10:33 AM, 19th October 2018, About 4 years ago 19
On Tuesday Generation Rent published a paper by its Director, Dan Wilson Craw. He proves – to his own satisfaction at least – that the Law of Supply and Demand does not apply to the UK’s private rented sector. The paper is called “Do measures that discourage buy-to-let investment increase rents?” Click here
He claims they don’t. He reckons that if a landlord increases the rent by less than inflation it’s not a real increase, even though it looks real to the tenant and the landlord. They can see it’s increased, but he pretends it hasn’t.
There are so many holes in the paper that it reminded me of the “report” by David Kingman, the man who takes credit for Section 24. Click here
In his Summary Craw wrote “In this paper we will demonstrate why there is no reason to believe measures that cause the private rented sector to shrink will push rents higher. Since the market for new lets is competitive, landlords affected by the tax changes have no pricing power to pass on costs to tenants.” [I will call this Craw’s First Law of Renting Dynamics]
“Meanwhile landlords seeking to exit the sector have to sell – either directly or indirectly via a chain of home movers – to another landlord or a first-time buyer. In the former case the size of the private rented sector remains unchanged. In the latter, the reduction in the supply of rented houses is matched by a corresponding fall in the demand for private rentals. The balance of supply and demand in the rented sector, and hence rent, therefore remains unchanged.” [Craw’s Second Law of Renting Dynamics]
“The available empirical evidence also offers no support for the idea that fewer landlords will mean higher rents. We have seen two moments in the past decade when external events have acted to change either the demand for, or supply of, rented housing. First, in 2008, mortgage lenders withdrew high loan-to-value mortgages as a result of the credit crunch, increasing demand for private rented properties as deposit requirements jumped and first-time-buyer numbers collapsed. Then, in 2016, the government started introducing tax changes for landlords designed to reduce the supply of private rented properties.”
“Theory [i.e. Craw’s Laws] would not suggest any particular shift in level of rent as a result of these specific developments (although other associated events such as the recession in 2008-09 would be expected to have an effect). However, by the property industry’s line of reasoning we should expect to see rents jump in each case as the supply and demand of rented properties was pushed out of balance.”
“In both instances however, rent levels did not behave in this way. Despite increased demand after 2008, inflation-adjusted rent fell by 6.7% in the three years to January 2011. A drop in loans for landlord purchases after the 2016 tax change was associated with a slight shrinking of the private rented sector, but since that point rents have again been falling in real terms. Comparing trends in rent and household income levels, similarly, offers no support for this line of reasoning.”
“Consequently, while they would raise home ownership rates, there is no theoretical or empirical backing for the claim that measures that reduce the supply of private rented properties will push up rents. (His emphasis) The size of the private rented sector should not therefore distract the government as it designs a fairer system of private tenancies.”
No backing that is, except basic Economics and historical facts.
Flaws in Craw’s Laws
Both of his laws are fundamentally flawed. I will takes them in reverse order
Craw’s Second Law
He assumes that all FTBs are existing renters so that the number of renters goes down by one household, and the supply goes down by one unit. He spells it out on page 4:
“As landlords exit the market they therefore cause a reduction in the supply of private rentals that is matched by a corresponding fall in the demand for private rentals. The balance of supply and demand in the rented sector, and hence rent, therefore remains unchanged (Figure 1).” (Figure 1 is a full page depiction of a house moving from the PRS to the OO sector for simpletons who cannot grasp this concept unaided.)
There are a couple of problems with this Law. The first one is that FTBs are not always renters. The English Housing Survey showed that in 2015/16 the proportion of first time buyers who lived in the private rented sector before buying their first home was 66%. Click here
Therefore, if a landlord sells, there is only a 2 in 3 chance that the FTB in the chain is a renter. This means that, contrary to his belief, the supply of private rentals is not matched by a corresponding fall in demand.
The second thing wrong is that even if the FTB was a renter, the number of displaced tenants from the sold rental accommodation may exceed the number of renters who become FTBs somewhere in the chain. There was a 1 in 4 chance that the FTB in the chain was single “In 2015-16, three quarters (74%) of first time buyers were couple households” (EHS survey, above). A single FTB might buy a studio or a one-bedroom flat at the end of the chain, but the sold rental property might have had separate bedrooms for two or more sharers.
For example, this year I sold a 4-bedroom HMO to an individual. The buyer was not a renter, she had just got divorced so the effect on the supply of rented accommodation units was minus 4, but the number of renters stayed the same. The purchase of another property by her ex-husband could have had a similar effect. The one or two FTBs in the chain for the sale of the matrimonial home may have been renting, but not necessarily.
