Housing Market and Abandonment Honors Seminar Prof. Barr

Housing Characteristics  Durable: Can last hundreds of years. Market is mostly for used houses.  Immobile: It comes with a neighborhood.  Quality variety: Each dwelling is like a snowflake, no two are alike: –Age, size, layout, aesthetics, appliances, etc.  Housing depreciates: requires maintenance.  Rent vs. ownership choice.  Location, location, location.

Housing Value: A Hedonic Approach  A convenient way to specify the price of a house is via the hedonic price approach: –price=f(rooms, size, age, neighborhood quality, taxes, plot size) –i.e,. prices are a function of a series of debits and credits. –p=f(+,+,-,+,-,+) –Therefore prices reflect the value of a bundle of housing services.

A Housing Model P Quantity of housing services To begin: Let’s assume housing market is for housing services: houses provide utility for the shelter, comfort, domestic productivity, status, etc. Demand: Income, tastes for housing services (style, free standing, etc.) Supply: Costs of housing services. Price of inputs, etc. QsQs QdQd P* Q* Equilibrium: Price which equates supply and demand.

Renting vs. Owning  Renting versus is owning in this country is generally a function of income (Newark is #1 in terms of % renters).  To buy you need to accumulate wealth to qualify for mortgage and need to have mortgage payments low relative of income.  Easier to rent small space then buy a large space.

Regression: Dep Var: %Own-Occ. Cities across U.S., 2003 R Square0.62 Adjusted R Square0.60 Observations68 Coefficientst Stat Intercept %Below Poverty Line %Foreign Born Residents % Residents 25+ w. Bachelor’s % Residents who are veterans

Renting vs. Owning  Renting vs. owning, however, generates different incentives for neighborhood and housing quality.  Owners have a vested interest in both: –Homeownership is a form of investment. –Unlike stocks and bonds, you cannot diversify away risks. –Maintain your house to preserve your investment. –Maintain civic involvement to preserve value of house, etc.

Dep Var: % Vacancy in each Census Tract R-squared0.58 # Obs90 Coeff.t-stat % Renters % Poverty Med HH Inc (000) Intercept Regression: Vacancy Rates in Newark by Census Tract, 2000

Rent vs. Ownership  Renters: –Less likely to maintain housing quality—they have much less to gain. –No vested interest in preserving property values. –Community involvement, etc. is less [this will be taken to extreme when we look at abandonment, neighborhood quality, and vandalism, arson and rioting….]

Renters vs. Owners  Quality maintenance decisions also confer an externality effect upon neighbors: –If your neighbor doesn’t maintain her house, it affects the value of your house (who wants to live next to a messy neighbor?) –Civic involvement of your neighbor also affects your house value.  Fostering homeownership improves the economies of communities, all else equal.

Simple Model: Landlord Profits and Abandonment  Prof=Revs-Costs: PQ -.5Q 2 - cTQ - τ(PQ)  Costs of maintenance go up with age (T).  τ is tax rate on value of property.  How much services to provide as function of profits?

Model cont.  Q*=P(1-τ)-cT (via profit max.)  So what happens when: P goes down, and c and τ goes up?  At some point when Prof<0  better off walking away from the property.  Keep in mind that value of property= Prof/interest rate.  Market disappears when Prof<0.

Abandonment in Newark (Sternlieb & Burchell)  Irony of abandonment: amidst the great need for housing are empty houses.  Many major cities affected (e.g. NY, Phili, St. Louis)  Definition (Not easy to give) –Stop maintaining property. –Transfer ownership to City –Significant tax arrears. –Empty and/or vandalized, boarded up –Removed from housing stock and for which no replacement use is found.

Sternlieb’s Study  A sample 567 housing structures visited in Newark in 1964 were revisited in  Questions asked in study: –What was the extent and nature of abandonment? –Who were the abandoners? –Why did they abandon their property?

Sternlieb cont.  Of 567 re-sampled buildings, 15% were abandoned by  Keep in mind commercial buildings were being abandoned too, , 5.2% abandonment rate per year.  On average, 2% of real estate stock in early 1970s was being abandoned per year.

Demand Side  Abandonment occurs in neighborhood with declining demand for housing services (i.e. low income, high unemployment).  But keep in mind, not all houses were abandoned: correlation between income and abandonment, but abandonment occurs also because of supply side issues.

Supply Side of Abandonment  A Key factor in abandonment is tax arrears.  Presence of non-white residents in white-owned structures (primarily older, distant landlords with no vested interest in city or housing stock.)  Interestingly, the abandoned structures were in no worse shape in 1964 than the ones still in use in  The abandoners wanted to sell the parcel but could not.

Property Taxes and Abandonment  Property taxes are leveled on value of property.  In theory, when you improve your property, you increase value and therefore increase your tax bill.  Tax rates are going up, regardless, because of eroding tax base in industrial cities.  Therefore: –When rental income is going down, you will not invest in improvements because it will increase your expenses (outlay of money) and your tax bill. –Not paying taxes is an easy way therefore to eliminate expenses on your investment.

Tax Delinquency  66% of abandoned properties were in tax arrears.  “Since the city steps in to purchase abandoned structures, it unwittingly encourages owners to destroy through nonimprovement. In other words, tax delinquency becomes an incentive for abandonment.” (xxvii)  A well-maintained property will fetch no more in the market place

Who are the landlords who abandon?  In short, the group most likely to abandon properties are “widows and children” of landlords who lived in neighborhoods and left and are “milking” the property for the rental income.  Real Estate Brokers and Lawyers (those who know about possible urban renewal programs, etc.)  Least likely to abandon are those who live on the property and can maintain the property themselves.  Not the “slum lords”: can make profits in this market (econ. of scale and know-how).

Why Abandonment?  “The key fact of life here is not owners giving up the business, that is a constant in any form of enterprise, the unique element is rather the fact that there are a few alternative buyers—regardless of price.”