Tight local planning constraints push up house prices<\/h3>\n
Longstanding UK evidence, summarised in the Barker Review (2003)2<\/sup>, demonstrates that housing supply is extremely unresponsive to changes in demand. That is if real earnings and population grow over time, construction hardly responds, causing house prices to rise markedly in order for the housing market to clear. Long-run supply constraints are the only plausible explanation, but what kind of constraints? Barker suggested that the rigid planning regime may be a likely candidate. Others hypothesised that geographical and physical constraints are to blame.<\/p>\n In a recent study \u2013 published in the March 2016 issue of the Economic Journal3<\/sup> \u2013 my co-author, Wouter Vermeulen and I rigorously tested these conflicting hypotheses. Employing methods that allow us to establish causal effects rather than just correlations, we explored the impact on house prices of three different types of local supply constraints: (i) planning induced constraints, (ii) scarcity of developable land and (iii) topographical constraints.<\/p>\n Our evidence is strongly supportive that the planning regime in England is the main cause of the excessively high house prices, particularly in the GLA and the south-east of the country. Our estimates imply that house prices in England would have increased by about 100% less in real terms between 1974 and 2008 if, hypothetically, all regulatory constraints were completely relaxed. More pragmatically, if the southeast (the most tightly regulated English region) had the regulatory restrictiveness of the north-east (less regulated but still restrictive by world standards) house prices in the south-east would have been roughly 25% lower in 2008 and perhaps 30% lower in 2015. Topographical constraints also matter in a statistical but not in a quantitative sense. Finally, the effects on house prices of constraints due to the scarcity of developable land are mainly confined to highly urbanised areas such as the GLA, but in these locations, they are economically important. In a nutshell, house prices in London would still be fairly high by world standards even if regulatory constraints were relaxed, but housing would be substantially less unaffordable than today.<\/p>\n Tight planning constraints do not only push up house prices. In conjunction with business cycles, they also amplify price volatility, thereby creating systemic risks. Moreover, regulatory constraints tend to be tighter and more binding in more desirable places such as the GLA, Oxford or Cambridge, implying that housing is built in the \u2018wrong\u2019 places; far too little housing is produced in the most successful, most productive cities where demand is strongest. Evidence for the United States suggests that lowering regulatory constraints in high productivity cities like New York, San Francisco and San Jose to the level of the median US city would increase production by about 9.5%4<\/sup>. The ballpark figure may be similar for the UK.<\/p>\n Planning induces both benefits and costs. There are considerable potential benefits in the form of correcting market failures such as monopoly power, externalities and lack of provision of public goods. For example, planning has the potential to solve the holdout problem in land assembly for transport infrastructure. It may prevent excesses of urban sprawl and may protect important views on landmarks and historic buildings. Planning also ensures the provision of public parks as well as the preservation of natural habitats and cultural heritage.<\/p>\n The trouble with the UK planning system is that it often prevents, contains, preserves and protects even if no market failure is apparent, and with complete disregard to any costs that may outweigh the benefits of the intervention. One example to illustrate the point about market failure is London\u2019s green belt. The green belt contains areas of outstanding natural beauty that ought to be protected.<\/p>\n However, it also contains heaps of intensive agricultural land with little environmental or amenity value near existing developments with transport infrastructure. There is a strong case to permit housing on such land.<\/p>\n An example to illustrate the point that the planning system disregards costs is the view corridor to St. Paul\u2019s Cathedral from King Henry the VIII\u2019s Mound in Richmond Park. This corridor was established in 1710 \u2013 when the St. Paul\u2019s Cathedral was by some margin the tallest building in the country and the economic costs of view corridors were negligible. The protected vista frames the cathedral through a special gap in a holly hedging from a distance of over 16 kilometres. While this view is certainly enjoyable for those living nearby or for hikers, it arguably imposes an astronomic and ever growing economic \u2018opportunity cost\u2019: the protected vista prevents the construction of any tall building throughout the corridor that would obstruct the view. Worse, it also prevents tall construction in the backdrop of the cathedral, limiting development around Liverpool Street Station, one of the most productive hotspots on earth. The protected vista, through limiting supply, raises housing costs of all Londoners and adversely affects the capital\u2019s productivity.<\/p>\n More broadly, three key flaws can be identified in the UK\u2019s planning and tax systems. The first is the fact that the UK operates a so-called \u2018development control\u2019 system, which is inherently geared towards containing development. In contrast to a rule-based zoning system \u2013 in use throughout most of the rest of the developed world \u2013 the UK system stipulates that any change of \u2018use\u2019 of any parcel of land requires development control permission granted at the local level. Permissions are granted by local planning authorities, which invoke a consultation process that gives significant weight to NIMBY pressures.<\/p>\n The trouble with the development control system is, apart from giving weight to NIMBYs, that it is complex, substantially increases the cost of the development process and creates a great degree of uncertainty during the planning stage. The lengthy and uncertain process delays and significantly reduces the viability of projects. The viability is further threatened by Section 106 agreements that require complicated negotiations between local authorities and developers and imply a further degree of uncertainty for the latter.