It is hard to imagine the converse – that the number of FTBs buying at the cheap end of a chain will ever exceed the number of tenants displaced by a landlord selling.
All of the foregoing demonstrates that Craw’s Second Law is a false premise. The reduction in the number of tenants will be less than the reduction in rental units, so rents will go up.
Craw’s First Law
Craw elaborates on this on page 4:
“What about the argument that landlords will be able to pass on the cost of fiscal measures to their tenants? This is highly unlikely. In a competitive market, the economic incidence of the tax measures will tend to fall on the landlords since those that try to raise their rent will find themselves undercut by other landlords unaffected by the measures (His emphasis). The government estimates that one in five landlords are affected by the mortgage interest relief changes, while an even smaller proportion will have paid the stamp duty surcharge. Similarly, the burden of not being able to evict tenants without grounds will fall on the minority of landlords for whom retaliatory eviction and churn is part of their business model. If they raise rents to compensate, they will be undercut by the majority, who value long-term tenants and would be unaffected by higher minimum standards. Looked at another way, if those landlords had the pricing power to charge higher rents, it’s unclear why they wouldn’t have exercised that power before the tax measures took effect. Consequently there is no strong theoretical reason to anticipate either that landlords will be able to pass on their higher costs to tenants or that an exodus of landlords, due either to tax or regulatory measures, will raise rents.”
Flaws in this analysis
Craw doesn’t understand the lettings business. He doesn’t realise that some landlords deliberately set rents below the market rate, or that landlords do not increase the rent for good tenants for years, because they do not want to lose them. He believes that all landlords “charge as much as they can get away with”, as if they were stealing something. He said so on the Eddie Nestor programme in November 2016, and he wrote it this week in CityMetric. Click here
However, landlords have now been forced to increase rents, because they have to pay a levy on mortgage interest. Tenants who are on housing benefit are being made homeless because they cannot afford to pay the levy, and are being replaced by people who can. Has Generation Rent not noticed or is it just of no interest to them?
Craw continues with the following question:
What happened to rents in the wake of past shocks to the PRS?
“The Office for National Statistics publishes a monthly Index of Private Housing Rental Prices (IPHRP) dating back to 2005/6. This looks at all private sector tenancies, as opposed just to new tenancies, and draws data from the Valuation Office Agency which is then adjusted to make sure it is not influenced by changes in the composition of the private rented sector.
“We have used the figures for Great Britain and adjusted these for inflation to understand the evolution of rent levels in relation to overall consumer prices.” [This is a spurious reason. The question is did rents increase, not did the increase beat inflation].
“Between 2005 and 2018, there were two ‘shocks’ to the market that affected the size of the private rented sector – one to the demand for rented housing and the other to the supply of it.”
“First, in 2008, the financial crisis prompted mortgage lenders to withdraw high loan-to-value mortgages from the market. In a matter of weeks, first-time buyers with 5% or 10% deposits were unable to get a mortgage. The number of first-time buyers halved from 402,800 in 2006 to 192,300 in 2008, and the median deposit of remaining first-time buyers jumped from 10% to almost 25%. The financial crisis therefore caused hundreds of thousands of households, who would otherwise have bought their first homes, to become ‘stuck’ in the private rented sector, while new entrants to the sector continued to start their first tenancies. Between Q2 2005 and Q2 2007, the private rented sector had grown by 186,000 households per year, but between Q2 2007 and Q2 2010, that rate jumped to 321,000 per year. Did this positive demand shock to the private rented sector cause rents to rise? In fact, the opposite happened, and in the three years from January 2008 rents fell by 6.7% in real terms.”
Flaws in this analysis
Firstly, it is sophist trickery to reduce rents for inflation. If a landlord charges a higher amount than before, the rent has increased, full stop. The way to find out how much rents have gone up or down is to compare the actual amounts paid, not fiddle them. He does not produce any figures, and if you follow his link you will not arrive at any. However, the government publishes statistics about the changes in rents: Click here
At the end of section 5 you can download a spreadsheet relating to England. This shows that average rents fell from December 2009 to October 2010, everywhere from the Midlands south, but not in the North (except for tiny falls over three summer months in the North-East). However, the increases in the other two years are much greater, so overall rents did not go down over those three years, they went up.
Secondly he does not even consider what happened to supply. Where does he think these extra 963,000 slept? In fact, the number of PRS dwellings in Great Britain increased by 822,000 (23%) between April 2007 and March 2010, from 3.563m to 4.385m. These figures come from Table 102, which can be downloaded: Click here
So the number of households went up by more than the increase in the number of dwellings and rents went up. This confirms that the PRS is subject to the Law of Supply and Demand, contrary to Craw’s claim.
