Rent Control In Housing Sector: A Discussion Of Economic Theory And Implications

Use economic theory and supporting material to discuss whether house rents in big cities should be regulated and if a price limit to rents would be beneficial. read the instructions.

Rent Control in Housing Sector

In economics, the concept of market has been prevailing for a long time. A market, in terms of economics, can be defined as the place of interaction of the buyers and the sellers of different goods and services, where these two sides interact to reach to a mutually agreeable point, which is known as equilibrium in the market. The willingness of the buyers to buy a product at different prices, is shown by the demand curve while the supply curve represents the sellers’ willingness to sell their products at different levels of prices. The notion of “Invisible Hand”, as first proposed by Adam Smith, states that if the economy is left in the hands of the free market, then the demand and the supply forces will interact with each other to bring stable equilibrium in the market (Oslington 2012).

However, this proposition is not true always, especially in the contemporary global economic scenario. Leaving the economy entirely upon the market mechanisms, often leads to situation, which are hurting to either the consumers or the producers or both, thereby decreasing the welfare in the economy. In such cases, interventions of the governing authorities in the situations become important to mitigate the problems by imposing appropriate regulations and controls to the extent it is required (Skousen 2016).

Keeping this aspect of government intervention and regulation in consideration, the essay tries to discuss the issues regarding the requirement of rent controls in the housing sectors of the big cities. The essay also tries to analyze the positive and negative implications of price capping in rent controls of houses in these places, taking help of different economic concepts and tools (Stiglitz and Rosengard 2015).

The housing sector of any economy is a crucial component of the economy as it deals with the housing of the residents of that region, which in turn have significant implications on the productivity, growth and industrial development of a region. The demand for housing and the supply of the same, in an economy, highly depends on factors like the prospects of living in that region, economic welfare, the availability of housing accommodations and also welfare factors like employment, infrastructure, health and educational scopes. Thus, the demand in the housing sector in the big cities tend to be high as the above mentioned features which positively affect the housing demand are very common in these cities (Gilbert 2014).

This high demand in the housing sector often influences the sellers to increase the rent of the houses that they offer which can be explained with the help of the following diagram:

                                      Figure 1: Change in the equilibrium due to increase in the demand

                                                           (Source: As created by the author)

Rent Regulation in Housing

As can be seen from the above diagram, due to the increase in the demand of the housings in a city, the suppliers can demand a higher price as there come more consumers who are willing to take the housings at a higher rent (Forrest and Murie 2014).

However, often this higher house rents become painful on part of the consumers, especially the middle class and the poor ones, for whom housing in these cities become unaffordable and they are forced to move to the outskirts of the cities where the quality of life is inferior. Otherwise they have to settle for poor quality housings in the city itself. Both of this decreases their welfare considerably. Thus, it can be asserted that often due to high demand of the housing in the big and popular cities, the rent at which the equilibrium in the market is reached becomes too high for many of the consumers to avail (Haffner, Elsinga and Hoekstra 2012).

In the above-mentioned situations, the government of the country often intervenes to regulate the prices and availabilities of housings in such a way that the welfare of the society as a whole is maximized and housing becomes affordable for people belonging from all the income strata of the society. In such cases, the significance of rent control is understood, the situations being especially acute in the big and economically booming cities across the world (Sowell 2014).

Rent regulation, by the essence of the term itself, is the regulatory mechanism used by the governing authorities of the concerned places, to set limits on the amounts that are to be charges from the tenants by the property owners. This is often done by either imposing an upper limit (price ceiling) on the housing assets or by following the procedure of stabilization of rent. Under this stabilization mechanism, the limits are set by the regulatory authorities on the rise of rent of the housing assets over time (Goodall 2013). Though these regulatory mechanisms are undertaken by the government in order to make housing affordable for the middle and the lower income classes in the big cities, however, these controlling mechanisms have both positive as well as negative implications on the economy as a whole and on those for whom these are designed and implemented.

There are several robust positive justifications in favor of imposing rent control in the housing sector, especially in the big and economically booming cities, which are discussed in the following section:

a) Right to housing-In the absence of any regulatory mechanism, high demand of housing usually raises the equilibrium prices so high that it becomes difficult for the lower and middle income people to rent these houses, which in turn have negative implications on their overall welfare. Presence of rent control, in these situations, provides a protection to these income strata of the society as it becomes affordable for them to rent the housings available in these big cities, without curtailing other expenses (Anthonsen et al. 2012).

