Developers build expensive housing because housing is expensive

Emily Badger has a great post at Wonkblog about why rental housing is so expensive in the District.

Along with explaining how the median renter has changed as more affluent households are looking to rent rather than own, she notes the ways in which land-use regulation can unintentionally spike prices:

Height limits, parking requirements and zoning restrictions all push up the cost of construction. So do lengthy design reviews and legal battles with neighborhoods opposed to new development. Developers must also build at the densities communities allow, and in the limited places where they allow higher density. And if a given parcel of land is only zoned for about five stories of apartments, those apartments may have to command $2,500 a month each to make the project profitable.

She’s exactly right. All of these regulations increase the cost of building new housing and cause a lot of potentially profitable units to never be built at all. But aside from parking requirements, however, none of these directly cause developers to build expensive, luxury units.*

Much luxorious

More importantly, focusing on luxury units reverses causality. Housing isn’t expensive because developers are building costly, luxury buildings. Rather, they decide to build luxury units because housing is so expensive to begin with.

If developers decided to build spartan apartment buildings–no granite counter tops, no decks, basic appliances, cement floors, tiny windows–these units would still be extremely expensive and out of reach for working-class renters. Wealthier residents are willing to pay for location, and they’re willing to pay more than lower income residents can afford.

Even if developers decided to forego the entire building itself and just sold a tent on a dirt lot, that unit wouldn’t be affordable in a prime location. In Shaw, for example, someone just paid $1.2 million for dirt without the tent because the potential value of building homes is capitalized into the land. In some of our leading cities, land (and the legal entitlement to build) is often worth more than the homes built on them.

Developers do, in fact, build nice units with lots of amenities, but this is simply catering to the people who have enough money to pay DC’s sky-high rates, not a cause of high rates themselves.

Regardless of the costs developers face, housing prices are still set by supply and demand. The regulations Badger pointed out are indeed drivers of rental prices in the District, but the mechanism is constraining supply, not luxury units.




*As Donald Shoup has shown, minimum parking requirements cause developers to build fewer, but larger, units within a building of given size because providing additional parking spaces is not only costly, but also physically infeasible in many cases. Many jurisdictions require  certain number of parking spaces for each unit, rather than basing requirements on square footage. A developer may then build a suboptimal, but still profitable, building with larger, more expensive units (if the development moves forward at all).