Friday, December 3

Smart growth and fiscal responsibility

I noticed that Geoff Anderson, President and CEO of Smart Growth America, has come out in favor of the recommendations submitted this week by the National Commission on Fiscal Responsibility, at least the ones pertaining to tax reform.

"Unbeknownst to most, the federal government plays a massive role in the real estate market by subsidizing and enabling all kinds of development in our communities. With ballooning deficits, now seems like a good time to revisit these subsidies and make sure they are achieving a legitimate public purpose -and not, in the commission’s words, 'creating perverse incentives.'"
The smart growth movement has a long history of focusing on fiscal responsibility, dating back the the Costs of Sprawl published in 1974. This makes sense. Those of us who are too frugal to throw away the ketchup bottle before it's completely drained, cringe at the sight of underused parking lots being given over to weeds while far-off greener pastures are built on. It was all the more frustrating to watch this being done around the country with money that didn't actually exist. "Can we really afford this?" has been asked all along by John Norquist and James Howard Kunstler (albeit in very different ways!), and now finally this question is gaining some traction at the federal level.

The Home Mortgage Interest Deduction stands front and center in all of this. The deficit commission wants to limit the deduction to mortgages of $500,000 or less on primary residences. A healthy debate has been occurring among urbanist blogs about whether the HMID, in general, leads to a dispersal of housing. I'll dive in: I think no and maybe, depending on the region, but that there may be an important inter-regional impact to consider. My take on this is heavily influenced by Edward Glaeser and Joseph Gyourko's book Rethinking Federal Housing Policy (free pdf here).

In supply-constrained regions (like San Francisco), the extra money infused into the housing market by the HMID is swallowed up almost entirely into the prices of existing homes. There are few options for more development, so existing homeowners can simply raise their sale price to account for the buyer's willingness to spend more. This doesn't effect the built environment but it does mean housing affordability is compromised. In fact, the lower middle class takes a double-whammy with this. They pay taxes but don't make enough to use the deduction at all. Then they have to compete in a housing market inflated by the wealthier people who do benefit from the deduction. In these situations, the HMID may actually push people away from homeownership - the exact opposite of its stated purpose.

In elastic housing markets (like Houston or Detroit), the HMID probably does effect the built environment and drive down home prices to some degree. However, Glaeser and Gyourko's research indicates that the deduction is still not inducing much homeownership, because the subsidy is only available to wealthier households who are not usually the ones on the margin between renting and owning. They would buy anyway. Instead,
"A more important effect probably is on the quality of the home consumed, with people living in bigger and better homes than they would otherwise."
They question the wisdom of this tax incentive,
"In the old world of dumbbell apartments in dilapidated tenements, there may have been a case for government policies to improve quality and size. That case seems to much harder to make in today's world of suburban McMansions."
This is why I guess "maybe" for these regions. The quality improvement could mean either nicely-built craftsman bungalows or subdivisions of cavernous and disposable homes, but the HMID itself would not have much impact on the land costs - and that's what determines the spatial distribution of housing throughout the region.

What about the national scale? If the HMID pushes home prices higher in San Francisco and, at the same time, makes houses bigger for the same price in Phoenix, it's not hard to imagine some people who are considering a relocation to choose Phoenix partially on account of this effect. So the HMID may not make a region more sprawling than it would be without it, but it may help redistribute the national population away from places that are condensed to places that historically have been sprawling.

Bottom line: the HMID is essentially a one hundred billion dollar program for giving bigger homes to wealthier households in places that don't have much of an affordability problem anyway, all the while exacerbating the affordability in places where it already is a problem. It's not surprising that a group like Smart Growth America may question whether this is the best use of taxpayers' money in an era of overwhelming deficits.

UPDATE:  Here's a recently published study on the Home Mortgage Interest Deduction that puts some empirical meat on the bones I've described here. The Modeled Behavior blog summarizes the results:
"Using national data from 1984 to 2007 they found that the MID did not increase overall homeownership. In areas with light land use regulation they found that homeownership among higher income families was increased, and in tightly regulated housing markets homeownership was decreased for all income groups except the lowest. The effects, both positive and negative, generally range from 3% to 5%. Regardless of the regulatory environment, homeownership among the lowest income group was not affected at all by the MID.

The authors estimate that it each additional homeowner created by the mortgage interest deduction costs the government $53,590, a number they rightly call “staggering”.

An important implication of the findings is that in urban areas, where land use regulations are typically more restrictive, homeownership is likely to be negatively impacted."