Positive Aspects of Rent Regulation in Housing Sector

b) Efficiency and Information Symmetry-Often in spite of higher rents prevailing in the housing sectors, it becomes difficult or almost impossible for many middle and lower income people to move to some other cheaper place, mainly due to logistic problems and very high cost of moving. The presence of information asymmetry in the market often helps the already privileged landlords to extort higher amounts in terms of rents from their tenants as they become aware of high cost of moving of their tenants, the costs being both intrinsic as well as extrinsic (Bulow and Klemperer 2012).

c) Contractual issues-In many instances, due to the absence of regulations in the market, the contracts made between the tenants and the landlords tend to be biased, often in favor of the landlords. Presence of intervention and vigilance on part of the government, contracts are made on a fair ground, in terms of initial rent, adjustments, penalties, eviction clauses and other adjustments.

Thought the notion of rent control seems to maximize the welfare of the consumers theoretically, however, this mechanism has some limitations, which in the long run hamper the welfare of both the providers and the receivers, which are discussed in the following section:

1. a) Reduction in supply of housings- Due to the imposition of rent control on part of the regulatory authorities, the incentives of the supply side players reduces considerably and they try to reduce their supply in the market. The problem becomes even more apparent in the long run as in the short run the supply of housings remain more or less constant due to the presence of contracts between the tenants and the landlords (Iossa and Martimort 2015).
2. b) Quality of housing-Imposition of rent control on housings, apart from forcing the landlords to decreased their supply also discourages them to maintain the quality of their housing for their tenants. This is especially true in the short run, where the sellers usually cannot decrease their supply by that extent.
3. c) Discrimination-The landlords, in these cases, often tend to discriminate among different tenants and feel discouraged to rent out their housings to those who are supposed to stay for long.
4. d) Eviction- Due to the imposition of rent control, eviction rates also increase in the concerned cities and the tenants also, in many instances, move to cheaper outskirts, even sacrificing the possibility of earning higher wages in the cities, which in the long run, affect the productivity and economic prosperity of the cities also (Economist.com, 2017).

Thus, it can be asserted from the above discussion, that there is both positive as well as negative implication of rent control in housing sector. Taking this into account, the impact of imposition of price limit or ceiling on the rents can be analyzed, with the help of the following two-paneled diagram, showing both the short run and the long run effects:

                                         Figure 2: Short run and Long run effects of Rent control

                                                          (Source: As created by the author)

As can be seen from the above diagram, due to the imposition of price ceiling in the housing market, the demand increases. However, in the short run, due to the inelastic supply curve, the shortage of housing, which occurs due to excess demand, is manageable. However, in the long run, as both the demand and the supply curves are elastic, the landlords decrease their supply of housing due to the prevalence of the upper limit in rent, which increases the shortage more. This however, is only true when the price limit is below the equilibrium price and is binding on the suppliers (Nytimes.com, 2017).

Conclusion and Recommendation:

The above discussion asserts that rent control is one of the most widely used mechanisms used by the government to make housing affordable in an economy. However, there are limitations regarding the extent to which these measures need to be implemented. There are also other ways of solving the problems, which include increase in the supply of housing, which can be done by building more housing facilities in the concerned cities.

References:

Anthonsen, M., Löfgren, Å., Nilsson, K. and Westerlund, J., 2012. Effects of rent dependency on quality of government. Economics of governance, 13(2), pp.145-168.

Bulow, J. and Klemperer, P., 2012. Regulated prices, rent seeking, and consumer surplus. Journal of Political Economy, 120(1), pp.160-186.

Economist.com (2017). Cite a Website - Cite This For Me. [online] Economist.com. Available at: https://www.economist.com/blogs/economist-explains/2015/08/economist-explains-19 [Accessed 20 Nov. 2017].

Forrest, R. and Murie, A., 2014. Selling the welfare state: The privatisation of public housing. Routledge.

Gilbert, A., 2014. Housing the urban poor. The companion to development studies, pp.257-262.

Goodall, B., 2013. The economics of urban areas (Vol. 3). Elsevier.

Haffner, M., Elsinga, M. and Hoekstra, J., 2012. Access and affordability: Rent regulation.

Iossa, E. and Martimort, D., 2015. The simple microeconomics of public?private partnerships. Journal of Public Economic Theory, 17(1), pp.4-48.

Nytimes.com, P. (2017). Reckonings; A Rent Affair. [online] Nytimes.com. Available at: https://www.nytimes.com/2000/06/07/opinion/reckonings-a-rent-affair.html [Accessed 20 Nov. 2017].

Oslington, P., 2012. God and the market: Adam Smith’s invisible hand. Journal of Business Ethics, 108(4), pp.429-438.

Skousen, M., 2016. The making of modern economics: the lives and ideas of the great thinkers. Routledge.

Sowell, T., 2014. Basic economics. Hachette UK.

Stiglitz, J.E. and Rosengard, J.K., 2015. Economics of the Public Sector: Fourth International Student Edition. WW Norton & Company.