Monday 17 December 2018

Building tall - are policymakers mixing up supply and demand?

One of the basic insights of economics is that, if you want housing to be affordable, building expensive homes helps - as long as it is in sufficient quantity. Stock Image
One of the basic insights of economics is that, if you want housing to be affordable, building expensive homes helps - as long as it is in sufficient quantity. Stock Image

The Ronan Lyons Column

Last week, the Department of Housing released three different reports on the cost of building on the same day. The viability of construction is, arguably, the single biggest policy challenge facing the country right now - given just how severe the housing shortage has become.

Therefore, the information 'dump' at least shows that the subject has been the focus of policymakers' attention. Nonetheless, there are some peculiar findings in those three reports. One - the questionable claim that building here is not expensive - was the subject of last week's column.

Today, though, I'd like to focus on another claim in these reports, one contained in the report 'Review of Delivery Costs and Viability for Affordable Residential Developments'. Its executive summary states that building six storeys, or higher, is more expensive, "contrary to common understanding".

This last part sounds like a Trump-ism. Whenever Donald Trump says, "Not many people know this but…" you know he has just found out whatever he's about to say next - and that it may be common knowledge to many.

I am not aware of anyone with even a passing knowledge of construction who thought, before this report was published, that building 15 storeys was cheaper or simpler than building three. Certainly, some fixed costs scale down the more units are built, such as the site cost per unit (assuming the site is already purchased), or the lifts.

Indeed, this last point is not trivial. Suppose a developer is allowed to build eight storeys rather than five. Given that public policy specifies the maximum number of apartments that can share a lift on a particular floor, the extra 60pc of apartments will dramatically reduce the cost per unit of the lifts.

However, in general, the structural work required for a building of 15 or 18 storeys is completely different - and more expensive - than those required for a building of four or five storeys.

OK, so some policymakers thought building taller was cheaper and found out it isn't. What harm, you may wonder? Unfortunately, the report goes on to conclude "six-storeys is an optimum height… for the delivery of apartments".

And this is where the report makes a classic error in economics: mistaking supply for demand.

Suppose the Government came out with a new policy in relation to travel agents: because it is so expensive to fly to Australia and New Zealand, a ban will be put in place on package holidays to those destinations. Why would they ever do such a thing? To increase viability of holidays, of course.

Nonsense, you might think. Even if something is more expensive, there could still be demand. Plenty of people might be able to afford Australia or New Zealand. In fact, for some, one of those destinations may have been their first choice and now they have to go somewhere else.

With housing, the exact same principle holds. But the effect is even more acute. Because housing is limited in supply, every household has to have at least one dwelling. (Not every household has to have one holiday - and, of course, the supply of holidays is by no means fixed.)

Making it viable to build a home for a household on an income of €50,000 should never mean making it impossible to build a home that would cater for a household on an income of €150,000.

Indeed, one of the basic insights of economics is that, if you want housing to be affordable, building expensive homes helps - as long as it is in sufficient quantity.

Suppose it was impossible to build a home for anyone on less than €50,000, but that the construction sector built a new home for every single household on an income above that. What would happen to rents for those earning less than €50,000? They would, of course, go down - because the competition for the homes they can afford has been diverted away.

So, by all means, officials should do their best to change policy so that good-quality apartments can be built for €100,000 rather than €300,000 or more. But they should be equally in favour of new supply for those on higher incomes - including supply on an eighth, 10th or 20th floor.

A second cousin of the "don't build tall because it's expensive" argument is also doing the rounds. It goes along the following lines: regardless of the merits of building tall, don't change the rules now because all the plans that are live at the moment will go back to the drawing boards.

Ironically, you are most likely to hear this argument from someone who also believes that what we are building, we are building for decades, possibly centuries, and therefore we need to get it right now.

As it happens, with demographic trends, the country needs roughly 1.8m apartments built over the next six decades. That's 22,000 per year, or over 420 every week until the 2080s. This is simply not going to happen at four or five storeys, so at some point the rules will have to change.

Not only that, but given that so little is on the plans right now, there has probably never been a worse time to use the "don't build tall because it'll set things back" argument. On top of that, developers are already factoring in a change in the rules and putting stronger foundations than their six-storey buildings need, so that once the rules change, they can add an extra two or three storeys.

The point of building twice as tall is not that those extra units are, themselves, cheaper. In fact, with the views, they are likely to command a premium. The point of building twice as tall is that, with twice as many new homes built, the downward effect on prices and rents will be twice as large.

Don't ban holidays to Oz and don't ban building tall.

  • Ronan Lyons is assistant professor of economics at Trinity College and author of the Reports

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