Zohran vs. Econ 101

Introductory economic theory predicts that imposing a price ceiling on any market, including housing, will reduce supply by preventing the price from rising to the level that would prevail in an open market. As Summers argues, rent controls cause “under investment in repairing, maintaining, constructing new apartments,” which, he asserts, “is likely to exacerbate rather than improve issues around housing affordability in New York.”

The intuition behind the Econ 101 argument is simple: since it’s costly to build and maintain housing, capping the price of housing in a market reliant on private developers and landlords for housing supply will discourage investment and reduce supply. Some people, particularly those with the willingness and ability to pay rents above the rent cap, will have their demand for housing unmet.

The result, in this simple blackboard model, is a housing shortage: there are people willing to pay for housing, at a price landlords will accept, who are unable to make a mutually beneficial transaction. This, for economists, is deadweight loss: stuff that we have the capacity to produce (rental housing) and desire to consume (demand for housing) that goes unproduced and unbought— the supreme social evil.

Econ 101 treats its own policy goals, particularly eliminating shortages and deadweight loss, as paramount. But the publics that have enacted rent regulation across the country have other goals in mind as well. These include, most obviously, limiting rent increases but also preventing displacement and evictions, slowing the pace of gentrification, and even guaranteeing a right to housing for all.

While the Econ 101 view treats its own goals as a trump card, democratic societies — accountable to the public, not only economists — are permitted to weigh these competing policy goals against each other. Controlling rent is an important policy outcome in its own right. Uncontrolled rents leave households vulnerable to displacement and eviction. Research has shown who is most affected by evictions: families.

Children under eighteen face the highest risk of eviction. The damage from exposure to eviction during childhood is well documented. Research has shown that experiencing eviction during childhood is associated with profound lifelong impairment of health and educational outcomes. Indeed, US policy recognizes the importance of housing stability, promoting it for homeowners through state support for the thirty-year fixed-rate mortgage. If housing stability is good for homeowners, why not for tenants too?

In addition, rent controls, by slowing the turnover of apartments, slow the rate of neighborhood change, particularly during periods of gentrification. The prevalence of below-market rent tenants in highly rent-controlled and rent-stabilized neighborhoods like the Lower East Side of New York is a testament to this. Neighborhood stability is a vastly underappreciated benefit of rent regulation, which residents evidently value highly.

As the wealthy have poured back into city centers following the suburban flight of the 1960s through the mid-1990s, affluent newcomers have been able to outbid existing working-class residents for housing. Rent regulation interferes with this market allocation of goods to the highest bidder, but this is a feature, not a bug. Residents highly value the resulting stability, even if some economists consider it “inefficient” that the “wrong” people live in highly desirable neighborhoods.

Any policy that affects the distribution of income and alters incentives will require tradeoffs: winners and losers. Rent regulations lower the expected profits of landlords, which reduces incentives to offer rental housing while expanding access to housing for those who would otherwise be unable to afford to live and work in the city and protecting tenants from sudden spikes in rent.

The Limits of Rent Controls

If landlords are unable to raise rents, they might choose to convert rental units to condominiums, removing working-class rental housing from the market. Or they may cut corners on building maintenance, lowering the quality of housing. At the extreme, rent control could make it impossible for landlords to service their debt, leading to bankruptcies. At the same time, in theory, rent controls could also limit the supply of new housing construction, since developers would struggle to find buyers for newly built properties.

However, rent controls can also increase supply, bringing some currently vacant housing back into the market. Econ 101 models of the housing market assume a perfectly competitive market, with neither party having the “market power” to influence the rent. But landlords across the country have, according to the Department of Justice, engaged in widespread collusion through the property software provider RealPage to raise rents. Instead of landlords maximizing occupancy as models of perfect competition predict, RealPage facilitated a cartel whereby landlords held back supply to increase profits, raising rents by an average of $70 per month.

Evidence indicates that even individual landlords, at least in New York City, have some degree of market power, making it profitable to restrict supply and raise rents. Rent caps, by eliminating the potential profits from holding units vacant for higher prices, can bring this supply back into the market. While the negative effect of rent controls on housing supply takes place over the long term, with new housing construction failing to keep up with demand, countering landlord market power with rent regulation can bring new supply online almost immediately.

Nonetheless, the Econ 101 story about price controls is easy to grasp, has great narrative power, and does explain the effects of certain historical price controls on commodities. Ultimately, the effect of rent controls is an empirical question, and the simple “price controls bad” narrative does not survive contact with reality in several specific and important cases.

For example, the minimum wage: up until the early aughts or so, the “commonsense” economic wisdom was that increases in the minimum wage would cause firms to hire fewer workers, causing the unintended consequence of higher unemployment. This surge of unemployment never materialized in the data, and economists had to change their thinking on price controls in the labor market.

Housing is another market where reality diverges quite a bit from the Econ 101 textbook. For one thing, modern municipal rent regulations, like those in New York City, are not the hard rent caps portrayed in economics textbooks. Rather, they are designed with considerable flexibility and porousness built in.

Lindbeck made his oft-quoted comparison of rent control to “bombing” in the 1960s at a time when rent regulation in Europe and cities like New York consisted of World War II–era hard caps on rents. In some cases, these policies pushed rents below the levels needed to maintain existing buildings.

