Sunday, 5 January 2014

Why house prices in California and New York are so high.

There is a school of thought that this is largely down to planning restrictions around the most densely populated and/or desirable parts of California and New York, which in turn are the first and third most populous/popular states.

How much evidence is there for this (and how indeed do you measure the restrictiveness of planning and zoning laws?)..?

Let's download the stats from here and get crunching!

1. House prices vs earnings

As we see, there is a good correlation between average local earnings and house prices for the 714 counties (excl California and New York) for which we have data. The coefficient of correlation is 0.80, if you factor in the property taxes, the coefficient is even higher at 0.84.

A lot of California (red dots) and some parts of New York (green dots) are well above the trend line; most parts of New York are in the middle of the pack. The green dot in the top right corner is Manhattan 'island', of course.

2. House price-to earnings ratios vs earnings

Their evidence to show that housing is particularly expensive in those two states is that house prices are a high multiple of local average earnings, so let's do another chart:
As we see, the ratio of house prices-to-earnings is not a constant. In low wage areas ($40,000) the ratio is only 2.5; in high wage areas ($120,000) the ratio is 4.8, but the coefficient of correlation is quite low, only 0.46.

That's because this is a false comparison. You get a much more sensible figure if you use the first chart and compare house prices with the excess of earnings above the basic minimum household expenditure of (say) $20,000 - the trend line is now house price = [earnings - $20,000] x 4.2.

3. The coastal effect - California

We know that in the UK, there is a large premium attached to areas with a sea view. It's also nice being within driving distance of the coast, and because of the size and shape of Great Britain and Northern Ireland, three-quarters of it is within 25 miles of the nearest bit of coast or estuary and just about all of it is within 50 miles thereof.

Not so for the 48 main states! Only a per cent or two of the area is within 25 miles or even 50 miles of the coast. So we would expect the premium for being near a beach or even near the coast to be higher.

We can easily split Californian counties into 16 "coastal" counties and 24 "inland" counties and compare the two:

And we observe that having controlled for earnings, people are prepared to pay about $100,000 more to be nearer the sea, i.e. they are prepared to pay an extra $6,000 a year to for the benefit of coastal walks, surfing, sailing, fishing, sun bathing etc. If somebody inland spends an extra $6,000 a year on his inland hobbies, or extra gasoline for getting to the coast, then we would not count that as housing costs, would we? So I'm not sure that the extra $100,000 along the coast truly counts as housing costs either

4. The coastal effect - New York

New York state is triangular and has hardly any coastline whatsoever, just a few miles of beach, river and estuary at the southern tip (around Manhattan).

So I separated out the eight counties at the southern tip and contrasted them with the other 30 counties:

As we see here, the premium for a home in those areas is $150,000 to $200,000, much higher than in California because of the additional scarcity - less than a fifth of New York counties are 'coastal' as against over a third in California. And New York City is a huge economic and cultural draw as well, of course.

5. Strip out the coastal effect, and prices in California and New York are no different to anywhere else

Finally, I reworked the first chart comparing the rest of the USA with inland counties in California and New York, as we can see, there are only half a dozen outliers and the rest of them are slap bang in the middle of the pack:


DBC Reed said...

Pretty convincing.Somebody should do some number crunching on high property tax Texas.

Mark Wadsworth said...

DBC, that's the strange thing.

I'm delighted that the BBC launched this myth, but even though property taxes vary widely in the US (between 0.1% and 10% of average incomes), this only has a marginal impact on house prices - probably because this is compensated for by lower payroll and sales taxes, so it cancels itself out.

The main factors are local average earnings and the coastal premium, which apply in Texas as in anywhere (their 'coastal premium' is zilch because it's not a very nice coast).

Or… if you believe the New Classical Economists, it's largely down to planning restrictions, although they have no evidence apart from circular logic to support this ("If prices are high that means that demand is not being met; the only reason for demand not being met must be restrictive planning; therefore high prices must be the result of restrictive planning").

The Stigler said...

