Supply is not the problem? A rebuttal

This weekend I read an article by Dr. Joshua Gordon in the Globe and Mail arguing that the focus on housing supply is a red herring, and demand stoked by foreign buyers, cheap credit, and speculation is the real problem behind our unaffordable prices.    I was going to write an irritated tweet in response, but the article is such an egregious example of misdirection, half-truths, and poor logic that I felt the need to reply at greater length.

In this article, the author would like us to subscribe to a peculiar type of magical thinking:  that housing is the only good in the world where supply and demand do not apply equally.   If you stood up in an economics class and argued that the price of oil was set more demand than supply you would be laughed out of the room.   Having the debate about whether one is more the problem than the other is absurd, it is always about the balance between them.  Any problem on one side can be restated as the inverse on the other.  For example, in the early days of the pandemic the demand for oil collapsed, but you could equally say there was an oversupply problem that caused prices to crater.   So the whole discussion about which is more important is going down the wrong path, but let’s put that aside and look at each of Dr. Gordon’s arguments in turn:

First, there have been no major changes to the regulatory framework around supply in either city since the early 2010s. Yet benchmark house prices in both cities have risen between 75 per cent (Vancouver) and 115 per cent (Toronto) since 2010.

The idea that affordability challenges in Vancouver and Toronto are new after 2010 belies an ignorance of history that I am surprised to hear from someone who is focused on housing policy.   The reality is that house prices, especially detached, have been rising at a rapid rate in those cities for many decades.   Note I will use Victoria data in my arguments because I have it readily available, but the same factors apply in Vancouver.   Were people not concerned about affordability when prices doubled from 2000 to 2010?  Was affordability not an issue when they doubled from 1985 to 1994?    In fact if you look at the average in Victoria, detached prices have been doubling every 10 years or so for 60 years.  I think the rate of appreciation will slow down substantially in the future for various reasons I’ve discussed before, but it’s clear that prices have been outpacing income gains for a very long time.

Back to Vancouver where Dr. Gordon is from.   If you have any doubt that people have been concerned about housing affordability in our big cities forever, just watch this play from 1981 in Vancouver where Boomers humourously take on the outrageous house prices and rents in the city.  It’s clear that this problem has been building for many decades.

Second, rates of housing construction have remained very strong for several years. In fact, in Vancouver there were more housing completions from 2015 to 2020, in the midst of the housing crisis, than there were in any five-year period before that.

This is a statement that should be true in every single city that has a growing population.   If a city is growing at a constant 1% or 2% a year, then every year should have more construction than the last to house the growing absolute number of newcomers.  Of course market cycles mean construction goes up and down, but over time it should always go up.  Without an analysis of housing need, this statement is meaningless.   The rapidly increasing prices during that time provide a strong signal that the level of construction was in fact not enough to meet demand.

This broad pattern applies to rental construction too.   For example, Vancouver saw more rental completions in the five years from 2015 to 2020 than in the previous 15 years before that combined

I’m having a hard time imagining how someone could look at our record on rental construction and see it as some kind of success.  Yes there was a surge in rental construction in the last few years and we’ve kept a pretty good rate going since then.  However that came after literally decades of neglect where almost no purpose built rental was constructed at all.  In Victoria, we will have to keep building at this level for another 10 years to just dig ourselves out of the hole we made since 1990, let alone before that.  The situation in Vancouver is much the same.

Sure, we may have a temporary spike in rental vacancies right now due to the pandemic, but before that we had a 1% vacancy rate, and a rapid escalation in rents.  BC has the highest rate of forced moves in the country and many are suffering due to insecure or unaffordable housing.  Although the pandemic may be all-consuming right now, it will pass and the demand for rentals will return.  The solution will require years of a high level of rental construction followed by a steady medium level in perpetuity to ensure we don’t make the same mistake again by neglecting the problem until it turns critical.

Third, sharp increases in housing prices have happened in many cities surrounding Toronto and Vancouver, even though there are far fewer regulatory and geographic supply constraints in those areas.

While I appreciate him linking to my article in the Capital, I’m truly baffled at his assertion that Victoria has fewer geographic or regulatory constraints than Vancouver or Toronto.  I assure you the blue on the map around Victoria is not buildable land.  With 9 municipalities each with different regulations some of which are decidely anti-growth, a sharply constrained urban containment policy (which I support), and a population that thinks going to the supreme court is a reasonable response to some townhouses, it’s quite an amusing thought that Victoria is an easy place to build.

However, there is no clear relationship between the prevalence of single-detached zoning in Canada and the level of affordability in a city.  If anything, Canadian cities with the highest share of single-detached houses have the least intense affordability challenges

No wonder that there’s a crisis in social science if this is what passes for an argument.  Yes, small cities generally have nearly 100% single family zoning and also tend to be relatively affordable.  And shark attacks peak when ice cream sales are highest.  To be fair Dr. Gordon quickly backs away from this line of argument, but why even float the association between prices and zoning amongst non-comparable cities if you aren’t meaning to imply a causal link?

   Of course, that pattern exists not because single-detached zoning causes improved affordability. Rather, it’s because strong demand pressures tend to cause both denser housing patterns and higher prices.

In this section in an attempt to disprove the YIMBY argument, the author proves it himself in the next sentence. Yes, demand pressures force up prices because more people want to live in a city.   If we build more housing for those people, it helps alleviate those affordability pressures.  If we don’t build more housing, affordability gets even worse and many of those people don’t get to come at all.  There is nothing simpler.

