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Michael Barnes

The Naive Economics of SB 50: Part II - The Limits of Upzoning

Posted by: Michael Barnes - January 23, 2020 - 5:52 PM PST

In the real world, building housing is subject to many constraints. In the current Bay Area context, zoning rules are typically not the binding constraints for two reasons. First, there are many other constraints that are binding. Second, zoning rules don’t work quite in way that many SB 50 supporters seem think they do.

In an excellent letter date June 14, 2019 (here), the City Council of Rohnert Park sent to various legislators a list of the many constraints on building new housing. Excerpts from the letter appear in italics below:

There is a flood of proposed legislation in California intended to address housing that are a result of a misdiagnosis of the root causes of the housing shortage. The bills seem to assume that a lack of approvals is unduly constraining housing construction. In reality, it is a complex problem with many contributing factors to the housing shortage including:

Rather than address those issues within its control, some state legislators are seeking to impose “by-right” development projects on local governments, elimination of fees, removing parking, overriding local plans, and limiting public input.

As the letter describes, there are many binding constraints that prevent housing from being built, constraints which SB 50 does little or nothing to address. But even if all these constraints could be removed, there is still another problem. Upzoning–allowing multifamily and other large housing developments in neighborhoods in which they were previously restricted–requires homeowners to do nothing.

Let me give an example from my own neighborhood.

I live in an R-1 neighborhood where only single-family homes can be built. My 1,100 sq. ft. house was built in the 1920s. If my neighborhood was upzoned to R-2 zoning (which allows for multifamily housing), what would I be required to do? Nothing. Upzoning removes a constraint–if my neighborhood became R-2, I could sell my house to someone who plans to build a duplex.

But I’m not really interested in doing that. I think I’d rather sell to a family who wants to live in the perfectly adequate house that is already here, and until then I might add some plumbing to my backyard studio to convert it a legal accessory dwelling unit (ADU), which I would probably continue to use as an occasional guest house.

For me, R-1 zoning is a non-binding constraint. As in the examples above, if you remove a non-binding constraint, it doesn’t change the outcome. Some people seem to think that zoning is like eminent domain, where the state can condemn your house, force you to sell, and then demolish it to make room for a freeway (or an apartment building). That’s not how zoning works. Upzoning allows someone to build something bigger on my property, but it can’t require me to let them do it, or to sell to them. I still maintain my property rights.

Even if I wanted a duplex where my little house exists now, there is another problem. I might not be able to find a developer who would want to build it. The project very likely wouldn’t be profitable. Let’s just say because I live in a town with good schools within walking distance, with a charming walkable commercial district nearby, I could sell my house to a young family for $1 million. As an alternative, I could sell it to a developer who wanted to build a duplex.

First the developer would have to pay $1 million for the property. Then they would have to demolish the old house and build two new units. That’s expensive. Then they would have to find a buyer for the project. The problem is that privacy, space and aesthetics are all what economists call normal goods–as your income rises, you demand more of them.

If you tear down a charming 1920s bungalow and replace it with a boxy duplex, you are destroying the very characteristics that made the property valuable in the first place.

Given how valuable single-family homes are in the Bay Area, and how expensive it is to build for all the reasons listed above, upzoning R-1 neighborhoods like mine might lead to very little building in the short run. In the long run it might lead to more, but as John Maynard Keynes famously said, “In the long run we are all dead.” If we really want to solve our “housing crisis,” solutions that take several decades are inadequate to the task.

However, the combination of upzoning and gentrifying low-income neighborhoods, typically occupied by families of color, could be profitable under SB 50. That’s why low-income community organizations tend to be among the most vociferous opponents of SB 50.

Various versions of the bill in the past have attempted to mollify these critics, but the neighborhood groups are right to be extremely skeptical. They have been hesitant to abandon their positions on the bill (and possibly their positions in their old neighborhoods).

For a good example how and where such problems could emerge, consider Minneapolis. Advocates for upzoning consider the city a model. Minneapolis recently banned single-family zoning in favor of allowing residential triplexes “by right,” which means the city has very limited ability to block the projects. In an article that is both fascinating and disturbing, a Minneapolis planning commissioner, architect and resident of low-income North Minneapolis, dissects this policy (here).

To summarize, the arguments for SB 50 fail for two reasons. First, expanding supply will not bring down prices unless demand is constrained. Second, although zoning is a type of constraint, in the current situation, it is not a binding constraint. However, several other constraints are binding.

Democracy is messy

Upzoning R-1 residential neighborhoods does not require a homeowner to move or prevent them from selling their house to a new owner who might live in it for decades.

If SB 50 is ineffective in bringing about its stated goals, what then is the real purpose of the proposed legislation? The real purpose of SB 50 is to destroy local control and small-homeowner property rights. Real democracy exists at the local level. But for corporate real estate developers and their sycophants (see here and here), local democracy is a nuisance. If democracy, at least on paper, must exist, they would prefer its decision-makers to be housed a compact space, like a state capital building, where they become easy marks for lobbyists and their campaign-funding checks.

On the other hand, under local democracy, there are too many decision makers, and too many homeowners, to be bought off easily. Influencing local government officials is like herding cats, and homeowners are a group of independent and opinionated Jeffersonian free holders (at least after the mortgage is paid off). Local governance is messy.

Some corporate real estate interests would prefer to do away with local governance and small homeowners, altogether, and, judging from the legislation they support, require the little people to live in large, drab apartment blocks like those in the old East Berlin, or to house tech workers in Shenzhen-style worker barracks–quick to build, no design review required.

SB 50, along with related bills like Skinner’s SB 330, take a giant step in that direction.

