infrastructure, fund it through their own bonds, and pay it off by a special tax on the new development. Council’s infrastructure cost drops and tons more land can be opened up for development – especially if the development doesn’t necessarily have to go with Watercare but could tap into the aquifer where feasible and deal with their own wastewater treatment. This enables leapfrog development to get around the land-banking.

Councils also face debt constraints that bar them from paying more than a fixed percentage of their rates revenue in interest. But that also means that a growing council can have a very hard time in funding new infrastructure. Easing that limit for growing councils could enable more infrastructure to be built to allow for growth.

Councils’ incentives could be improved if they could share in the increased tax revenues that central government enjoys when councils allow growth. Imagine the change if Auckland Council received the GST on new dwelling construction, for example. A house costing $250,000 to build would give Council $37,000. That, writ large, would let Council come up with more innovative ways of making existing residents less hostile to development. If more apartment towers were then able to come with improved local libraries, or other facilities that local residents like, again we could start making progress.

Finally, we need to look back to more traditional common law principles around development. Bringing back traditional “come to the nuisance” considerations could reduce problems of reverse sensitivity where current residents might otherwise fear that new residents will complain about existing activities. Even listing some of the existing nuisances on the LIM as a way of ensuring that new residents know what they’re getting in for, and using those LIM listings as a way of preventing complaints about listed nuisances, could help.

A change in mindset

Fundamentally, the country is not going to solve Auckland’s housing affordability problems without building more houses at a much faster rate. That will not happen without changes in zoning allowing both building up and building out. And getting durable changes to town planning likely requires changing the incentive structures within which councils operate. Part of that can involve financial incentives. Part of it should involve changes to the Resource Management Act making it easier to subdivide, easier to change district plans, and harder to block new developments.

And some of it has to involve a change in mindset. When you buy a house, you aren’t really buying a right to stasis, locking all of the neighbours under thick clear plastic wrap like your grandmother’s living room set. Neighbourhoods and cities have to be able to change and move to meet changing demand. The formal planning structures the government has built, and the financial incentives facing councils, create far too much bias towards stasis, and stasis is the enemy of growing, vibrant cities.

We are at a crisis, and hopefully a crisis in the best and proper sense of the term: a time for change. Let’s hope that local and central government can make the most of it.

* In Canada, the Opposition MP tasked with a portfolio spokesperson role is called the Critic for that portfolio. I like that word better so I use it here.

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