However, Lindbeck’s analysis simply does not apply to modern rent regulation systems, such as those currently in effect in New York City, which allow annual increases in rents to allow landlords to meet increases in costs while protecting their profits from erosion by inflation. Modern rent control, akin to public utility regulation, attempts to balance the interests of landlords and tenants, rather than strongly favoring one side over the other. Candidate Mamdani’s rent freeze proposal must be understood in the context of these modern rent regulations. The proposed rent freeze only applies to a subset of the city’s housing currently covered by rent stabilization. And, most importantly, it does not apply at all to new construction. 

One major difficulty for broad claims about rent regulation in general is that each jurisdiction implements them in vastly different ways, during different time periods, and in response to different historical conditions. For example, the prevalence of rent-controlled municipalities in New Jersey is the result of a statewide tenants’ rights movement based primarily in the middle class, resulting in a particular set of controls that were relatively lax.

Some jurisdictions allow for a fixed increase in rents per year; others link allowable rent increases to the Consumer Price Index (CPI). Aside from allowable rent increases, most rent controls also regulate the degree to which property tax increases and capital expenditures can be passed through to tenants as well as permitting hardship increases for landlords, which means that the effects of controls are highly dependent on the composition of a municipality’s rent control or stabilization board; the NYC Rent Guideline Board’s members are appointed by the mayor, giving the office significant power over rents in rent-stabilized units.

And finally, regulations differ on whether a controlled unit is restored to market-rate rents upon vacancy (known as vacancy decontrol), which radically alters landlord incentives — if the gap between the market rent and the controlled rent becomes too large, it might be in the landlord’s interest to encourage the tenant to self-evict or engage in “soft” eviction. In reality, the term “rent control” encompasses a broad range of possible policy mixes that may have large or small effects on rents or the supply of housing.

The variation and complexity of real-world rent controls means that as far as empirical rent-control research goes, it’s hard to draw big general conclusions. Researchers either look at a large cross section of cities, flattening out the potentially massive differences between them, or zero in on the effects of controls in a single city — drawing conclusions of dubious generality. Still, by considering the broad range of available research rather than any one study in isolation, we can attempt to draw some general conclusions about the impacts of rent control on the supply of housing and overall affordability.

The two main questions we are interested in are: 1) Does rent control actually do the job it sets out to do? That is, is it effective at controlling growth in rents? and 2) To what extent does it affect the construction of housing and the supply of rental housing? We can then ask, are the tradeoffs worth it? A wide range of studies in the past twenty years have found rather mixed results, with some reporting very little effect of rent controls on the supply of rental housing and some finding major reductions in the supply of rental housing.

In most cases, well-designed rent-control policies are effective in insulating tenants from rent increases for units that they cover. They also allow families to stay at their addresses longer than they would otherwise. However, reduced rent growth and neighborhood stability in controlled units in some cities come at the expense of higher rents in units not subject to rent control, resulting in increased affortability of units for lower incomes and decreased affordability of units for higher incomes.

This is because in cases where rent control resulted in below-market rates for controlled units, at least some landlords converted their stock from apartments to condominiums or other types of owner occupation, reducing the rental housing supply and driving up the (uncontrolled) rent. While pundits like Summers treat any reduction in supply, no matter how small, as evidence of the failure of rent control, responsible democratic publics are allowed to evaluate the costs alongside the benefits.

While evidence supports the effectiveness of rent control in its intended goals, the evidence is also clear that rent control cannot be a one-shot solution to the affordability crisis in American cities. Expanding the total housing stock is also an urgent policy goal, which rent control does not address. Rent control should in fact be seen as complementary to supply expansion.

To the extent that rent control reduces incentives to builders, it should be combined with pro-density policy, including well-designed zoning and other land-use reforms (although we should not expect that rezoning by itself will bring down housing costs substantially) and investments in social housing. Incentivizing the expansion of the total housing stock is a good way to counteract the effects of lower rents on the rental housing supply.

One way that modern rent controls do this is by exempting new construction from regulation for a period of time, usually at least thirty years. Discounted cash flows from thirty years into the future factor very little into the present value of a development project, so this exemption can be expected to mitigate the effect on housing construction. In addition, political barriers to density are often centered around fears of gentrification — that new development will price current residents out. Rent control provides insurance against displacement that could increase local support for new construction.

Most importantly, there is a very large role to be played by a robust public sector. That is, either publicly subsidized construction (so that developers are willing to accept lower rates of return under a rent-control regime) or direct public ownership and administration of high-quality public housing. And that, ultimately, is where rent control makes the most sense: as one part of a comprehensive housing policy that foregrounds social and public housing as well as expanding privately supplied housing while protecting incumbent tenants from rent increases and displacement.

In a free market, the “highest and best use” of property is whatever the person with the most money says it is. In a place like Manhattan, that could mean displacing retirees on fixed incomes to make way for the next incoming class of junior bankers, or building pencil towers that serve as investment vehicles for oligarchs, sitting empty most of the year. Public regulation and investment, including rent control, can shape or override the dictates of the market to create a housing market that serves the human needs for shelter shared by all, rather than the demands of the highest bidder.