Canada's 'housing bubble' deemed close to bursting

[milomilo]

Originally Posted by lio45

There's one thing that I am not getting, though. You (someone123) and I both agree that rental-only zoning would work well (it harms land values then funnels development into the only one type that is allowed; in practice it's guaranteed that land values in areas where you can't do anything but multifamily rental will fall until the point where it becomes financially viable to do multifamily rental there) ... yet ...

That guy quoted on last page, Andrey Pavlov, PhD, a professor of real estate finance in the Beedie School of Business at Simon Fraser University, says pretty much the diametrical opposite of us about rental-only zoning. And he doesn't explain his view.

Can anyone help me here? He's clearly totally wrong, at first sight. There's got to be something I'm missing.

UNLESS what he means is, "I agree with someone123 and lio45 that rental-only zoning would work in theory, but in practice property owners in these areas will hold out and wait until the people who mandated rental-only zoning get kicked out of office and replaced by people who will eliminate rental-only zoning and re-open the speculation potential of that land".

And if so, that's stupid. It's like saying crippling gas taxes "don't work" to reduce fuel usage, because in practice, people will choose to keep their V8 4x4 Chevy Suburbans and temporarily endure the new prices for the few days/weeks it will take until angry popular backlash forces politicians to bring fuel prices back to where they were before.

That's not "it doesn't work", it's "it totally works but we believe people right now wouldn't tolerate it so we don't think we should attempt it at the moment".

So... if that was his point, then he's wrong - if rental-only zoning gets introduced and it is stated clearly that it's there to stay, it'll work.

Actually, what Pavlov claims does not surprise me at all.

Developers are not building rental units because it is not profitable to do so. If the city's answer to that is to implement rental-only zoning, then the underlying fundamentals do not change. All you have done is restrict supply of housing further - non rental units only, granted - but a supply restriction nonetheless. So while it might make constructing rental units more attractive relative to non rental units, that's only because the non rentals became more expensive, rentals won't be cheaper than they would have been had the restrictions not been in place.

This is a typical kneejerk reaction that seems like a good idea, but probably isn't. I haven't seen enough research to be 100% sure of this being bad, like I am with rent restrictions being bad, but it seems very unlikely to be a good idea. The market always wins, governments cannot buck the market.

[milomilo]

Originally Posted by lio45

I was going to disagree that it's "impossible", but we're in agreement on that - to reach the Vienna-matching point where ~70% of all Vancouverites live in social housing as renters, you probably need to raise income taxes on all working BCers to something like 80%, and at this point the volumes of equalization transfers from Ottawa to Victoria would make Rural New Brunswick and Fort McMurray and everything in between all "have" areas of the country, and politically I don't think this would work for long before all other provinces alter the equalization formula to address the black hole that BC has become.

But it wouldn't be strictly "impossible". At least for a while.

Yeah, by impossible, I mean it is so beyond the norms of political convention that it is never going to happen. The BC government couldn't credibly do it, it would have to be the federal government in conjunction with the BoC, as so much money would have to be printed that it would impact the value of the loony.

I actually think this would be a not-terrible idea to do in a recession. Print a ton of money and subsidize so much construction nationwide that the abundance of supply causes house prices to crash. It would hurt, but it would reset the market, and we could simultaneously implement stricter lending controls such that we don't allow the same problem to arise again. America seems to have recovered fine from their housing crash.

[someone123]

Originally Posted by milomilo

Developers are not building rental units because it is not profitable to do so. If the city's answer to that is to implement rental-only zoning, then the underlying fundamentals do not change. All you have done is restrict supply of housing further - non rental units only, granted - but a supply restriction nonetheless. So while it might make constructing rental units more attractive relative to non rental units, that's only because the non rentals became more expensive, rentals won't be cheaper than they would have been had the restrictions not been in place.

This isn't true. The fundamentals can change; the cost of the zoned land changes and that is the largest share of housing costs in Vancouver.

Multi-unit housing in Vancouver is constrained by the amount of land zoned for high-density development. It is possible to relax the constraint on a given site just for rentals and not condos.

A single lot in a decent transit-accessible area that's not up-zoned costs about $2M. It is technically possible to put a 20, 40, 60, or 80 storey building on one of these sites. If the city were to re-zone the site for condos its market price would go up to the new equilibrium price for condos. If it were to re-zone the site for rental only, it would only go up to the new equilibrium price for rentals, which is lower than the condo price but higher than the house price. A developer would have an improved opportunity to build rental because the land cost would be lower.