Top analysis there.

So, Lex, when do we launch our plan to make Wiltshire coastal?

Dinero said...

Talking of circular logic a skeptic would claim ( "of course high earners live in expensive areas - who else can afford it.")

The combination of the two graphs , the second being the graph of price to earnings Vs earnings is very illustrative of earnings effect on prices.

Mark Wadsworth said...

TS, D, thanks for back up.

Sad thing is, I emailed him this and a previous link and he flatly refuses to even contemplate this as being an explanation.

He prefers circular logic. He seems to say that high prices cause higher earnings etc.

DBC Reed said...

@MW Are you sure Rick Perry's "Texas Miracle" is all a myth got up by the BBC? The Washington Post's "Breaking down Rick Perry's Texas Miracle" (on Net)does attribute some of Texas's growth to lower house prices consequent on high property taxes.
Would have thought Perry was behind the myth-making ,if myth it is.Googling Rick Perry Texas Miracle racks up a lot of responses showing plenty of local political PR in play.

Mark Wadsworth said...

DBC, Texas is a low tax state (as are all states which rely on land or property taxes, they are in-your-face taxes), it has no state income or sales taxes, in absolute $ terms, their property taxes are not that high either. And it has oil and liberal planning laws.

Houses are cheaper than these economic factors would dictate - Texas house prices are the lowest multiple of incomes at all income levels.

I suspect that's because the landsape is very dull and Texas is basically in the middle of nowhere.

But whatever the reason for low house prices, it is indisputable that Texas is a relative success story.

Bayard said...

"He prefers circular logic."

Presumably because it gives him the answer he's looking for.

DBC Reed said...

@MW In abslute dollar terms Texan property taxes may not be that high but as a percentage of median house prices Texas is the third highest state in the Union at 1.81%: the lowest Louisiana is 0.18%.
Perry is a Republican and an all_American political dope (see his hapless run for President last time out) but I can't see why we land taxers don't use his campaign points to squish British right wing buffoons who insist low property taxes are the key to prosperity.

Mark Wadsworth said...

B, yes, he had the temerity to send me a link to an article which he said explained what I observed properly, only that article says much the same as what I have been saying for ages and supports my case. Maybe he didn't read it himself?

DBC, yes their tax as a % age is high, but that is because the $ tax amount is pretty much in the middle of the pack and $ house prices are low.

So the Faux Libs will say that Texas' success is purely down to low income and sales taxes, in which they would be half correct, and they will just ignore the bit about property taxes.

The point is that there are other states and counties with incredibly high property taxes and people seem to pay them happily enough and nothing terrible happens (in fact, good things happen).

Kj said...

MW: who is "he", Allister Heath?

Maybe the thing about Texas is that it´s remarkably successful because of all the other factors *and* that it´s not desirable enough to command higher house prices/rents than anywhere else. A very large industrial estate of sorts where disposable incomes as the difference between income/rents are high.

Mark Wadsworth said...

Kj, Heath certainly does not reply to my emails any more, it is not him.

Whoever I'm talking about did at least respond to my emails, so far enough, he is entitled to anonymity.

Kj said...

Fair enough, I thought it was someone you were supposed to have mentioned or I had failed to pick up who/what this was in reference to.

George Carty said...

I wonder how much low property prices in heartland America are down to the dominance of wooden (rather than masonry) construction there? And how much are Texan house prices lowered by the use of cheap illegal immigrant labour for construction?

Mark Wadsworth said...

GC, not very much. Sure, you can get a wooden house built for $50,000 and the same house in stone costs maybe $150,000, so no more than $100,000 relates to the difference of $1 million or more.

George Carty said...

I wasn't contrasting heartland America with the expensive bits of America (Paul Krugman's "Zoned Zone"), but rather with the lower-cost bits of England.

Why are median house prices so much lower relative to median incomes in Atlanta or Indianapolis (let's forget high-property-tax Texas for now) than they are in Middlesbrough or Hull? Is it that land values are still much too high in the latter (as pro-sprawl campaigners would allege -- one such that I've been following was New Zealander Phil Hayward), or is it about the difference in construction costs that I alluded to in my previous comment?

