By Jeff Boone
Previously I wrote that technology and government are the co-conspirators in a giant spiral downward where our children and future generations will fail to achieve the good American life experienced by previous generations.
As expected, some posters responded with a social justice perspective: that we are better off today with respect to our history of racism and other group discrimination. Unfortunately, some of those “things are better” arguments included the posters’ own racial and gender bias against while males. Ignoring the irony there, I think most of us would agree that great gains have been made in civil rights progress. In addition, we have made great gains in improving the environment. But the point of my article was economic. We are experiencing a great economic decline where our children and future generations will have fewer opportunities to achieve the good American economic life.
And one reason is the escalating cost of housing; specifically residential rents.
The demand to raise the local minimum wage to $15 per hour is largely related to the significant growth in housing costs (our largest expense after taxes). However, by raising the minimum wage to a sustainable wage in consideration of housing cost inflation, we will cause a ripple effect that leads to an even greater decrease in the value of labor. With higher local human labor cost (lower labor value), the alternatives become more economically feasible. Those alternatives include machines and software, and outsourcing. Also, along with higher business taxation and regulatory costs, higher labor costs directly impact new business starts and business growth plans by causing them to no longer pencil out. So by increasing the minimum wage we lose jobs to machines, to outsourcing and to a lack of business growth. And we end up with fewer people working, and fewer opportunities for people to earn a good American life.
One of the key problems/opportunities I see is the hyper-inflationary cost of housing relative to wages. The great divergence in in both started in the late 1990s as the real estate market heated up in response to government actions to increase real estate lending. While real house prices rose by only 3.7 percent between 1985 and 1995, they increased by 46 percent between 1995 and 2005.
Meanwhile, the recession that followed the Clinton years’ tech stock bubble began the stagnation of wages that never recovered and would plummet beginning with the Great Recession of 2008.
Because housing has bubbled, and is again bubbling, the ensuing cost of living increase relative to the drop in wages is putting pressure on politicians to raise the minimum wage. But as pointed out in my previous article, raising the cost of labor damages the job market by reducing the value of labor and consequently incentivizing companies to turn to job-killing labor alternatives, and capital to seek returns from investments other than those that produce jobs. A higher minimum wage (or any minimum wage for that matter) reduces access to those entry-level jobs needed by people to start advancing a career and growing their prosperity to attain the Great American Life.
So what if we could somehow reduce the cost of housing to allow people earning minimum wage to be able to afford a reasonable lifestyle? We would maintain the value of human labor and at least retain more existing jobs.
There are multiple ways to tackle the housing problem. But from my perspective, the best way is to simply build more housing. The laws of supply and demand are the only absolute laws in economics. We should be building more commercial property for business and economic growth, along with a supply of housing to support the employees that would work there.
And in addition to building more housing, rental housing should be subsidized as needed to reach equilibrium with respect to wages, in consideration of the landlord agreeing to rent controls. Yes, I said it… I support subsidized rents and rent control in some cases. Because shelter is a human necessity, and there is a high level of price inelasticity within a given real estate market, as a society we need some price intervention to insure economic equilibrium between wages and rents. In most areas of the country this equilibrium should be attained by simply building enough housing to meet the demand. However, in some areas we should support rent controls.
So what is equilibrium?
To answer that question, first I need to mention that I do not believe that a minimum wage should be expected to sustain a person long term, and should never be expected to sustain a family. A minimum wage is a beginning wage. It is mostly intended for young people beginning their careers. A young person making minimum wage should be either still living at home, or living with roommates sharing the cost of the rent… or otherwise having his/her livelihood subsidized to some degree. We need a greater supply of jobs that pay better than minimum wage because the jobs require more advanced skills. We need career steps for people and should not accept moribund economic growth and an oversupply of low-skilled labor. These are problems to be solved with education policy and immigration policy… and are a topic for another day.
My opinion is that the average cost of a single bedroom apartment should be no greater than 50% of the gross income for full-time worker making minimum wage. Or in the absence of a minimum wage, a wage equal to the average for the bottom 5% of all wage-earners within the local real estate market.
Assuming a $10 per hour minimum wage, or average bottom 5% wage, this would mean the average rent for a single bedroom apartment should not exceed $867 per month.