<\/p>\n The second key flaw \u2013 the lack of fiscal incentives at the local level to permit residential development \u2013 relates to the first one. Local authorities that grant development control permission retain little tax revenue. This is made worse because of the central government grant equalisation system, which in the medium-term more or less eliminates any revenue gain for local authorities that permit more development relative to those that are more restrictive. Any increase in the local tax base is effectively equalised away by the central government. In other words, local authorities derive few benefits from permitting development, yet they face the costs of additional infrastructure that development makes necessary \u2013 local roads, schools and the like. These costs are rarely met fully by the central government. Worse, local residents bear the main burden associated with increased local congestion or pressures on public services such as local schools. This increases local opposition often beyond those neighbours who are immediately adversely affected.<\/p>\n The third key flaw of the UK planning system is the fact that since the Town and Country Planning Act of 1947, residential development has increasingly been prevented \u2018in all directions\u2019. The larger British cities are surrounded by enormous green belts that are effectively sacrosanct from residential development, thus preventing growth in a horizontal direction. (Moreover, green belts prevent the delivery of the type of housing \u2013 single-family owner-occupied homes \u2013 that is most desired by large fractions of the population, but is arguably in shortest supply.) Height restrictions and view corridors prevent physical development in a vertical direction. In fact even digging below ground is often not a viable option to gain living space. Height restrictions constrain tall buildings in nearly all high-demand UK cities, particularly of course large parts of London. Also, protected view corridors prevent the construction of tall buildings in some of the most productive inner city areas.<\/p>\n Lastly, preservation policies (e.g. Conservation Areas and Listed Building designations) limit redevelopment of existing structures at higher density or better adapted to current preferences. It is this combination of rigid policies \u2018in all directions\u2019 that explains why supply is so incredibly unresponsive in many British cities. If desirable cities such as London cannot grow physically over a longer time period, and as long as demand \u2013 mainly real earnings \u2013 grows and expectations are positive, house prices must rise markedly. (Brexit may change this. However, if house prices fall as a consequence of a fall in real earnings and an increase in unemployment, housing may not become more affordable.)<\/p>\n The fact that housing supply in the UK is so extremely unresponsive also has important consequences for the effectiveness of housing policies, including the Government\u2019s flagship policy Help to Buy (HtB). The various HtB schemes are intended to stimulate housing demand, and their aim is to generate new housing supply and higher homeownership attainment. However, in a setting where housing supply does not respond to demand-side stimuli, the only direct effect of the policy is to increase house prices.<\/p>\n The effect of HtB on house prices has not yet been rigorously quantified in academic research. However, house price and construction statistics seem strongly suggestive that HtB did not have the intended effects. According to Nationwide, following the announcement of the first HtB schemes, house prices in London shot up by 25.8% between 2013q2 and 2014q2. A residential building boom failed to emerge, and homeownership attainment continued to decline. The government may have been well intended in helping young households to get on the owner occupied housing ladder, yet it has likely achieved the opposite. How is this possible? If the HtB subsidies indeed had the main effect of raising prices and through that the required mortgage deposits, this arguably made it even more difficult for young liquidity constrained households to afford a decent home, despite HtB. This proposition is consistent with evidence from the US, which reveals that the capitalisation of mortgage-related subsidies into house prices decreased homeownership attainment in tightly regulated cities5<\/sup>. To make things even worse, the HtB schemes may also have created a systemic risk in that the government (and indirectly the taxpayer) assumes most of the risks associated with the guarantee schemes, with the remaining risk being assumed by the marginal homebuyers \u2013 those who stretched themselves to obtain a loan and could not have obtained one in the absence of the scheme.<\/p>\n This article builds on, and is in small parts, identical with my oral and written evidence to the Treasury Committee.<\/i><\/p>\n In the next instalment, Christian Hilber will offer three proposals for reform and provide a glimmer of hope for those interested in more affordable housing. \u25a0<\/p>\n 1 The Economist (2016), Living in London \u2013 The grip tightens: Faulty land-use regulation is throttling the capital, 30th of April, pp. 27-28.<\/p>\n 2 Barker, K. (2003) Barker Review of Housing Supply: Securing Our Future Housing Needs: Interim Report \u2013 Analysis, London: HMSO.<\/p>\n 3 Hilber, C.A.L. and W. Vermeulen (2016) The Impact of Supply Constraints on House Prices in England, Economic Journal, Vol. 126, No. 591, pp. 358-405.<\/p>\n 4 Hsieh, C.-T. and E. Moretti (2015). \u2018Why Do Cities Matter? Local Growth and Aggregate Growth\u2019, NBER Working Paper No. 21154.<\/p>\n 5 Hilber, C. and T. Turner (2014) The Mortgage Interest Deduction and Its Impact on Homeownership Decisions, Review of Economics and Statistics, Vol. 96, No. 4, pp. 618-637.<\/p>\n . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .<\/p>\n Christian Hilber<\/strong><\/p>\n Associate Professor of Economic Geography<\/p>\n London School of Economics<\/p>\n Tel: +44 (0)20 7405 7686<\/p>\nWeighing the benefits and costs<\/h3>\n
Key flaws in the current system<\/h3>\n
Why Help to Buy does not actually help to buy<\/h3>\n
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