Ben Jamin' said...

@ GC

Land values in some parts of Hull are probably negative.

After looking into this subject myself I've personally concluded that Median Multiples are not a good measure of affordability, and there are so many different variables between Countries regarding taxes, health insurance, education fees, commuter distances, social housing, rental sector, etc, etc that all effect on where the median HP is and what discretionary incomes are(the important factor when measuring affordability) it becomes a meaningless exercise.

One question is put to the anti-planning zealots is, if affordability in one area (like San Francisco) is so bad, lowering their discretionary incomes, why haven't they all upped sticks and moved to Houston? It's still a free Country I've heard.

What is it about San Francisco that makes demand there higher and people pay more for housing?

Land values are derived from the efficient exploitation of agglomeration effects and a preference for spending on locational amenity over alternative goods and services.

So while the Houston Metroplex may well offer good wages, it's Sprawl not only adds considerably to living costs (many studies show how this de-capitalises land values) it's also a bit of a shit hole in places. Certainly not my cup of tea.

People are prepared to forego the ownership of a bigger car, extra holidays etc, because San Francisco is a nicer place to live and everything is closer.

I'm not sure why people find this so hard to understand.

George Carty said...

Higher transport costs may be something of a red herring, given how many heartland Americans drive cars far larger than they really need (which they wouldn't if transport costs were a problem for them).

I wonder though if the US South's racism (or maybe just its reputation for being racist) keeps property prices lower there by making it less attractive for immigrants? Third-world immigrants probably play a significant role in propping up land prices due to their willingness to live in overcrowded conditions that natives would find intolerable.

Ben Jamin' said...

@ GC

And it's worth bearing in mind that the US is a very unequal country indeed.

I'd rather be poor in Hull, than poor in Atlanta or Chicago.

It's like comparing apples and oranges.

I seem to remember a few online encounters with "Phil Best" regarding all this some time ago. He is typical of the sort who see the State as being the instigator of all our troubles. Hence it must be planning that it the cause of housing affordability issues. It blinds them from seeing the bigger picture.

Mark Wadsworth said...

GC, the point about "immigrants" is that most people pushing up prices in NY or SF are "immigrants", they are highly educated and ambitious immigrants from elsewhere in the US.

The same goes for London - half of people who finish university move to London to try their luck.And people who move from elsewhere in the UK to London live in appalling cramped conditions, shared flats and shared rooms for very high rents.

BJ: "He is typical of the sort who see the State as being the instigator of all our troubles."

So he's a Faux Lib. But in a way he is right, while we have "the state" i.e. civilisation to thank for many things, their biggest mistake is allowing natural resources to be privatised while taxing and redistributing private efforts.

But "restrictive planning" is the least of our worries.

George Carty said...

Ben Jamin': I wonder how significant it is that most of America's "Zoned Zone" cities have nicer climates than "Flatland" ones, most of which have either the possibility of extreme winter cold (Midwest) and/or terrible summer heat and humidity (the South). Even if transport costs are something of a red herring as I previously suggested (as they could be reduced by running smaller, more fuel-efficient cars), maybe air conditioning costs are a more serious issue?

Mark Wadsworth: I think "Faux Lib" is a bit too simplistic a description for Phil, as he doesn't seem to have a problem with planning restrictions as long as the resulting increased location value is not captured by wealthy vested interests -- I think his support for sprawl is because he thinks it's more achievable politically than alternative ways to curb rent extraction (such as LVT, for example).

He regards Germany (with its combination of reasonably liberal planning laws, rent control and the threat of compulsory purchase to stop landowners getting too greedy) as an equally valid model to Flatland America, and he's also mentioned Japan favourably, where apparently most of the high-density residential property is either social housing owned by the state, or owned by the rail companies (which are unsubsidized and regulated in such a way that they must use fares to subsidize rents, not the other way around -- not sure how that works though). I'd love to have more info on the Japanese model if anyone can provide it, but a thread I started on Skyscraper City didn't satisfy me...

