September 12, 2019 2:30PM

Statewide California Rent Control: Shooting The Price Messenger

California has approved a statewide annual rent increase cap of 5 percent plus inflation for rentable accommodation in buildings more than 15 years old. Though technically an “anti-gouging” measure (it expires after 10 years), most would recognize this price cap for what it is: rent control.

Economists should be baffled about rent control’s recent revival. Controlling rental prices is one of those rare policies that practitioners of the dismal science overwhelmingly oppose. It’s even more troubling that it has been introduced in California. Recent academic evidence suggests that a 1994 San Francisco ballot initiative to introduce rent control for small multifamily housing built before 1980 actually led to:

  • rent-controlled buildings being almost 10% more likely to convert to a condo or a Tenancy in Common (TIC) than buildings in a control group.
  • a 15% decline in the number of renters living in these buildings and a 25% reduction in the number of renters living in rent-controlled units, as landlords converted existing accommodation to other uses and demolished old buildings and replaced them with new units outside the controls 
  • a city-wide rent price increase of 5.1%.

Rent control then had exactly the effects economists would predict. Capping a market price below its equilibrium creates shortages. Many landlords remove rentable accommodation from the market to more profitable uses, or else rebuild accommodation (that is often more expensive) to avoid the charges. The twin effects? Higher market rents and accelerated gentrification, to the detriment of poorer residents.

Now, the urge for policymakers to “do something” on California’s housing problem is understandable. Demographia’s median multiple calculations (median house price in a market, divided by median household income) shows that California contains 15 of the US’s 28 “severely unaffordable” housing markets – defined as those where the median multiple exceeds 5.1. In Los Angeles, San Jose and Santa Cruz that multiple actually exceeds 9! Homelessness is rife in some of California’s largest cities. The state has the highest poverty rate in the country. These problems are all exacerbated by high housing service costs.

But rent control worsens, rather than dealing with, these problems. High and rising rental costs suggest that supply is relatively unresponsive to demand, often due to overly restrictive land use planning and zoning laws. High or rising prices and rents are therefore like a messenger, urging developers to build more houses or apartment buildings.

What rent control amounts to is an attempt to muffle that message and pretend there is no problem. But in capping rents when markets are heating, you reduce the profitability for landlords to rent the accommodation in the first place, worsening the supply problem that’s pushed up rental costs to begin with.

Indeed, as I said when Oregon introduced similar legislation, this new California measure will ultimately please very few people. In areas where tenants face rent increases above earnings but below the cap, rent controls will have no effect. Increases will eat into families’ incomes further, and with affordability worsening, tenant groups are likely, in time, to demand tighter controls.

Yet where market rents really are spiraling, capping them to prevent so-called “economic eviction” (as this measure does) dampens the incentive for developers to bring new supply to market - even more so if they see these measures as a precursor to even tighter controls. 

Some tenants, usually the less mobile and those opting not to move, will benefit from lower rents, of course. But the cost is a significantly worsened availability of rentable housing precisely where it is needed most.

The California legislators think they get around this supply-reducing effect by only applying the controls to properties more than 15 years old. But as the San Francisco evidence shows, there’s nothing to stop landlords changing the use of existing properties, or else knocking down older buildings or houses, to then provide new exempted forms of accommodation.

On housing there really is no substitute to liberalizing supply. California lawmakers should stop shooting the rent price messenger, and deliver the more difficult zoning and planning reforms to improve housing affordability more broadly.