The specter of rent control is reappearing on the California November ballot. The people who put Proposition 10 on the 2018 ballot and Proposition 21 on the 2020 ballot have now placed Proposition 33 on this year’s ballot.
Just like the previous ballot measures, Proposition 33 would give local governments the opportunity to impose rent control by repealing the 1995 Costa Hawkins Rental Housing Act, which limits rent control ordinances that cities can enact.
The previous ballot measures were defeated, so this measure is being rebranded as “Justice for Renters,” implying that renters are being treated unjustly.
Indeed, rents in California are high and have increased precipitously over the past several years. CalMatters reports that the median monthly California housing rental is $2,850 and that 30% of California renters spend at least half their income on rent.
As anyone who has taken an introductory economics course can attest, the price of goods and services, including rents, is established by the marketplace. As demand increases, prices rise. When supply relative to demand increases, prices decrease. When sustained demand relative to supply increases, ongoing inflation results.
Absent a monopoly or oligopoly where the market for a particular commodity is manipulated by suppliers, governmental price controls merely intensify a shortage of that commodity. Consequently, the available supply of the product decreases, frequently resulting in a black market. Housing is unique because you cannot easily create a black market for it.
The demand for housing has sharply increased in California, while the supply has not kept pace. Younger generations are forming new households at a time when it is increasingly expensive to construct new housing. We experienced a similar phenomenon in the 1970s when Baby Boomers also formed households in unprecedented numbers.
Since the 1970s the cost of constructing new housing has outpaced the growth of household income. Consequently, housing consumes a larger part of renters’ income than it did a generation ago.
Relative to the 1970s, it is extremely expensive to entitle a house. Increased permit fees, tougher building codes and environmental regulations are just a few of the factors contributing to cost increases. The post-pandemic surge in the cost of construction materials has also fueled increased housing costs.
Today, both the development and operation of rental housing is financed primarily by institutional investors. Much of that institutional money comes from pension funds that have participants like you and me.
When pension funds invest, they need to earn a return on that investment that is commensurate with the risk. If they don’t achieve that return, the pensioners won’t have enough money to retire. Pensions and other institutional investors cannot afford to be charitable institutions offering rent subsidies.
Most institutional investors seek a 7% to 10% annual return on their investment and many devote about 10% of their portfolios to real-estate-related investments. If a particular real estate market cannot deliver the requisite return, investors will invest in other markets that are capable of doing so.
Real estate investment trusts (REITs) are huge players in rental housing nationally. Most residential REITs find they can receive higher returns by investing outside of California because it costs less to develop new housing elsewhere than it does in California.
In order to deliver an identical return on investment, the owner of a housing unit that costs $200,000 to build will have to charge approximately 30% higher rent than the owner of a unit that costs $150,000. Given California’s high cost of housing, rents are going to be commensurately higher.
Local rental housing markets are not controlled by monopolies or oligopolies. Rather, competitive marketplace forces dictate the direction of investment capital.
If California enacts rent control, it will ensure that less capital will flow into its rental markets, further inhibiting the supply of rented housing units. A constrained supply will inevitably result in even higher rents, less affordability and increased housing shortages. To solve the problem, we need to make difficult choices and address the factors increasing the cost of new construction.
Furthermore, the costs of maintaining rental properties is increasing at a rapid pace. Reduced rent resulting from rent control will discourage landlords from making repairs.
Passing Proposition 33 will not accomplish its stated goals of making rents affordable — instead it will result in an injustice for renters by exacerbating housing shortages. Vote no on Proposition 33.
Jim de Bree, a Valencia resident, is a CPA who has represented clients in the real estate capital markets throughout his career.
