Everyone agrees the rents are too damn high. A loud and erudite group suggests a solution of unleashing housing supply by liberalizing regulations on new construction. Apply the pop social science of Economics 101 and bring down rents with more units. Ben Adler dares to be different, promoting a cooling of demand (which also falls under the pop social science of Economics 101):
This kind of “pied-à-terre tax” would address a very real problem, and a major flaw in the pro-development arguments of density-celebrating urbanists. When dense cities with surging populations face rising housing prices, environmentalist neoliberal sellouts like me and my friend Matt Yglesias argue that we should let more people squeeze into relatively green, compact neighborhoods — and lower housing prices — by loosening zoning regulations to allow more development. And, in principle, this makes sense. But a problem arises when a significant number of homes are bought by rich out-of-towners looking for a place to stay on occasion, an investment, or a hedge against an unstable currency, economy, or political climate back home. Last year, The Washington Post reports, foreign buyers bought more than $90 billion worth of American homes. Real estate, the Post explained, is “an asset class denominated in U.S. dollars, safe from confiscation and, when necessary, bought anonymously to hide wealth from governments or creditors or ex-partners.”
Superficially, I agree with Adler. Yes, foreign purchases of U.S. real estate is significant and more widespread than appreciated. So what? Later in Adler's argument:
The logic of letting the free market balance supply and demand to fix housing prices depends on the demand side being composed of people who actually live in the city. When it is, prices are limited in part by how much money people there make. But when rich people who don’t live there buy up properties, prices can be totally out of sync with the wages of residents, making the cost of living unaffordable.
Again, so what? Why would out-of-market wages matter in a regional real estate market? The geography of supply is fixed. The geography of demand is increasingly less so. Furthermore, how we understand housing affordability is a function of regional cost divided by regional wage. Applying the pop social science of Globalization 101, Edward Glaeser offers an anachronistic model of an urban real estate market.
In the past, I've tried to use the analogy of a labor market to understand what is going on in the real estate market. After all, what locals can afford is half of the supply and demand curve for housing. That analogy, I've tried a few times, landed with a thud. I'll try again using the conceptual framework of Michael Porter:
“This economy is on a very unhealthy path,” Porter said. “It’s on a path that’s creating inequality between the average person and the people with a lot of skill and ability and capital, and that inequality is going to tear us apart if we can’t reverse the trend.”
Porter divides all business in a region into the “local” and “traded” economies. The “local” economy provides the types of jobs that all cities have — jobs at restaurants, gas stations, doctors’ offices, stores and auto shops. The traded economy is global, often specialized and depends on exports.
Wages are stagnant for so many in part because the U.S. has not been doing well in the traded global economy. Net growth in those types of jobs have been flat for two decades.
I would divide all real estate demand in a region into the "local" and "traded" economies. Wherever traded economic demand goes in a real estate market, gentrification will follow. Local wages are pitted against traded wages. As Porter laments, local wages will lose in any bidding war. In my mind, foreign direct investment into real estate gets lumped in with all other "traded" demand.
Housing supply can't be traded. Only demand can be traded. That disconnect of geographic scale drives the housing affordability problem.
On Twitter, Ryan Avent attacked Ben Adler. To paraphrase, why wouldn't more flexible supply address the problem of foreign buyers? Reading the back-and-forth between Avent and Adler makes me uncomfortable supporting Adler's position. Then Avent tweets this assertion, "Housing in New York, London is attractive as an investment for outsiders because it's scarce!" Housing is scarce in many other places other than New York and London. Ryan Avent sucks at geography.
Perhaps I suck at economics. Conceding that point, global flows of tradable real estate investment:
The wealthy elite from China, Latin America and elsewhere have bought pieds-à-terre in glassy towers in Manhattan, luxury condos in Miami and homes along the West Coast. Law enforcement investigations have found that some foreign investors are using American real estate holdings, at least in part, to hide cash and other assets from authorities in their home country.
But many less-than-superrich foreign investors just want a safe place to put extra savings, and their investments tend to be much less grandiose than the trophy properties that have drawn most of the attention. And for Indians in particular, who long trusted in gold to protect their wealth, American real estate offers a “very, very attractive destination,” said Subir Gokarn, director of research at Brookings India in New Delhi.
Jed Kolko, chief economist at Trulia, an online marketplace for residential real estate, said the most popular property searches for people from India were in and around Silicon Valley, where technology firms heavily recruit from India; in the Boston and Philadelphia areas near universities that have numerous students from India; and in suburban areas of New Jersey and in Queens, where there are established Indian-American communities.
Foreign-born real state investors are not looking at where they think supply will continue to be constrained (a dubious projection, to say the least). First, the money goes where the investors know. Investment follows migration patterns. Second, the money goes where demand will remain high:
From 2005 to 2014, the number of Chinese attending American secondary institutions grew almost 60-fold, from 632 to 38,089, according to the Department of Homeland Security’s Student and Exchange Visitor Program. A cottage industry of consultants has arisen to help place them at institutions in the U.S. “Last summer, eight agencies contacted us all at once,” says Leslie Evans, Hartsbrook’s enrollment director.
The supply of great education will attract the demand of wealthy buyers. In Northern Virginia, I reside one county immediately west of Fairfax. In Fairfax County, parents bid up real estate prices in the areas assigned to the best secondary schools. The irrational (in my view) real estate investment doesn't have anything to do with expected housing supply constraints. South Asians insist on their children going to Thomas Jefferson High School for Science and Technology. They aren't calculating entrenched NIMBYism.
Where is foreign direct investment in real estate concentrated in the United States? Can supply restrictions explain that geographic variance? I doubt it. Prove me wrong.