Nothing but Palaces 7

Making more money selling to poor people vs rich people.

Would you rather sell Toyotas, or Rolls-Royces?  We all know which one we'd rather own - but which would you prefer to sell?

On the face of it, that answer seems equally obvious - Rollses, of course!  Not only do you get to hang it with the sort of exalted luminaries who buy them, the commission on a quarter-million-dollar car must be correspondingly monumental.

A moment's though gives a different picture: A good Toyota salesman can fairly likely sell a car just about every day.  How many Rollses can even the best salesman dispose of in the course of a year?  A half-dozen, maybe?

We see the reason on the roads around us: unless you live in the back country, there are probably hundreds if not thousands of Toyotas within walking distance of you at this very moment.  How many Rollses do you suppose there are?  Any?

In short: one Rolls-Royce is worth a fortune.  But there are so many, many times more Toyotas that the total business of Toyota is immeasurably vaster.  Thus, being in the business of making and selling Toyotas will be far more profitable numerically simply by virtue of the volume - and that's even though Toyota profit margins are probably considerably smaller percentage-wise than Rolls.

Which brings us back around to the question we've been considering all these weeks: There are a lot more poor people than rich ones, yet everybody wants a place to live.  There's plenty of room in these United States - we aren't all crammed into Hong Kong, or even Manhattan.

Why, then, do we not see cheap homes for the masses rolled out by the hundreds of thousands, as in the 1950s?  Yes, each individual home wouldn't make a fortune for the builders, but in volume the profits should be much more than for mansion-builders.

But there are a few flaws in comparing car sales to house sales.  Once you're set up to build cars, how long does it take to crank one out, ship it, and sell it?  A few weeks or months maybe?  With houses, thanks to government red tape, years is more likely.  And sometimes forever, if the regulations change so as to make your plot of land - that you paid for, and have been paying taxes and interest on - unbuildable as happened to numerous friends of ours.

In the car world, that would be as if you had to build your cars, then put them in a warehouse for 5 years before you could sell them.  Oh, and, the safety and fuel regulations might change in the meanwhile, so you'd have to pay more to bring your cars up to current standard.  And you'd better hope the Green New Deal doesn't get passed outlawing the gas-fueled cars you invested all that money to construct.

Now would you rather sell Rolls-Royces or Toyotas?  There are a lot fewer potential Rolls customers, but it's highly likely they'll still be in the market for one five years from now.  And if regulations have changed so you have to invest another $20k in upgrades, well, that's no big deal on a quarter-million-dollar car.  It's a huge deal on a car that only cost $20k in the first place.

And yes, American governments are doing exactly that.

Solar panels will be a required feature on new houses in California, after the state's Building Standards Commission gave final approval to a housing rule that's the first of its kind in the United States.

Now, there are exemptions: for instance, houses that are usually in the shade don't have to have the expensive panels.  Whose houses are more generally surrounded by beautiful mature trees - rich folks?  Or poor folks?

The article goes on to claim that this requirement should add "only" $10k to the cost of a house.  Again, if your house is a million-dollar mansion, that's nothing.  If you were hoping for a $100k starter home, though, it's a huge hit:

"It's a very different perspective depending on if you're looking for affordable homes, or pricier homes," Hale told CNBC. "It's already difficult for builders to build, and I think this is just going to exacerbate that problem."

In our previous article in this series, we talked about a development that's been stuck in planning and permit hell for a full 25 years.  All that time, the developer has owned the land and been paying taxes and interest on it.  Now, he has yet another $10k cost for each house larded on top.  If he ever does get permission to build on his own land, what do you think he's going to build - cheap homes that, thanks to the mandates, poorer folks probably can't afford?  Or big mansions that he'll know for sure he'll be able to sell, and finally escape the trap he's been in all this time?

We could go on about mandates, but there are many other factors that make selling to the wealthy far less risky.  For one thing, rich people have a much easier time financing real estate purchases - obviously, because they're rich.  They also are much less affected by economic downturns, and when it takes years to bring a development project to the point where the houses can be sold, who knows what the economy will be like?

All of that risk is carried by the developer.  All of that risk must be priced into the final cost of the house - and if there is so much risk that its cost is huge, obviously the house has to be expensive.  So, since the developer needs to sell the house, if it has to be expensive anyway, he's naturally going to build a house that rich people will want to buy - that is, a big fancy one.

And that's why we see, as the title says, "nothing but palaces" - because our government has created a regulatory, construction, and economic environment such that only a fool would attempt to build anything else.  As a wag once said, "If you give me perverse incentives, don't be surprised if I act perversely."

The truly perverse thing, though, isn't that nobody's building cheap houses.  That's perfectly understandable.

