→ How do we think about affordability?

→ When should we intervene in the housing market?

Interesting Research Ideas

• The Threat of Chapter 40B
  • The power of Chapter 40B as a threat, however, is limited by the fact that it can be used only by those developers with access to government subsidies.

What Surprises You?

• High School History Test: It’s like someone taking a high school history test. They substitute their own question for the questions that’s actually being asked:
  • The demise of Fannie Mae and Freddie Mac provides the opportunity to rethink housing affordability policy more generally.
  • We argue for a clearer diagnosis of the underlying problem, which inevitably leads to a focus on local government restrictions on new building that limit supply and help push prices up in our most expensive markets
  • The overall success of the housing market has little to do with the main federal interventions, but the failure of certain markets to provide affordable housing is largely due to local government interventions that restrict new supply.
  • Suggest a lack of understanding of the mortgage market? We do not make any strong recommendations regarding changes to Fannie Mae or Freddie Mac, especially in the near term. In the midst of a severe credit crisis, we certainly do not feel qualified to advise the Treasury on whether these entities are needed to maintain essential liquidity in the mortgage market.
• Relative Weight
  • Where is the evidence??
  • It may seem surprising that local, not national, policy on housing supply really influences whether the nonpoor can afford housing. Mortgage interest deductibility and the two housing-related GSEs—the Federal National Mortgage Association (FNMA or Fannie Mae) and the Federal Home Loan Mortgage Corporation (FHLMC or Freddie Mac)—certainly are more visible. These demand-side interventions targeted at the middle class are huge and help households buy more housing than they would otherwise. However, they are not what makes housing affordable, and their absence would not engender an affordability crisis
  • If Fannie Mae and Freddie Mac had as little impact on middle-class housing affordability as our analysis suggests, then their implicit government subsidy clearly was not worth the risk to the taxpayers.
• The second affordability problem is newer and more complicated. While housing prices certainly have boomed over the last decade, much of the U.S. housing market is still working well, providing abundant housing at prices close to the costs of construction
• In well-functioning markets, both price and quantity can adjust to changes in demand conditions
• Functioning of the Market
  • functioning perfectly
• Issue with Definition of Affordability:
  • Any ability to pay measure based on incomes and house prices is likely to confuse issues of poverty with problems in the housing market. Hence, it makes sense to keep these factors separate in discussions of housing affordability
  • We define housing as being “too expensive” when its price is high relative to its fundamental production costs. The reason construction costs are a good benchmark for what the price of housing should be in a well-functioning market is that, if we believe housing is too expensive in some place, then the correct response presumably is to produce more housing so that its price will fall to the level at which it can be produced in a competitive market.
• Natural Scarcity
  • if house prices are significantly greater than construction costs, then we should ask why this gap exists. If the gap simply reflects the high cost of available land because of some natural scarcity, then it will be hard to narrow it without large-scale subsidization or other policies that reduce the value of land. For example, nothing the government could or should do will make land (or housing) costs the same in rural Idaho and midtown Manhattan. Conversely, if this gap reflects a market failure, such as one caused by local government policies that make new construction difficult and render developable land artificially scarce, then effective policies that bring housing costs down are easier to imagine. So, while Manhattan will never be as cheap as Idaho, it is possible to imagine that the price of Manhattan apartments could be much closer to the cost of building them.
• When to Intervene (Market Failure)
  • We argue that direct housing-market interventions should be contemplated only when the housing market is failing to deliver homes at a price that is close to or below construction costs
  • Even if high prices call for more aid, they do not imply the need for intervention in the local housing market unless there is evidence of a market failure. If housing prices, no matter how high, simply reflect strong demand and normal supply conditions, then it is hard to see why a policy intervention is called for.

The Production Problem

$$ \underset{q_i \in \mathbb{N}}{\max} \ F(p, q_i, q_{-i}),\quad \text{where} \ F(p, q_i, q_{-i}) = p\Big(\sum_{j=1}^n q_j\Big)q_i - c(q_i) $$

First Order Necessary Condition

Note $q = \sum q_j$

$$ \partial F_{q_i}(p, q_i, q_{-i}) = p'(q)q_i + p(q) - c'(q_j) $$