When compared to a mortgage, as a general rule, your monthly mortgage payment, including principal, interest, real estate taxes and homeowners insurance, should not exceed 28 percent of your gross monthly income. And your total debt should not exceed 36% of your income. If we assume that a low income renter has little or no debt, we can use the 36% standard to establish a benchmark for the full-time wage rate required to afford the one-bedroom apartment rent. Assuming this, a person would need a full-time hourly wage of at least $13.89 to be able to afford the $867 per month one-bedroom apartment.
Per the 2013 UC Davis housing report, the average 1 bedroom unit rental cost is $1,005 per month. The 50% minimum wage, or bottom 5% average wage, would be $11.60 per hour and the rent-affordable wage would be $16.11 per hour.
Now I fully expect some people to just argue that we increase the minimum wage to $16.11 per hour so that minimum wage is a rent-affordable wage. But if you think about this, increasing the minimum wage to match rents will reward real estate investors at the expense of investment in job-producing business growth. It would incentivize capital to flow toward real estate investments rather than job production investments. And by increasing the profitability of real estate investment we increases demand for real estate purchases by investors. The increase in demand causes increased real estate prices that lead to higher rents. Said another way, by increasing minimum wage to a sustainable wage we increase the need to perpetually increase minimum wage… and we perpetually decrease the number of jobs available. This is exactly what we have been doing. And then is it any wonder that rents keep skyrocketing and real unemployment keeps increasing?
We would be half mad to accept this trajectory. Apparently we have been half mad.
Note that my opinions on rents do not translate to home ownership. I still believe purchased residences should remain 100% free market and without government meddling. Home ownership is a complex, long-term, monetary and legal transaction that must be earned… both financially, and informational (there is a lot that a qualified borrower should know before committing to any financial obligation as long and as complex as a home mortgage). However, as explained previously, I believe renting is a separate concern. Renting should be a much cheaper and much simpler alternative to buying… and today it is not much cheaper (thankfully it is reasonable easier, and we need to keep it that way). With respect to the econometrics of renting and buying, we are significantly out of synch precisely because of all the government meddling in the housing and lending industries.
Home ownership is not a human need, and should never be an entitlement. However, clean and safe shelter is a basic human need. We should support public policy to help achieve maximum clean and safe rentals that are priced at wage equilibrium.
Some of my conservative friends, and others owning rental properties, will surely disagree that government should stick their nose into a landlord’s business. I will certainly agree that the residential property investment cat will not go easily back into the bag. Even if every landlord agreed to pull back rents to being in equilibrium with wages, the immediate change would be too disruptive to the economy. So we need public policy to deal with rents in the short and medium term.
And related to policy to deal with rents, I think we should demand a minimal rental vacancy rate for most communities. If private investors will not build apartments we need to maintain a reasonable vacancy rate, then we need to provide land use incentives similar to those provided for open space preservation.
I would support more government loan programs for multi-unit rental property development. Investors and developers can secure below market interest rates for projects that would lock them into perpetual rent control. Programs like this already exist, but should be expanded.
By lowering the cost of housing for students, for those starting their career, or those with lower skills that are unwilling or somehow unable to advance their careers, we lower the cost of living and the required sustainable wage. We then improve the value of human labor and encourage more companies to locate here and hire. More people working will improve the overall human condition and that will translate to leaving things better for future generations. After education, working is the first step to building career that allows a person to advance to higher levels of prosperity. It is the way to earn that American good life that so many people on the planet can only dream about.
What if we don’t do these things? What if we don’t turn government to the economy as a first priority? What if we don’t reform our education system to improve the quality of American labor? What if we don’t deal with hyperinflationary housing costs and we instead mandate higher beginning wage levels? If current trends continue we might expect a generation from now a quarter of middle-aged Americans will be out of work at any given moment, and more than half would have an out-of-work spell of more than a year at some point during their prime years. It will mean a lot of our children will reach their adult years having never experienced the good American life. It would mean a transformation from a nation of workers, to a nation of people not used to working and then owning all the social ills that derive from not working. This would be tragic and sad… and frankly, and it would be very selfish of us to not try harder to prevent it from happening.