February 26, 2023
Subsidizing Builders Fixes the Wrong Housing Problem
Indiana is wrestling with a housing problem. Mayors across the state grapple with ways to get new homes built in their communities. Last year, the Indiana Legislature convened a task force that listened to several groups outline their perspectives. One result is that in this session of the General Assembly, there are bills to subsidize developers to construct new housing.
I am sympathetic to their worries. About one-third of the nation’s workers now can work from home, and housing availability will matter to the tens of millions of families who can now live wherever they wish. That is why it is necessary for policymakers to understand the full dimensions of the problem. In many cases the wrong remedy is worse than doing nothing.
There are essentially two different housing problems in Indiana. One is modest, but familiar. Fast-growing places have too few homes that are affordable for lower-income families or young workers. So, if you are a new school teacher in parts of the fast-growing Indy suburbs, being able to live in the community you serve will be difficult. This is a familiar problem because it is so common across the United States. However, Indiana has few fast-growing cities; therefore, the problem is modest in terms of overall numbers.
The second problem is the prevalent belief that Indiana has a widespread housing shortage. Upon examination, the data tells a very, very different story. In fact, the has a glut of housing. In all but a half dozen or so counties, we are oversupplied homes. This is true whether you look at Census housing data or Multiple Listing Service housing data.
The MLS data is frequently used to argue that housing is undersupplied in Indiana. Among the most frequently cited statistics are housing inventory data. As of January, Indiana had 9,800 homes for sale. Last year, our population grew by fewer than 20,000 people. Even at its tightest point, our monthly housing inventory never dropped below 25 percent of annual population growth.
The Census data tell an even clearer story about housing stock. Since 2010, Indiana has added one new single family home for every 1.5 new residents. However, our state’s average household size is 2.5 people.
Moreover, the official Census counts almost 300,000 vacant homes statewide in 2010. This includes only habitable structures, not derelict or unlivable houses. This excess supply of homes, 1 out of every 10, would easily accommodate all our population growth since 2000.
The price data tell the same story. So far this century, homes in Indiana have risen in price by only 72 percent of the national average; home prices in our hottest metro area have risen only 75 percent as fast as the nation as a whole. This relatively sluggish price growth points to a surplus in housing, not a shortage. None of this should be surprising.
As in much of the Midwest, about a third of Indiana’s counties have been losing population for 50 years. People leave, but houses remain. So, in most cities across Indiana, there are hundreds or thousands of vacant houses. Vacant houses depress home values across the region in which they are located. The effect is at least strong enough to extend to the county borders, but probably beyond. Here’s why.
Homes in an area of declining population lose value. Once the market price drops beneath the cost of new home construction, prices collapse and home construction largely ceases. This is not my observation or opinion—these issues have been studied for more than a century, with a focus on the Rustbelt for 50 years. A modest amount of research would uncover this work, which would help sidestep potentially damaging policy mistakes.
For example the legislative task force mentioned ways to address the ‘appraisal gap’ in new housing. But, what if the ‘appraisal gap’ is simply financial markets working correctly? You see, lenders go to extensive efforts to make sure the loans they issue can be paid back, and, if default occurs, they can recover assets to make their depositors whole. Banks want to make loans, but not bad ones.
If a home appraises at a price that is too low to sell, bankers will deny the loan for buying that home. Not only is this a signal that the home is overvalued, it is also a signal for builders to construct new homes elsewhere. It is almost as if no one recalls the housing bubble. To be certain, well-functioning housing markets may disappoint many. Still, complaining about them is akin to me complaining that no NBA team will pay me as much as LeBron James.
There are potentially good arguments for subsidizing development, but these arguments are very idiosyncratic to a specific downtown or municipal area. They also acknowledge the plain fact that housing markets are extremely efficient. The act of subsidizing builders carries real risks of too many homes being built in the wrong places. But, wasting a few tens of millions of taxpayer dollars is not the real risk of misidentifying housing market problems—the real risk is ignoring the fundamentals of housing demand.
New, attractive homes don’t generate a growing community; causation works in the other direction. Growing communities lead to new housing. In growing places, older homes are renovated because it makes financial sense to do so. This dynamic also attracts home builders, but not to shrinking places. Therefore, housing supply responds to the demand for housing, not the other way around. If an excess housing supply caused people to move to that community, folks would be flocking to Muncie and Detroit and Toledo, while fleeing Carmel and Columbus. That does not appear to be what has happened over the past half century.
Migration and housing demand is driven by quality schools, low crime, clean air, decent parks and other public amenities. For example, no one should be shocked to learn that school quality alone accounts for one-third of the price difference between identical homes located in different places. Building new homes won’t fix schools, crime or pollution. They are simply a bandage to cover bad fundamentals. The addition of more housing to an already over-supplied market will only reduce the value of existing homes. It fixes the wrong problem, and it diverts resources from the fundamental issues that drive household migration.
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