Another important factor is that if we permitted as-of-right highrises on small lots we would create an opening for smaller development companies. Right now most development is permitted on large blocks of commercial land near SkyTrain stations that are owned by only a few developers. Consequently we have an oligopolistic market for new multi-unit construction and this raises prices.

[milomilo]

OK, if you upzone an area to a higher density simultaneously to the rental only zoning classification, then you'll get an increase in supply (maybe). But that increase came from the higher density, not from the rental only classification. The better option would just be to upzone vast swaths of low density areas such that the developers can build what the market wants.

Density limits from zoning are not a tool that lowers affordability, they are a city shaping tool and lower densities are kept for political reasons rather than reasons of affordability. If politicians don't want to upset the "haves" of the housing markets by building higher densities (and so far, that is where the political balance lies), then there will not be affordable housing for the have nots.

[someone123]

The problem with allowing the market to build whatever it wants is that there is a lot of demand for investor condos. There's a limited appetite for up-zoning, so it might make sense to dedicate some of the up-zoning for a category of development that has more social value.

I think parts of metro Vancouver should be up-zoned for any high density development, but I see how rental zoning could be a useful tool on top of that.

[GlassCity]

What if it was used as a density bonus? I.e. 3 FSR for condo or 5 FSR for rental only? I don't love the idea of rental-only zoning from the social standpoint of geographically stratifying renters and owners.

It should be noted too that in the more distant suburbs, with lower land values, a decent share of development has been in the form of rental. Langley City and Township both have seen a good bit, and neither has employed rental zoning. Rents start at about $1,500/1bed. This seems to support the argument that developers will build rental buildings if the economics work. I was always more of a demand-side critic of our housing crisis, but now that the speculation taxes and stuff have gone in...there's gotta be more development capacity made available.

[lio45]

Originally Posted by milomilo

Actually, what Pavlov claims does not surprise me at all.

Developers are not building rental units because it is not profitable to do so. If the city's answer to that is to implement rental-only zoning, then the underlying fundamentals do not change.

Incorrect, actually.

For example, by changing to "rental-only" the zoning of a parcel like this one, whose current free market value of $245M strictly hinges on the possibility to erect a tower of glass-and-steel bitcoins on it then resell them all to billionaire Chinese money launderers, what happens is that you immediately kill nearly all of the value (of course, whoever happens to own that parcel at the moment the zoning changes will scream to high heaven, and with very good cause too - you just hope they aren't too politically influential), and then it suddenly starts to make financial sense for a developer to acquire that nearly worthless piece of land for a song and put a rental building on it and get a decent return on the total [land + building costs] investment, which means it'll happen eventually.

In a speculative market like Vancouver, the only reason it makes sense for investors to sit on strategic parcels and let time pass without doing anything is the potential future value of that land as a ever-pricier high-end for-resale development. If that changes and nothing can ever be done there anymore except multifamily rentals, the speculative component all but disappears, and it's not financially interesting anymore to just keep it fallow while you're banking on future land value gains.



edit: I guarantee that if suddenly all you could ever do on this parcel was rental, with no hope of it ever changing, then it wouldn't be long before you'd end up with a building on it:
https://www.cbc.ca/news/canada/british-c...s-old-8-5m-real-estate-mystery-1.3143211

[lio45]

Originally Posted by someone123

A developer would have an improved opportunity to build rental because the land cost would be lower.

That's the TL;DR summary of my post above.

[milomilo]

Originally Posted by lio45

Incorrect, actually.

For example, by changing to "rental-only" the zoning of a parcel like this one, whose current free market value of $245M strictly hinges on the possibility to erect a tower of glass-and-steel bitcoins on it then resell them all to billionaire Chinese money launderers, what happens is that you immediately kill nearly all of the value (of course, whoever happens to own that parcel at the moment the zoning changes will scream to high heaven, and with very good cause too - you just hope they aren't too politically influential), and then it suddenly starts to make financial sense for a developer to acquire that nearly worthless piece of land for a song and put a rental building on it and get a decent return on the total [land + building costs] investment, which means it'll happen eventually.

In a speculative market like Vancouver, the only reason it makes sense for investors to sit on strategic parcels and let time pass without doing anything is the potential future value of that land as a ever-pricier high-end for-resale development. If that changes and nothing can ever be done there anymore except multifamily rentals, the speculative component all but disappears, and it's not financially interesting anymore to just keep it fallow while you're banking on future land value gains.



edit: I guarantee that if suddenly all you could ever do on this parcel was rental, with no hope of it ever changing, then it wouldn't be long before you'd end up with a building on it:
https://www.cbc.ca/news/canada/british-c...s-old-8-5m-real-estate-mystery-1.3143211

It's not incorrect.

