The Housing Crisis Is Real… but So Are Possible Solutions

Housing affordability, as a rule of thumb, is measured as the amount of rent or mortgage over income. When your rent or mortgage surpasses 30% of your income, you are considered subject to financial stress (Meen 2018).

In the UK, the average gross monthly wage is estimated to be around £2,400/ €2,800 (ONS, 2019), while the cost of a one-bedroom flat varies widely across cities, from £500/ €590¹Report by More Than for the newspaper The Telegraph. See biography. a month in Norwich, a medium-sized city (213,000 inhabitants) in the East of England, to £900/ €1,075 in the relatively close but smaller town of Cambridge (126,000 thousands residents), where I am currently living. 

To understand the housing crisis, let’s ask ourselves why Cambridge is so expensive?

Cambridge is home to the largest cluster of tech companies in Europe such as Amazon, Apple, and the pharmaceutical multinational AstraZeneca, which moved its headquarters to the university-city in 2013. These companies (almost 5,000) account for 61,000 jobs. This means that not only students, but also corporate employees, entrepreneurs and investors want to settle in areas where knowledge is produced. The existence of what, in technical terms, is known as knowledge spillover²In economics, a spillover, also known as externality, is an unintended consequence of an event on agents that were not supposed to be concerned by that event. In the case of knowledge, it is meant in a positive sense: the proximity of firms within common or different industries will facilitate the circulation of knowledge (the opportunity to exchange ideas) and consequently innovation and growth., leads to an agglomeration effect³The benefits of a more dense exchange of knowledge, together with the reduction in production costs, and a greater division of labour, lead firms to concentrate in defined areas, creating an agglomeration effect, meaning an increase in productivity due to the mere location of economic activities. attracting many people to the same place. This in general is a positive development, since a higher concentration of productive people magnifies productivity all around. 

The downside, however, is that in cities, space is limited… When many people want to live in the same place, housing prices go up. And though we should expect salaries to go up alongside prices, this is rarely the case.

In Cambridge, while average salaries (£3,300/ €3,900) are higher than the national average, they are still not sufficiently high enough to pay the rent (£900/ €1,075) once taxes and utilities are deducted (between £150/ €170 and £400/ € 470). These figures are misleading further because average salaries are calculated based on the highest wages of a population. If we instead look at median wages (£2,600/ € 3,110), representing 50% of the population, then we see that more than half of Cambridge’s workforce, at average rent prices, are under housing stress.

Cities are victims of their own success. When people move in, prices go up, and because housing supply takes time to adjust, other people inevitably have to move out. In Cambridge, key workers are forced to live in surrounding towns and commute back into the city. This translates into 23 days of their year spent in traffic. In the UK, this is the most time spent in traffic, representing twice the London average (Admiral, 2018). It is evident that housing affordability is not just a question of individual and collective welfare, but also of productivity loss, a condition faced by many European capitals. 

What are the traditional solutions & why do they fall short in tackling the problem?

1. Increase access to ownership
Often representing an immediate approach if housing is deemed unaffordable, increasing access to ownership can be done in 2 ways…

So much for increasing access to ownership. So, what else can be done to improve affordability?

2. Increase the supply of housing 
If houses are expensive why not increase supply? After all, if quantity goes up, prices should go down. It seems, however, that the situation is more complex than that. To understand why, we need to take a small step back and ponder upon the nature of housing itself, which itself is a good that is both consumed and used as investment. 

While most people buy houses to live in, many consider purchasing homes as a means to obtain profit: either as a steady additional income by renting it out, or as a lump-sum payment by reselling it at a higher price. An indiscriminate increase in the supply of housing will not necessarily help reduce prices as long as investment motives dominate consumer ones. Why? Because any new supply of housing is likely to be targeted by large domestic and international investors who are exclusively interested in build-to-rent schemes and properties built to be sold only at market value.

In the UK, where almost a million families are on the waiting list for social housing (Shelter, 2017), only 6,463 homes for social rent were built in 2018, a 78% decrease from the 30,000 homes a decade ago (MHCLG, 2018).⁵Although there formally exist affordable housing requirements for developers, quotas are often missed, or exchanged with financial or in-kind contributions (e.g. investment in infrastructure) to local councils facing ever tightening budget constraints.

Many households today take on an investment approach towards housing, convinced that if the value of their home goes up, then they will be able to reap its increase in value. When all house prices increase, cashing capital gains is generally only possible when buying smaller homes (with less amenities), moving to lower-priced areas, or by altogether giving up owner-occupation in favour of renting. In these cases, investment has a negative impact on consumption.

We see then that increasing access to ownership, or indiscriminately augmenting the supply of housing may not prove to be effective remedies to the affordability crisis.

What are some possible avenues worth exploring? 

1. Addressing cultural & systemic issues from a long-term EU perspective

If we want to favor the consumer nature of housing, one daring proposition is to reconsider its fiscal treatment when it’s traded as a form of investment. Indeed, if housing continues to be viewed as just another asset in a diversified portfolio, then it should be taxed as non-residential capital. This requires a form of fiscal neutrality based on a simple principle: different forms of investment should be subject to the same tax treatment. 