George Carty said...

One area where Phil Hayward could better be described as Faux Lib is that he attributes very low-density (> 2000 people per square mile) sprawl in the United States to exclusionary zoning designed to keep out poor residents for fear that they will ruin the local schools (which are generally funded by local property taxes rather than state or federal taxes). He suggests that without this schools issue, typical densities would be closer to 6000 per square mile – similar to Los Angeles or (apparently) to many suburban areas in mainland Europe.

However the fact that Los Angeles itself is a very expensive city suggests this reasoning may be flawed...

Mark Wadsworth (YPP) said...

GC, the nice weather is like a nice view or being near a beach which is what the whole post is about. No amount of new construction changes the value of those things.

George Carty said...

Sorry, very low density sprawl (in my previous message) was meant to be < 2000/square mile -- mixed up my HTML entities...

Mark Wadsworth said...

GC, we know what you meant, don't worry about that.

Again, refer to the post, in most countries, the really high density areas (New York, SF, London, Paris) etc are still the highest prices.

This is because of agglomeration benefits. The increase in value from agglomeration benefits always outweighs the downward pressure of added supply. That's a simply observable fact.

George Carty said...

Why is there no coastal premium in Germany? Germany doesn't even seem to have any major coastal cities (even Hamburg is on the Elbe estuary rather than the coast itself) and its most expensive city is the one furthest from the coast (Munich).

Is it that the Germans prefer mountains over beaches for cultural reasons, giving Munich an Alps premium?

Mark Wadsworth said...

GC, correct!

In Germany , Munich gets a premium for being near mountains, lakes (walking, skiing, swimming) and for being closest to Italy (where Germans love going on holiday).

The rest of Germany is fairly flat, and the northern/coastal regions are flattest of all, so their coastline is pretty boring. Like the Texas coastline.

George Carty said...

Oh, I thought that when you suggested that Texas had no coastal premium because it's "not a very nice coast" you were suggesting that the Texas coast was very industrial and polluted! It can't be down to topography alone as flat Florida still enjoys a substantial coastal premium.

Incidentally, could the American South be considered an argument against the Georgist belief that private collection of land rent is the main cause of economic inequality, as it is highly unequal in spite of its low land values? Could Southern US inequality be based more on unequal access to education?

Mark Wadsworth said...

GC, I've never been in Texas, I was going by what other people have said. I'm sure most of it is not polluted, but it's flat and boring People like coves and cliffs and sandy beaches.

As to Southern inequality, that is not my topic. Is it unequal or is just everybody poor?

George Carty said...

Could high housing costs in Miami (unlike coastal Texas, in spite of the fact that Florida is just as flat as coastal Texas) be down to the fact that Miami is the only major city in CONUS to have a tropical climate?

Mark Wadsworth said...

GC, I would assume so.

George Carty said...

Ben Jamin': So while the Houston Metroplex may well offer good wages, it's Sprawl not only adds considerably to living costs (many studies show how this de-capitalises land values) it's also a bit of a shit hole in places. Certainly not my cup of tea.

That got me wondering about Japan again (which many observers have viewed as the best way of providing high density at an affordable price). Could it be case that just as land values in sprawling red-state American cities are suppressed by the cost of all the driving that is required to function in such places, land values in Japanese cities are suppressed by the high cost of commuting by train (as trains are not subsidized in Japan, unlike in most western countries)?

Mark Wadsworth said...

GC, maybe so - housing costs = actual rent + commuting costs.

But it is difficult to do international comparisons, there are so many variables including "cultural differences" that it is difficult to reconcile, even between two countries whose tax systems and culture you know well (the UK and Germany, in my case), exactly why relative land prices and rents are what they are.

But comparisons within one country (like within the USA, or within the UK; or between the UK thirty years ago and the UK today) are much easier and meaninful because you can greatly reduce the number of variables.