Why ‘second generation rent controls’ are not a solution to the affordability crisis (Part 1)

Ah, rent controls. It is one of those ideas, like the Living Wage and higher taxes for the rich, that just about everybody seems to be in favour of these days, especially in London. And clearly, the problem of escalating rents in the capital is more than real. I have written a lot on this blog about the housing affordability crisis in the UK in general, across all regions and all tenures, and its implications for poverty. But even against this backdrop, the situation of the London rental market still stands out as particularly extreme.

The median rent for a two-bedroom flat in London is now £1,400 per month. Let’s put that figure into context.

The median gross annual full-time salary in London is £34,200, or £2,850 per month, so the median rent already amounts to almost half of that level. Somebody in this income range will pay about £8,000 a year in taxes and national insurance, so the median rent amounts to two thirds (!) of their net salary.   

In other expensive cities, those who are unable or unwilling to pay high rents generally have the option of moving further outwards. Not so in London. The table below shows rents at the outer fringes of Greater London[1], which are still in the region of a third of London’s median gross salary. Of course, it is possible to move beyond those boundaries, but that will usually lead to a jump in commuting costs.  

Another option that people in expensive cities have is cutting back on space and/or amenities. Again, in London, that will not get you very far. Apart from massive spikes at the top end, rent gradients within a given London borough tend to be fairly flat, which is why the difference between the median and the lower quartile is not that large. Presumably, the reason is that in London, average levels of space and amenities are modest to begin with, so there is not much that can be trimmed.  

 

Median and lower quartile rents in Greater London and at its fringes

  Median Lower quartile
Greater London £1,400 £1,130
in % of median gross earnings 49% 40%
Western fringe £1,000 £945
in % of median gross earnings 35% 33%
Northern fringe £1,100 £1,050
in % of median gross earnings 39% 37%
Eastern fringe £875 £825
in % of median gross earnings 31% 29%
Southern fringe £950 £900
in % of median gross earnings 33% 32%

 

 

 

 

 

 

 

 

 

Somebody who is in the middle of the full-time wage distribution is, of course, much higher up the income distribution, because the latter also includes the non-employed and the underemployed. So if the situation is that tight for those in a comparatively comfortable position, what hope is there for low-earners, or for those who struggle to establish themselves in the labour market?

Still, rent controls are not the answer. I will not waste your time pointing out what’s wrong with the kindergarten version of rent controls. Instead, let’s have a look at the more nuanced proposals of Labour MP David Lammy, as well as the similar proposals by the homeless charity Shelter, who advocate so-called ‘second generation rent controls’ (SGRC). Under SGRCs, landlords are free to set the rent levels they see fit at the outset of a tenancy, but are restricted in their ability to raise them (in real terms) once the tenancy has commenced.

SGRCs are nowhere near as bad as primary rent controls, precisely because they are not, strictly speaking, ‘rent controls’. It would be more accurate to describe them as mandatory longer-term fixed-price contracts.

But while SGRCs need not be hugely damaging, they cannot be a solution to an affordability crisis either. Under SGRCs, landlords anticipate that they will be constrained in their ability to raise rents during a tenancy, and will factor that into their initial offers. Let’s assume a simple world with no inflation and no interest rates (hence no discounting), in which the average tenancy lasts for two years. You want to rent a flat from me, and I charge you 100 thalers initially. In the next year, rents in the area go up (as I expected they would), and I raise your rent to 110 thalers.

Under SGRCs, I would not be able to raise the rent in the second period, but I could simply have charged 105 thalers right from the start. I would have been able to do this, because competing landlords in the area are faced with the same constraints, and would respond in similar ways. You might still be better off under SGRCs. Maybe you value that predictability in itself, even if SGRCs do not affect your overall rent payments, but only their timing. But predictability and affordability are different issues. Under SGRCs, London rents would still be extortionate – the extortion would just become more predictable.

More realistically, SGRCs would lower average rents for some tenants while raising them for others. Under conditions of a general increase in house prices and rents, the introduction of SGRCs would mean that rents would go up more slowly during a tenancy, but show more pronounced hikes when a tenant moves out and a flat is put on the market again. So one could think of SGRCs as a redistribution from those who move frequently to those who stay put for longer. Again, this need not be a bad thing. Households in the former group will be younger on average, and less likely to contain children. But shouldn’t we actually tackle the problem, rather than just redistributing its burden a bit?

And then, there are the unintended consequences. Suppose you rent a flat from me for 100 thalers, a price which I cannot raise. But if I put the flat on the market anew now, I could charge 150 thalers, because rents in the area have gone up in the meantime. So SGRCs could not be introduced on their own; they would have to be coupled with strict regulations deterring the termination of a tenancy. In this way, there would surely be an impact on the supply of rental accommodation. And while landlords can be locked into a contract, that is hardly the basis of a great tenancy relationship.

So much for the theory. Yet SGRCs, claims David Lammy, have been tested in Germany, and worked. Part 2 will explain why this comparison is misleading.

 

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[1] Approximated by the median rent at the borough level, in the boroughs which are furthest away from the centre in the respective cardinal direction.

 

An excellent post. Your last point is very important. Those sorts of controls would raise the risk of letting and therefore raise the required return and therefore raise rents or reduce the supply of let property. That is exactly what the security of tenure provisions did when they existed alongside the rent restrictions. There is plenty of evidence from the commercial real estate market about the value of different types of rental contract (because, there, there is variety of tenure types). Market fundamentals do in the end establish themselves. However, I would be interested to know whether the liberalising of the market in the late 1980s does allow long-term contracts with index-linked rents (or any other provision) or whether such contracts have to be written under the old restricted rent arrangements. If long-term contracts are difficult, then this is something that should be addressed (but through liberalisation).
The rental value of land is the market measurement for the benefits a freeholder or renter receives from living in UK Plc. The trouble with renting is, you are paying for the same thing twice. Once to the taxman and once to your landlord. Would it not be better if the State collected the value it creates via a Land Value Tax(we already have LVT. Only it is privately collected)? That way, taxes on work and enterprise can be reduced/scrapped, so renters only pay for the same services once. This also works for freeholders too. Because they are no longer subsidising landlords, banks and the wealthiest 1% of households, housing affordability increases four fold for a median UK household. Anyone who's total gross household income is 10% or more of their home's selling prices, is better off. For an average household this is around £10,000 net. Lord knows why anyone is debating rent controls, or building more homes to add to our existing over supply. It's the tax system, stupid! (not you Kristian. You are very clever)
On the face of it, rent controls look like a bad idea, but… People and politicians in the UK (quite dishonestly and insincerely) say that they want a wide spread of owner-occupation. Actually they want nothing of the sort, which is why owner-occupation rates have been falling quite rapidly for ten years. But we did have a period with low and stable house prices (i.e. until about 1970) when owner-occupation rates increased steadily. What were they doing which was different? 1. Rent controls. 2. Lots of new council housing for low rents. 3. Lots of new private construction. 4. Sensible building society rules on loans to value etc 5. Domestic Rates and Schedule A tax, which between them amounted to a modest Land Value Tax. 6. High income tax rates on private landlords. And it worked, it worked just fine. Rented accommodation was crap, but so what? Houses were cheap to buy so nobody cared.

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