While it may be reasonable to provide some form of advantage for households buying their first home (constituting their main residence), capital gains and property taxes should be harmonised across countries when housing becomes subject to large investment operations. However, in practice, while European countries adopt similar fiscal policies with respect to non-residential capital⁶Expenditures by firms on capital such as tools, machinery, and factories., achieving a fiscal convergence for housing (when treated as residential investment⁷Expenditures on residential structures and residential equipment that is owned by landlords and rented to tenants.) is difficult to achieve for two reasons…

2. Revisiting the paradigm of social housing: Vienna’s approach
Austria proposes an interesting solution where 25% of the country’s residential building stock is social-rented housing. While Austria’s real estate market very much resembles its German neighbour, with a 55.4% homeownership rate (the second lowest in Europe after Germany) and identical fiscal policies, its social-rented housing surpasses its German counterpart by 20 percentage points. Though Austria is not the country with the highest share of social housing (the Netherlands is at 32%), it has managed to maintain a lower home ownership rate than the Netherlands (67%), and an even lower rate of private rental (16% in comparison to Germany’s 49%).

What sets Austria aside and Vienna in particular– where the percentage of renting households surpasses 70%, among the highest in the world, with 60% of the population living in the 440,000 social houses– is the fact that ownership of socially rented stock is shared by municipal governments and by state-subsidised limited-profit private developers (Scanlon et al, 2015). The functioning of the latter is regulated by the city: the municipality buys land deemed suitable for development and solicits fitting construction, whose ownership will rest with the developers.⁹A competitive bid for development ensures that social housing benefits from high value development by attracting the best architects and contractors. This in turn allows the city to rent half of the new apartments to lower-income residents¹⁰The upper income threshold is at €45,000 for singles, and at €68,000 for couples. and the remaining units to moderate-income households. Because rents are regulated by the municipality, residents spend 20-25% of their income on housing (versus 46% in Paris and 49% in London), well below the affordability threshold, and are not required to move out if their income levels increase over the years. This allows for diversity within social housing, impeding the emergence of segregated neighbourhoods and of stigma regarding public reliance. 

So, what is the social cost of this approach? It’s not shocking nor burdensome; in Vienna, this translates into a 1% tax on the salaries of every resident, half of it directly deducted from wages and the other half matched by employers.  

What is the state of social housing beyond Vienna?

In cities like Berlin with a tradition of affordable rents and housing prices, rates are now surging while the development of social housing is decreasing. More than 80% of apartments are rented in Berlin and rent prices have risen by 120% since 2004. Tenant associations blame this on the overall reduction in social housing (15% of total housing stock in 1987 to 3% in 2015 (Kofner, 2017)) and its progressive privatisation.

In the UK, on the other hand, the introduction of the “Right to Buy”¹¹A policy in the United Kingdom (with the exception of Scotland since 1 August 2016 and Wales from 26 Jan 2019) which gives secure tenants of councils and some housing associations the legal right to buy, at a large discount, the council house they are living in. policy, with the 1980 Housing Act, allowed tenants to purchase the council homes¹²A council house is a form of British public or social housing built by local authorities. in which they lived. However, this policy contributed to a drastic reduction in council homes (in other words, social housing). Profits gained by local authorities from homes sold¹³These home were sold largely below market value. were not reinvested in the construction of new social housing. This also led to greater social stratification since only wealthier tenants were able to purchase their homes. 

To aggravate the situation more, in 2016, 42% of the homes purchased under the “Right to Buy” scheme in London were rented out by private landlords. With the bulk of homes now concentrated in the hands of owners, there have been several instances in which the local authorities pay these private landlords to house homeless families (Copley, 2019).¹⁴In addition, the introduction of a borrowing cap in 2012 on the ability of local authorities to borrow against the value of their Housing Revenue Account funds (composed of rents from council homes and the market value of public housing) further curtailed the capacity to invest in new affordable housing.

A need for pragmatism dosed with a shift in perception 

Solving the housing affordability crisis requires the right policies at the right time. But it is crucial not to adopt a one-size-fits-all approach. The aforementioned Austrian case has to be understood within its historic context. Faced with a dramatic housing crisis after the First World War, the government introduced a strict rent control policy which disincentivised private development of rental buildings. Over time, the policy encouraged a decrease in land prices, spurring land acquisitions by local authorities, thereby paving the way for a large investment in social housing (Condon, 2018).

If we want to solve the housing affordability crisis, we should first start seeing housing for what it really is: a primary consumer good, rather than a form of savings or investment. This will not happen overnight. Strong agglomeration forces, cultural values and financial incentives all need to be factored in when tailoring solutions.

Whilst a shift in public perception may only happen in the long run, the Vienna example at least demonstrates the existence of policies incentivising the adoption of a new paradigm in which social housing is not perceived as a fallback solution for more deprived citizens. The objective here is not to copy Vienna’s initiative(s) verbatim—or any other initiatives for that matter— but to identify the flaws in our modern systems, consider all possible solutions, and adapt them in an effort to close the housing gap. Because, as the saying goes in the development field… a successful country is not one in which the deprived own cars, but in which the wealthy use public transportation.