Say you rezone a block to rental only. Sure, you will indeed make it relatively cheaper to build rentals on that block. But what happens when you put those units to market? What rate do you charge? The market rate of course, with the developer pocketing the difference. And what did you do to the rest of the market for construction? You've slightly restricted supply, and hence slightly pushed up the cost of construction of everything else that is not rental on that block.

And what of the owners of land in this block, that now have had their properties arbitrarily devalued? Legal challenges could await, all so you could put into place policy that decreases affordability. Lose, lose.

I've said it before and I'll say it again. You don't get to rewrite the theory of supply and demand, unless you are a nobel prize winner. If you decrease supply, you increase price.

[someone123]

Your model of the housing market is overly simplistic. The renters don't have the option of buying million dollar condos and the investment buyers don't rent units. The investor condo may or may not go on the rental market and isn't necessarily constructed in the same way even if it has the same zoning.

[lio45]

To illustrate with numbers:

Market rents in that area: ~$2,500
Construction cost per unit: ~$200k
Land cost per unit: ~$700k

What's going to happen in that area is that no one is going to build rentals; some developers will build condos costing them ~$900k (construction costs + land costs) that they will resell for ~$1M, and some of the landowners will just sit on their land waiting for it to become even more valuable with the passage of time.

Now, if you re-zone that to rental-only, what's going to happen is that this will immediately place a solid cap on land values: they'll be capped at approximately [R(t)*12/I(t)-C(t)]*U.

R(t), a function of time, market rents in the neighborhood in the year where time = t
I(t), a function of time, commercial banking interest rates in the year where time = t
C(t), a function of time, construction costs per unit in the year where time = t
U, a constant, the number of units zoning allows on that parcel.

So if at any given time, rents are $2,500, interest rates are 5%, construction costs per unit are $200k, and the parcel allows 20 units, we have

Gross revenue per year per unit: $30,000
Divided by the absolute minimum acceptable cap rate: $600,000 max acceptable cost per unit
Minus construction costs: $400,000 max acceptable land cost per unit
Times the number of possible units: $8,000,000 max value for the land

So this parcel will never be worth much more than that, until someone finds a way to greatly reduce construction costs with new prefab tech or something (but then, that could impact rents city-wide...) or unless rents in the area go up significantly.

If neither is overly likely, then the land value is very much capped, and there's zero sense in holding onto it without doing anything with it as the years go by.

Again, that parcel at Robson and Broughton is a perfect example - there'd be a building on it already if it were zoned rental-only.

[milomilo]

The individual parcel doesn't matter much. What matters is the effect on the entire market. If you just rezone that parcel, it won't make a jot of difference at a meaningful scale. If you rezone enough to actually start making a difference to things, the effect will not be favourable to affordability.

[lio45]

Originally Posted by milomilo

It's not incorrect.

Say you rezone a block to rental only. Sure, you will indeed make it relatively cheaper to build rentals on that block. But what happens when you put those units to market? What rate do you charge? The market rate of course, with the developer pocketing the difference.

You charge the market rents, of course - as opposed to being able to SELL all those units for >>20x the yearly potential rental revenue, to people who won't be renting them to anyone.

Therefore, the result is, new rental units coming online, which raises the vacancy rate and keep rents somewhat affordable.

The problem right now is that building rentals in a market where speculation has pushed property values to levels that are absolutely out of whack with all local metrics like wages, living costs, and the rents that locals can afford to pay (in other words, a market where cap rates are absurdly low) makes no financial sense at all, therefore no one does it.

If you limit what can be built to only rentals, then land values will fall off a cliff until they stabilize at a point where stuff can be built at a land cost per unit that results in an acceptable cap rate. It's that simple.

And yes, the main reason we can't do this in practice is that it would be extraordinarily unfair to the people who currently own very expensive land zoned for all kinds of commercial/condo uses. But if we wanted to do it, it would work.

[milomilo]

Originally Posted by someone123

Your model of the housing market is overly simplistic. The renters don't have the option of buying million dollar condos and the investment buyers don't rent units. The investor condo may or may not go on the rental market and isn't necessarily constructed in the same way even if it has the same zoning.

The renters are screwed either way, market tinkering will just make it worse for them. There is only one solution - for city wide house values to be decimated by some combination of increased supply or decreasing demand. Until that happens, there cannot be affordable housing, someone has to pay for it somehow.