Negative Externalities and Antitrust

Parts I and II analyzed why legislation like SB 50 and SB 330 are not the solution. So, it’s a good idea to step back and ask how we got into this mess. If we don’t understand how we got here, if we don’t understand the nature of the malady, we will keep on prescribing for ourselves the wrong remedies.

First, a note about rural California. In many respects, the problem there is not that the rich are getting richer, but that the poor are getting poorer (here and here). Although it is true that lack of affordable housing can exacerbate rural poverty, the opposite is also true–lack of effective demand due to poverty can reduce the amount of new housing. Poverty is both a cause and effect of the rural housing shortage.

Economic relationships in which cause and effect flow in both direction are difficult to disentangle. But in the real world, they are common. In his classic essay, “Politics and the English Language,” George Orwell stated this succinctly:

“But an effect can become a cause, reinforcing the original cause and producing the same effect in an intensified form, and so on indefinitely. A man may take to drink because he feels himself to be a failure, and then fail all the more completely because he drinks.”

In California, the combination of rural poverty and lack of housing are nothing new. Does anyone believe that in 1962, when Dolores Huerta and Cesar Chavez began organizing the United Farm Workers, those farm workers were better housed than they are today?

Here in urban coastal California, things have changed. As I mentioned earlier, the rise of demand for housing has been driven by the growth of large monopolistic tech firms like Apple, Google and Facebook, and by the billions of dollars of venture capital being funneled to tech startups here. The clustering of firms based on emerging technologies has been happening at least since the industrial revolution, and analyzing this new round of tech clustering is keeping economic geographers busy.

One of the new aspects of tech clustering in the United States is that it’s happening during an era of weak antitrust enforcement. Especially given the privacy issues engulfing Google and Facebook, is there any economic efficiency argument for Google Maps and Gmail to be run by the same company? How about Facebook and WhatsApp?

The gigantism of tech firms is now drawing the attention of Congress.

New York University finance professor Thomas Philippon is the best known current thinker exploring the failures of U.S. antitrust policy. As he notes in an Atlantic magazine article,

“In 1999, the United States had free and competitive markets in many industries that, in Europe, were dominated by oligopolies. Today the opposite is true.”

A New York Times article about Philippon’s work on corporate concentration states,

“Philippon’s biggest contribution is to explain that it isn’t some natural result of globalization and technological innovation. If it were, the trends would be similar around the world. But they’re not. What explains the difference? Politics.”

Facebook, Google, Apple and other tech firm are not immutable forces of nature. Our rules, or rather the lack of enforcement of them, have led to their growth. Bay Area citizens have every right to use the rule of law to restrain the behavior of, and the problems created by, these behemoths of the Bay.

Many of the problem big tech creates are what economists call negative externalities.

The negative externality most often in the news today results from the burning of fossil fuels. The price of burning coal, oil and gas does not include the social and environmental damage caused by increasing levels of carbon dioxide in the Earth’s atmosphere, or their contribution to climate change. One partial solution would be to charge a carbon tax to increase the cost of burning fossil fuels and internalize those costs in the higher price.

Writing in the Jan. 18, 2018, edition of the New York Times, columnist E. Tammy Kim tied the logic of taxing negative externalities to the tech housing demand shock:

“A half-century ago, it seemed inconceivable that factories, smelters or power plants should have to account for the toxins they released into the air. But we have since accepted the idea that businesses should pay the public for the negative externalities they cause. Today, corporations must answer for increased rents and evictions, and for worsening traffic jams. Like air and water pollution, these costs are shared by all of us.”

Approximately 11 months later, in Dec. 2019, a Report from the Brookings Institution mirrored the concerns of Kim:

“At the economic end of the equation, the costs of excessive tech concentration are creating serious negative externalities. These range from spiraling home prices and traffic gridlock in the superstar hubs to a problematic “sorting” of workers, with college-educated workers clustering in the star cities, leaving other metro areas to make do with thinner talent reservoirs.”

The Bookings report stresses subsidies to develop new regional growth centers. Their goal is to:

“Assemble a major package of federal innovation inputs and supports for innovation-sector scale-up in metropolitan areas distant from existing tech hubs. Central to this package will be a direct R&D funding surge worth up to $700 million a year in each metro area for 10 years. Beyond that will be significant inputs such as workforce development funding, tax and regulatory benefits, business financing, economic inclusion, urban place-making, and federal land and infrastructure supports.“

The New York Times’s Kim endorses not the “corporate takeover of housing policy” (as the advocates of SB 50 suggest,) but taxation of negative externalities in existing tech centers:

“What is needed in Seattle — as well as San Francisco; Austin, Tex.; New York City; Boulder, Colo.; and other urban areas where the rapid influx of high-paid tech workers has made housing unaffordable for nearly everyone else — isn’t a corporate takeover of housing policy but, rather, a per-employee “head tax” that would fund real investments in affordable housing, which should be a public good.”

These two policies are complimentary. In addition to taxing tech’s negative externalities to subsidize affordable housing, the tax revenue could fund the development of new regional growth centers–although if state taxing and funding mechanisms were used, the new regional grow centers would have to be in California.

Summary

In this series I have attempted to explain how the advocates for SB 50 do not understand the basics of supply and demand. These advocates misunderstand or ignore the many constraints to building housing, and they do not have a clear understanding of zoning or the unintended consequences of upzoning.

Their arguments fail to recognize the broader economic context that includes antitrust and negative externalities.

SB 50 cannot fulfill its stated mission of reducing housing costs in the short run. However, if enacted, the bill could be effective in its intended, long run mission–removing local control of land use and encouraging the corporate takeover of housing policy.

It is hard to argue that this outcome serves the best interests of the working middle class in the San Francisco Bay Area.

CLICK HERE to read Part I

Michael Barnes is a science editor and writer at UC Berkeley and is currently serving as a City Council member in Albany, CA.