As some of you may have read Rep. Will Guzzardi, D-39th, has sponsored a bill that would remove the Illinois ban on local municipalities instituting rental control laws. While this removal would not put rent control into place it is a slippery slope that may lead to city councils, specifically the Chicago city council, passing rent control laws. While I do believe Mr. Guzzardi is trying to look out for his constituents, I do believe his logic and understanding of basic economics is flawed. I try to avoid political debates or political opinions in my blog, however, I do not look at this as political but instead as economical. I think it is important that rent control and its disastrous outcomes are explained.
First, let us quickly discuss what rent control is. Rent control is when the government puts a max price (a price “ceiling” if you will) on what a landlord can charge tenants. There are various ways in which this is implemented. Now it is important to note that rent controls must cap price levels below the prevailing market in order for them to have any effect. Otherwise, the cap would never be reached and the rent control law would be pointless. Therefore, rent control sets a rate of rent below the current market level. In Chicago, as with most areas where rent control is a topic of discussion, the goal that is looking to be achieved is to allow low income and middle income residents to stay in neighborhoods and not get “priced out.”
When rent control is in place prices are capped at below the prevailing market and several things happen.
- Landlords stop investing in their properties. They do so because they have less cash to invest but also because they will not see increased returns. Therefore conditions of properties deteriorate. I do not mean that they become inhabitable, but the overall the conditions of items that are not 100% essential end up deteriorating and therefore hurting the value of the property.
- New investment becomes less. If rents are capped below market value then there is little to no incentive for new rental units to be built. Therefore, supply does not increase. In a normal market, rents increase and therefore profits for landlords increase which entice new investment. The increased supply then helps balance the market.
- Existing tenants do not move. Tenants enjoying rent control have little to no reason to move out of their current place. Therefore, only those lucky few take advantage of rent control. The on the market supply shrinks. Because of this, landlords can become very picky. Since they can’t raise rents they might as well be as strict as possible and since supply has decreased they will have countless of applications. High credit scores and higher income requirements will become the new norm. Therefore those with less than perfect credit will be left in the cold.
We will also see a spillover in other neighborhoods that do not have rent control. The excess demand that typically would have been satisfied by increased supply in rent control neighborhoods will not move to other neighborhoods. However, these neighborhoods that do not have rent controls will still likely see less supply. After all, rental developers are not stupid. They know rent restrictions may be placed on them too so they in turn will have less an incentive to invest and therefore supply would become restricted in these markets as well. Therefore, since these markets are unrestricted we can expect to see rent increases greater than normal in these areas and in turn making these areas less affordable.
The reason why any price is exists is due to a supply and demand relationship. When the government tries to “cap pricing” what they end up doing is inadvertently lessening supply while demand remains the same. Therefore, those properties not affected by the rent control will increase dramatically in value. Both NYC and San Francisco have forms of rent control.
We would also see a black market exist among landlords and tenants. “Key money” is common in New York and other areas with rent control. Tenants will pay additional move in fees up front in order to help increase the overall effective rent. Tenants who no longer want to live in an a building or neighborhood, but do not want to give up their amazing rent control place will end up subletting their place. The market will always try to return to normal It is like putting up a damn. You may stop the river in one space, but somewhere else it will flood. The one thing that will not change however, will be a lack of supply as investors will not want to invest in real estate when they are dictated by the government what rents they can charge.
With landlords with less cash there will be less money to pay taxes with. There will be less money to make improvements with thus tradesmen will suffer. The upper middle class market will suffer as well as we will see a spillover into these rentals too as I mentioned before. Rents for those making good six figured salaries will increase. Don’t care about them you say? Well, they will have less money to eat out thus bartenders and waiters will make less tips. They won’t shop at that new mom and pop boutique down the road so that store may close. That cleaning person that came every week? Well, now they’ll cut that out of their budget. The worst part about all this is it will not be due to the free market system, instead it will be due to the disruption of the free market system.
According to the Library of Economics and Liberty, 94% of economists believe rent control not only does not work but is a terrible idea. The agreement cuts across political parties and economists such as Milton Friedman and Friedrich Hayek (who are on the “right”) agree with Nobel laureate Gunnar Myrdal (who is on the “left”). Myrdal stated “Rent control has in certain Western countries constituted, maybe, the worst example of poor planning by governments lacking courage and vision.” I could not agree more. According to Crain’s Chicago Business the executive director of the Metropolitan Tenants Organization wrote ” One in five Chicago renters pays more than half their household income on rent.” Instead of fix the systemic issue that we have 1 in 5 renters paying half their income towards rent, politicians think the solution is to pass rent control? Why? Because fixing the systemic issues takes time, planning, and thought. It does not happen in one election cycle. So instead, politicians with zero understanding of basic economics, or worse their indifference to basic economics, try to move forward legislation that sells a dream to their constituents that will simply never be realized.