The really perverse thing is, why do Americans, and particularly Californians, keep voting for politicians who distort markets and destroy freedom so egregiously?  We'll delve into that, in the next article in this series.

Petrarch is a contributing editor for Scragged.  Read other articles by Petrarch or other articles on Economics.
Reader Comments

You should do an article on how hostile the landlord/tenant laws are to landlords.
Where I had the property was an area without much available for rent, and now they have one less place, and it is no wonder because the laws enacted to protect tenants have gone too far and now penalize landlords, and are enforced by the local judiciary in an arbitrary and capricious way.

October 3, 2019 11:01 AM

Don't forget Murphy's Law while you cogitate on how to fix our regulatory glutted economic system. Our economy is built on the value of printed paper, on a reputation that is fast disappearing into the sunset. And on hot air destined to move on to the next great empire.

October 3, 2019 12:54 PM

What happened to article #6?

October 9, 2019 3:08 PM

Good eye! Fixed now.

October 9, 2019 3:34 PM

The Economist must read Scragged. Consider this article

The horrible housing blunder
The West’s biggest economic policy mistake
Its obsession with home ownership undermines growth, fairness and public faith in capitalism

Economies can suffer both sudden crashes and chronic diseases. Housing markets in the rich world have caused both types of problem. A trillion dollars of dud mortgages blew up the financial system in 2007-08. But just as pernicious is the creeping dysfunction that housing has created over decades: vibrant cities without space to grow; ageing homeowners sitting in half-empty homes who are keen to protect their view; and a generation of young people who cannot easily afford to rent or buy and think capitalism has let them down. As our special report this week explains, much of the blame lies with warped housing policies that date back to the second world war and which are intertwined with an infatuation with home ownership. They have caused one of the rich world’s most serious and longest-running economic failures. A fresh architecture is urgently needed.

At the root of that failure is a lack of building, especially near the thriving cities in which jobs are plentiful. From Sydney to Sydenham, fiddly regulations protect an elite of existing homeowners and prevent developers from building the skyscrapers and flats that the modern economy demands. The resulting high rents and house prices make it hard for workers to move to where the most productive jobs are, and have slowed growth. Overall housing costs in America absorb 11% of gdp, up from 8% in the 1970s. If just three big cities—New York, San Francisco and San Jose—relaxed planning rules, America’s gdp could be 4% higher. That is an enormous prize.

As well as being merely inefficient, housing markets are deeply unfair. Over a period of decades, falling interest rates have compounded inadequate supply and led to a surge in prices. In America the frenzy is concentrated in thriving cities; in other rich countries average national prices have soared, especially in English-speaking countries where punting on property is a national sport. The financial crisis did not kill off the trend. In Britain inflation-adjusted house prices are roughly equal to their pre-crisis peak, while real wages are no higher. In Australia, despite recent falls, prices remain 20% higher than in 2008. In Canada they are up by half.

The soaring cost of housing has created gaping inequalities and inflamed both generational and geographical divides. In 1990 a generation of baby-boomers, with a median age of 35, owned a third of America’s real estate by value. In 2019 a similarly sized cohort of millennials, aged 31, owned just 4%. Young people’s view that housing is out of reach—unless you have rich parents—helps explain their drift towards “millennial socialism”. And homeowners of all ages who are trapped in declining places resent the windfall housing gains enjoyed in and around successful cities. In Britain areas with stagnant housing markets were more likely to vote for Brexit in 2016, even after accounting for differences in income and demography.

You might think fear and envy about housing is part of the human condition. In fact, the property pathology has its roots in a shift in public policy in the 1950s towards promoting home ownership. Since then governments have used subsidies, tax breaks and sales of public housing to encourage owner-occupation over renting. Politicians on the right have seen home ownership as a way to win votes by encouraging responsible citizenship. Those on the left see housing as a conduit for redistribution and for nudging poorer households to build wealth.


January 16, 2020 1:49 PM

Seems like the Economist wants us to come full circle. They think that everything bad started in the 1950’s but seem to leave out some ( relevant in the US ) facts. Yes folks moved to the suburbs . But at the same time efficient and affordable high rises were going up in the big cities. I grew up in Chicago land and the trophy development was called Cabrini Green. . It housed a lot of folks cheaply. Many of them preyed on their neighbors , who moved out. All that was left were the predators. Cabrini was razed about a decade later. I understand that pattern repeated itself in many other metro areas. Given that the Economist is British, maybe that sort of thing doesn’t happen in London, but it did here.
My sense is that the “ answer” may be work at home tele-commuters. I lived in Arizona where many folks from the CA tech world we’re settling in much lower cost quality housing. They escaped the taxes and living costs of CA. This may be the best way to break up the housing cartel versus recreating “ high rise hell”.

January 16, 2020 6:06 PM
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