[lio45]

Originally Posted by milomilo

The individual parcel doesn't matter much. What matters is the effect on the entire market. If you just rezone that parcel, it won't make a jot of difference at a meaningful scale. If you rezone enough to actually start making a difference to things, the effect will not be favourable to affordability.

Disagree with your last sentence. The effect would be favorable to affordability, but unfavorable to anyone who currently owns Vancouver property, and especially unfavorable to those who own well-located land in the areas where speculation has been the most rampant.

This is the reason I don't expect to see it done on a non-marginal scale. It would be unfair to current owners.

[lio45]

Originally Posted by lio45

If you limit what can be built to only rentals, then land values will fall off a cliff until they stabilize at a point where stuff can be built at a land cost per unit that results in an acceptable cap rate. It's that simple.

^ this is the argument in a nutshell. I'll illustrate further with an example.

There are almost no gas stations left in Manhattan nowadays. Why? Because land values are so high that no one can profitably operate a gas station there anymore (and if you had one already, it made less and less sense not to cash out, so nearly everyone did at this point.)

If you rezoned a few currently vacant parcels to "gas station only and this is guaranteed set in stone until the end of times", what would happen?

The value of these parcels would fall until they'd stabilize at levels where it makes financial sense to build and operate a gas station there, and you'd eventually see gas stations pop on those parcels. Because that's the one and only thing you can do there - the land has absolutely no other possible use. Either you put a gas station there or else the land is worthless. So it's worth whatever can be justified by the business case of a Manhattan gas station, not a penny more.

And again, yes, the owners of those vacant properties (who, no doubt, paid dearly for them already, and they plan is to hold onto them until the day they resell for even more money) would scream to high heaven if you did this.

[misher]

With rental only zoning were usually talking about land with something on it already not a vacant lot. If you have something there already and aren’t developing it your a lot less likely to develop if it’s suddenly rental only.

And if you say we should ambush developers who have empty land, well then that’s short term, long term developers will just stop demolishing things and development will freeze. You can burn developers once but not twice.

I see a lot of people supporting screwing developers, well that’s a very short term strategy. Unless your working with developers so that they make money too then don’t expect them to stay. You might get a few rentals in the short term but long term instability chases people away. Just like the stock market.

Also for that guy that wants go crash house values during a recession, the American housing crisis was largely due to house values being lower than mortgages. Crashing values further will just create a bigger crisis. When people’s mortgage is high they will walk. Canadians have a lot of debt. And I understand that most renters don’t give a shit about homeowners and want to bankrupt them so they can buy their homes for pennies. But hopefully they understand how bad that would be for our economy and employment as well. People weren’t buying back when home values were dirt cheap in 1996. Cheaper values don’t=a better living situation.

[SpongeG]

My city of Coquitlam is losing a lot of old rental stock to highrises currently, but as a requirement, any new developments must replace the lost rentals with new ones.

Such as there were two 3-storey rentals down my street that were and are being replaced by two towers, the old rentals had maybe 80 rentals between them, one of the towers will be a full rental with 200 rental units replacing the lost ones. most of them will be market value, a few are set aside for below market and fewer still for low income rentals.

It is a good way to ensure that rentals are being built. A few thousand rentals will be coming along in the next few years as part of numerous new developments.

[rbt]

Originally Posted by milomilo

Developers are not building rental units because it is not profitable to do so. If the city's answer to that is to implement rental-only zoning, then the underlying fundamentals do not change.

The zoning itself would change the fundamentals as the it shifts the value of the land to whatever the local cap-rate values it at. A $50M plot of land with condo/office options, may only be a $10M plot of land as rental-only.

The hard part is convincing landowners that a future government will not revert the zoning (generally or a specific exemption just for them) so they're forced to sell at that lower price.

[lio45]

Originally Posted by rbt

The zoning itself would change the fundamentals as the it shifts the value of the land to whatever the local cap-rate values it at. A $50M plot of land with condo/office options, may only be a $10M plot of land as rental-only.

The hard part is convincing landowners that a future government will not revert the zoning (generally or a specific exemption just for them) so they're forced to sell at that lower price.

I don't know if you've read my posts from the last couple pages but that's a perfect summary of what I've been saying. In about ~1% of the words, possibly less.

(I'd still like to think all the words and examples I used weren't purely wasted )

And as you say, it would have to be clearly established that there's superstrong long-term transpartisan support for the measure, so those zoning changes are set in stone forever, otherwise it would be like I illustrated, people continuing to commute with 4x4 V8 Chevy Suburbans not changing their habits one whit knowing those new crippling gas taxes aren't long for this world and we'll soon go back to "normal".