The Hyperlocal Effects of Real Estate
Better Ways of Mitigating the Externalities of Real Estate
Location, location, location is the standard mantra for real estate brokers. That gets at the idea that housing is really spatially differentiated, and every property and neighborhood really are unique. For this reason, real estate markets have an interesting scale of variation at the hyperlocal level—think what’s going on in your immediate neighborhood. That’s the unifying theme here today, thinking about very local housing effects, and the implications for housing policy across three settings.
I started to get interested in the question of hyperlocal housing effects with my Job Market Paper, which looked at the question of Foreclosure Contagion—whether mortgage defaults had impacts on neighbors. I used exogenous variation coming from whether mortgage borrowers had contracts linked to LIBOR or Treasury indexes, which resulted in shocks to whether some borrowers, and so some neighborhoods, were exposed to random shocks to foreclosures. This had some interesting effects:
Neighboring properties did sell for a bit less after foreclosures, consistent with some other work.
Refinancing is really a lot harder in the aftermath of foreclosures. To get a mortgage, appraisals are often going to look at local property comps. So a foreclosure selling at a fire sale really makes it harder for neighbors to get a new mortgage.
Difficulties in refinancing, lower property valuations, and some loosening of norms against missing payments contribute to greater defaults by locals in the area. These effects are really concentrated in tight neighborhoods, fading by distance from the house
The takeaway here is that residential vacancies have spillover effects on neighborhoods; impacting prices, credit availability, and other borrower behavior. With Covid, so far—borrowers have faced income losses, but have been buffered by government support and by virtue of being in positive equity. So residential defaults and foreclosures have been minimal, while commercial vacancies have been really growing. And we are just beginning to understand the spillover impact of those vacancies, in malls for example, on economic activity.
Price Externalities of Construction
Local price effects also come up in another context—whether new construction in housing leads to local displacement. You would think the theory here should be pretty straightforward—more supply should clearly lower prices. But the possibility of neighborhood gentrification may also increase local demand in the vicinity of construction. This higher bankshot demand may actually increase local prices in the vicinity around construction, if it outweighs the supply effect.
So there has been this new housing literature examining the hyperlocal effects of new construction on local effects, summarized in this table below, which is a little mixed. Pennington, a JMP this year, is a particularly nice paper that advances on identification—looking at random fires to generate variation in where new construction happens. While a number of papers like that one find the usual demand story dominates, Damiano and Frenier suggest the effects depend a little on the precise submarket. An overall effect of zero on local rents disguises a rent increase among low-income tenants.
Singh is the most clear evidence for the “bankshot” view: the expiration of the 421a tax in New York led to additional construction to take advantage, and she argues this also led to more local restaurants and amenities that raised demand (Li, who also looks at New York, also finds evidence for amenity growth, but that this channel is swamped by the supply).
References: Pennington, Damiano Frenier, Li, Asquith Mast Reed, Mast, Singh.
Here, the hyperlocal effects are nice for identification purposes, in thinking about how new construction shocks local housing markets. But I think this framing can be a little limiting in thinking about the role of construction overall in a city. YIMBYs don’t wan’t more construction because it always in every case lowers price in hyperlocal areas—but instead because it expands housing options in the city overall. On a large enough scale, you have to think that more housing construction brings down rents, even if it also affects the distribution of activity within the city. Mast is particularly interesting here—he examines the role of “housing chains,” which suggests that new development brings in people who formerly lived all over the place, including in low-income areas, which should improve the affordability situation for the whole city.
Negative Externalities of Construction and NIMBYism
Last, I want to talk about this really great book Neighborhood Defenders by Katherine Einstein, David Glick, and Maxwell Palmer that I reviewed here at City Journal. This is all about the NIMBY problem—those local busybodies who hold up new development. A common framing of this activism is the “Homevoter Hypothesis”—the idea that property owners believe the average of the estimates above, and think that new local construction will lower their house prices.
But the problem is that even the majority of renters show up to oppose new development (even if they are not quite as NIMBY as the owners). Affordability rationales can’t explain this opposition. Instead, as I summarized:
The economics of new construction partly explain this housing restriction. Construction has negative effects at the hyperlocal level, yet positive, but more diffuse, benefits in wider metropolitan regions. The inconveniences of building projects—from construction noise and traffic congestion to limited parking—motivate dedicated residents to voice their opposition at community board meetings. Meantime, a countervailing pro-development political force struggles to mobilize supportive residents.
This book does a great job of summarizing local complaints to new construction, that focuses on how these activities really have externalities on all locals (not just owners) through non-price channels. New construction is loud (some evidence here on noise affecting productivity), polluting, potentially takes away people’s views, and will add more residents who take up street parking. The possible “amenity” effects of neighborhood change may not be welcomed by new residents, who instead prefer the aesthetic character of the local area. Even if the benefits of new housing for the city overall are large enough to overcome these costs, the presence of these immediately discomforted residents may be enough to block construction, given the veto-points created by the local planning process.
Political Reform for NIMBYs
The concerns of local homeowners about new construction are, I think, actually legitimate. The problem is that our political system never gets around to actually solving that externality; and instead just allows actors to bury local projects under layers of procedural objections. But there are a lot of remedies here we could do which would better solve the issue:
Change the Political Actor to a Higher Level: In other words, preempt hyperlocal control and have the mayor (or the state) take control of zoning decisions. The idea is that politicians at that level are better placed to weigh both the costs as well as benefits of local zoning. Elsewhere in the world; setting zoning decisions at the provincial (Canada) or national (Japan) level seems to work well.
Tailor Restrictions more Narrowly to Nuisances: New construction making some noise? Developer has to work to reduce it. Rather than layers of studies or processes, just narrow injunctions to mitigate the externalities.
Coasian Side Bargains: No way to completely eliminate the nuisances posed by new construction? Have the developer cut a check to the neighbors, resulting in a Coasian side bargain (as Anup Malani suggests here). In practice, we already allow neighbors to complain and possibly block development, and shake down developers for side deals which may include alderman campaign contributions or affordable housing set asides. But we don’t really have a mechanism to just directly compensate any affected locals, which would result in a clear Pareto improvement and defang opposition to development.
Cap and Trade Housing: This one may be a little unsavory for housing fans, in that it really treats housing a pure nuisance. Under this system, local governments would be asked to produce feasible plans to increase housing, particularly in high demand areas. But they would be allowed to opt-out by swapping required density with other comparable areas in exchange for cash transfers. Chris Elmendorf points out that SB 50, a proposed housing law in California, already envisioned a way for a system like this to work. So Beverly Hills could remain low density, but only by paying for new housing construction somewhere else in LA.
The scale of our housing crisis has generated a huge potential for win-win deals. To take advantage of them, we need to balance the complaints of locals exposed to new construction, with the much broader (but diffuse) benefits for all. There are a ton of possible mechanisms here to do so, any of which would open up a lot more building and opportunity.
Natalia Emanuel and Emma Harrington have a nice paper suggesting that workers who go remotely are indeed more productive: but that those hired into remote positions directly were less productive. This suggests an important adverse selection behind remote work, helping to explain why employers have been reluctant to offer this in the past.
Sylvain Catherine and Constantine Yannelis argue that debt forgiveness is regressive across the distribution.
Interesting paper here on mitigating climate change risk.
Palo Alto spends $1 million on signs enforcing local RV bans, speaking of NIMBYs.