Jim de Bree | The specter of rent control

The specter of rent control is resurfacing on California’s November ballot. The people who put Proposition 10 on the 2018 ballot and Proposition 21 on the 2020 ballot have now put Proposition 33 on this year’s ballot.

Like the previous ballot bills, Proposition 33 would give local governments the ability to enforce rent control by repealing the Costa Hawkins Rental Housing Act of 1995, which limits rent control ordinances passed by cities.

The previous ballot measures were defeated, so this measure is being renamed “Justice for Renters,” which implies that renters are being treated unfairly.

In fact, rents in California are high and have risen steeply in recent years. CalMatters reports that the average monthly rent in California is $2,850 and that 30% of California renters spend at least half of their income on rent.

As anyone who has ever taken an introductory economics course can tell you, the prices of goods and services, including rents, are determined by the market. When demand increases, prices rise. When supply increases relative to demand, prices fall. When demand increases persistently relative to supply, persistent inflation results.

Unless there is a monopoly or oligopoly, where the market for a particular good is manipulated by suppliers, government price controls simply increase the scarcity of that good. Consequently, the available supply of the product decreases, often leading to a black market. Housing is unique in that it is not easy to create a black market for it.

Demand for housing in California has soared, while supply has not kept pace. Younger generations are starting new households at a time when new housing is becoming increasingly expensive to build. We saw a similar phenomenon in the 1970s, when the baby boomer generation also started households in unprecedented numbers.

Since the 1970s, the cost of building new housing has risen faster than household income. As a result, housing costs represent a larger share of renters’ income than they did a generation ago.

Compared to the 1970s, it is extremely expensive to license a home. Higher permit fees, stricter building codes and environmental regulations are just some of the factors contributing to cost increases. The post-pandemic increase in the price of building materials has also led to higher housing costs.

Today, both the development and operation of rental housing is financed primarily by institutional investors. Much of this institutional money comes from pension funds that include participants like you and me.

When pension funds invest, they need to generate a return that is commensurate with the risk. If they don’t generate that return, retirees won’t have enough money to retire. Pension funds and other institutional investors cannot afford to be charitable institutions that provide rental subsidies.

Most institutional investors aim for a 7 to 10 percent annual return, and many invest about 10 percent of their portfolio in real estate investments. If a particular real estate market does not produce the required return, investors invest in other markets that can.

Real estate investment trusts (REITs) play a large role in the rental housing sector nationally. Most residential real estate REITs find that they can earn higher returns by investing outside of California because it costs less to build new housing elsewhere than in California.

To achieve an identical return on investment, the owner of a unit that cost $200,000 to build will have to charge about 30 percent more in rent than the owner of a unit that cost $150,000. Given the high cost of housing in California, rents will be correspondingly higher.

Local rental housing markets are not controlled by monopolies or oligopolies. Rather, competitive market forces dictate the direction of investment capital.

If California implements rent control, it will ensure less capital flows into the rental market, which will further limit the supply of rental housing. Limited supply will inevitably lead to even higher rents, reduced affordability, and an increased housing shortage. To solve the problem, we must make difficult choices and address the factors that increase the cost of new construction.

In addition, the cost of maintaining rental properties is rising rapidly. Rent controls lead to rent reductions, which discourage landlords from carrying out repairs.

Passing Proposition 33 will not achieve its stated goal of making rent affordable—instead, it will do renters an injustice by exacerbating the housing shortage. Vote no on Proposition 33.

Jim de Bree, a resident of Valencia, is a Certified Public Accountant (CPA) who has represented clients in the real estate capital markets throughout his career.