To follow is an excerpt of a radio show interview conducted by Peter L. Mosca, host of Income Property Investment Talk with the Cato Institute's Senior Fellow Randal O'Toole who discusses a new study that examines how restrictive government policies choked off growth, encouraged localized housing bubbles, and triggered the current financial crisis.
Mosca: In the executive summary of your policy analysis, "How Urban Planners Caused the Housing Bubble," you wrote, "Everyone agrees that the recent financial crisis started with the deflation of the housing bubble" but let's get into what caused the bubble and why is it so important to understand its root causes. How will this help us in the future to know the causes that relate to fixing the credit crisis?
O'Toole: A lot of people blame the Federal Reserve Bank for keeping interest rates low and the Community Reinvestment Act for encouraging lenders to offer loans to marginal homebuyers. If you look at the data for individual states and metropolitan areas, you find there was a big housing bubble in California and Florida but there were no housing bubbles in places like Texas and Georgia even though Texas and Georgia were growing faster than California and Florida. So, why did California and Florida have a bubble and Texas and Georgia not? If you look at it in more detail you find only about a dozen states had big housing bubbles, a few more states had smaller bubbles, but the vast majority of states did not have any bubbles at all. It turns out that the states with housing bubbles were all practicing some form of what urban planners call 'growth management.' Urban planners for decades have believed that it was important for people to be packed into small urban areas. These urban growth boundaries ended up boosting the price of land inside the city and making housing more expensive. There was another consequence. Normally, there is a competition between cities and between cities and counties over how to attract development. Cities and counties want to get tax paying development so they compete with one another and then try to make it easy for developers to get permits to develop vacant land. Once an urban growth boundary has been drawn that competition is heavily restricted and nobody can develop outside the boundary so then cities begin to say as long as people can't go anywhere else, we might as well impose all kinds of restrictions and they develop an honourous permitting process that can take years to get a permit to put in a small subdivision. In a lot of cases they can make it impossible. They can make it so that there is a very high risk that you will never get a permit.
Mosca: Is there an example of this in our country?
O'Toole: One example of this is in Dallas, where it costs about $10,000 per home to get a permit to build but in San Jose, it costs $100,000 when you count the risk that you'll apply for a permit and after 5 years you'll never get one. The point is that these kinds of restrictions make housing more expensive. They not only make housing more expensive, they make housing prices more volitile. A small increase in demand can lead to a large increase in cost but a small decrease in demand can lead to a large drop. Instead of seeing housing prices grow slowly, we see these big bubbles and bursting of the bubbles and collapses and bubbles and collapses over and over again. We've already seen three major bubbles in California since these rules started being implemented in the 1970s.
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