That’s why Hong Kong and Manhattan are highly unaffordable, even with no single detached houses in sight. Similarly, paragons of “missing middle” housing, such as London and Stockholm, are also highly unaffordable.

By analogy we might say “It’s still hard to find N95 masks despite a huge increase in worldwide production.  Therefore production makes no difference to availability”.    Closer to Dr. Gordon’s heart we might say that restricting access to mortgage credit or limiting foreign buyers did not make Vancouver housing cheap, so demand measures are useless.   Obviously this is not the case.  The mortgage stress test and the foreign buyers tax both had a measurable impact on the market, causing it to flatline for some time when it otherwise would have continued to increase.   However there is no such thing as a silver bullet in housing that will make properties affordable overnight.

Coming back to the example of expensive cities; first of all Manhattan is only Manhattan because it has the density of high rise towers.  If Manhattan was zoned as single family it would be a backwoods commuter community that no one had ever heard of.   As for any other dense but expensive city, it simply shows that despite increased supply, demand is still high enough to push up prices.  But if there was no missing middle housing in London many people who want to live there simply couldn’t and the city would be much less economically successful (and prices would be just as high or higher).

Demand measures are important, but we have already done a lot

There are several peer-reviewed articles that document the connection between demand-side factors and housing prices in Toronto and Vancouver, particularly the role of foreign ownership and speculation. Yet that peer-reviewed research is dismissed or ignored by advocates of the supply narrative.

I agree it’s important to look at demand, and ensure it actually represents people living in homes rather than speculative purchases that won’t be well utilized.  But to argue demand measures have been ignored flies in the face of the facts.  In the last dozen years, governments have:

• Reduced mortgages from 40 year zero down to 25 years 5+% down and tightened mortgage credit dozens of times.
• Introduced the mortgage stress test which took some 20% of the most highly leveraged buyers out of the market
• Introduced the foreign buyers tax which dropped foreign buyer activity by some 80% in Victoria and 70% in Vancouver
• Introduced the Speculation and Vacancy Tax provincially while Vancouver introduced their own vacancy tax
• Taken steps to limit AirBnB in Victoria and Vancouver
• Started investigating money laundering with a new public inquiry
• Planned to roll out a new beneficial ownership registry for housing.

And what happened to prices? It helped some for sure. Especially the stress test had a big impact and the foreign buyers tax also seems to have helped in the hotspots like Vancouver. Prices dipped a bit after its introduction, while the stress test caused a good price decline in Vancouver and held our prices steady.  Vancouver detached prices are roughly unchanged from 4 years ago.   The jury is out on the spec tax, and we’ll see what comes out of the money laundering investigations.

I support all these demand measures with only some reservations.  While they each have their downsides, I believe the net effect is positive in controlling toxic demand and preventing consumers from over-leveraging.   But these measures can only do so much.

What does it mean to control demand anyway?

We can all agree that sensible demand measures are a good thing.  We don’t want people borrowing too much and creating an economic collapse like we saw in the US.   However you feel about foreign buyers, we can likely all agree that homes are meant to be lived in, and we don’t want our cities to be filled with vacant homes while locals struggle with affordability or are forced onto the street.  Similarly we don’t want our residential areas turned into AirBnB hotels or homes to be used as a way to launder money.   That is toxic demand, and BC has taken several steps to control it in recent years and are implementing several more.

However, after all the measures listed above were implemented, toxic demand is not a large part of the market anymore.   Double vacancy taxes in Vancouver mean that people aren’t leaving a substantial number of properties vacant and data from these taxes backs this up (other good data on vacancy here).   Direct foreign buyers were reduced drastically already, and the noose is tightening on other loopholes allowing money to be hidden in real estate.   We might argue about investors scooping up condos, but if they’re not leaving them empty, I don’t see the problem.   Investor interest in housing increased because of the gap in the market left by our failure to build purpose built rentals.  They are a symptom of the problem, not the cause.

With toxic demand tamped down, what kind of demand is left?  Regular people wanting a place to live.

Thus, when people say we must further control demand they are effectively saying we must prevent people from having a home.  If people were only fighting resale supply they could conceivably hide behind a misguided concern that all the demand is toxic, but here we hear a similar push back against new rental supply which isn’t subject to any of those problems.   And who lives in newly built resale housing?   Data shows it’s normal families, mostly locals.   Yes new housing is more expensive and won’t be affordable to everyone from the start, but as long as someone is living there, it prevents housing from becoming even less affordable and prevents the displacement of lower income folks by higher income people competing for fewer properties.  That is true for rentals and the resale market.

Dr. Gordon concludes his argument by innocently wondering why people may not agree with him.  “The narrative is useful to powerful people” he surmises in an attempt to appeal to our desire for conspiracy thinking.  I’m all in favour of being aware of motivations and being wary of real estate industry talking points.  I’ve often pushed against them on this blog.  But the importance of supply to the supply and demand equation is not a talking point, it’s economic reality.

If the big expensive cities were losing people then affordability wouldn’t be a problem and we could forget about new supply.  But we aren’t losing people.  We’re gaining them, and in Victoria we’re gaining people at a faster rate than in the past.  So given demand is high, we need to focus on creating the supply to allow those newcomers and existing residents to continue to afford a place to live here.   Let’s not bury our heads in the sand and think this can be solved by doing nothing.