Second (alleged) shock
“The second recent ‘shock’ to the size of private rented sector was the proactive policy of the Conservative government to re-balance the tax treatment of landlords. First, in the Budget of July 2015, Chancellor George Osborne announced that landlords’ ability to offset mortgage interest against higher rate income tax would be phased out between 2017 and 2020. Landlords would also no longer be able to claim a 10% wear and tear allowance; instead they would only be allowed to claim for repairs actually carried out.
“Then, in November 2015, Osborne announced a 3% stamp duty surcharge on properties bought in addition to one’s primary residence. This came into effect in April 2016.
“From its peak of 4.37m in Q2 2016, just at the point where the first measures began to take effect, the size of the private rented sector subsequently fell by 125,000 by Q2 2018 – a clear negative shock to the supply of private rented accommodation. But what happened to rents?
“The ONS private rent index shows us that from April 2014 until February 2016 rents grew by 4.6%, adjusted for inflation, despite the buy-to-let rush ahead of the new stamp duty levy, raising the supply of rented properties in the short term.
“However, once the stamp duty surcharge was in place and the private rented sector began to shrink, real rents actually stopped rising, and broadly flatlined until January 2017. At this point, three months before restrictions on mortgage interest relief began to be phased in, real rents started falling again. As of August 2018, they have fallen by 3.2% in real terms.
“At every point real rents have done the opposite of what the property industry analysis would have predicted, bearing out the theoretical expectation that a negative shock to the size of the PRS should not be expected to increase rents.”(His emphasis, and his theoretical expectation)
Flaws in this analysis
Firstly, the figure for the PRS is wrong. The number of PRS dwellings in England alone at the end of March 2016, was nearly half a million higher than that, at 4.832m. See the historical figures on page 4 Click here
The corresponding figure for Great Britain was 5.448m, per Table 102, which can be downloaded: Click here
I don’t know where the reduction in the PRS of 125,000 comes from; 2018 is not included in either of the above tables yet.
Secondly, the 3% surcharge deterred landlords from buying, so not many will have paid it. In any case, they would not try to add it to the rent because by definition there was no existing rent figure, unless they bought with a sitting tenant.
The Wear and Tear allowance only applied to furnished properties. Landlords who claimed it could not deduct the cost of replacing the contents of a property – now they can.
These are the only changes that came into effect in April 2016. It is a great exaggeration to describe them as shocks to the status quo.
Thirdly, he says (from April 2016) real rents actually stopped rising, and broadly flatlined until January 2017. By real rents he means fiddled for inflation, sophist trickery again. Craw gave the game away in an article he wrote for CityMetric: “In cash terms they are still rising in most parts of the country, but at a slower rate than before the tax changes. In London they’ve been falling.” Click here
In fact, rents continued to rise from November 2010 to September 2018, except for tiny falls in London since May, according to the table referred to above.
Fourthly, he fails to mention that after the Brexit decision in June 2016 demand dropped because EU citizens started to leave the UK.
From this flawed analysis he draws a false conclusion. Experts warned that Osborne’s tax attacks would drive up rents, and that abolition of S 21 would drive out landlords and drive up rents. He claims (falsely) that the first prediction did not materialise therefore the second one won’t!
“The lesson in all this is that the government should press on with legislation to raise standards within the rental market, particularly ending Section 21 of the 1988 Housing Act to provide greater security of tenure.”
Craw wants to introduce lifetime tenancies again, which made the PRS shrink in the last century. More than 80% of landlords own only one or two properties. If they had no way of recovering them they would not rent them out in the first place, and the supply would shrink once again. There would be less choice for tenants and rents would be higher.
Craw asserts that landlords will not flee the market, and will just allow the value of their properties to be halved because of sitting tenants, but he wants measures to stop them fleeing!
“Any efforts to boost home ownership must be matched by reforms that protect tenants whose landlord wants to sell. We need to put an end to landlords evicting without a reason and cushion the blow for tenants who are forced to move through no fault of their own – requiring landlords to compensate tenants would achieve this while encouraging sales with sitting tenants,” he said.
He ends with “For policymakers this has important implications. Regulation such as greater security of tenure is designed to improve tenants’ lives by giving them much-needed stability, and the confidence to exercise their rights to fair treatment and safe accommodation. Such measures may well result in more landlords deciding to leave the market, causing the private rented sector to shrink and home ownership to rise. But there is no reason to think that in doing so they will make tenants financially worse off.” (His emphasis)
No reason except that logic and wisdom indicate that they will indeed be worse off – due to the Law of Supply and Demand.
This flawed paper will not deceive seasoned policymakers, but unscrupulous people may use it in propaganda. If they do, we must rebut it.
However, Craw’s paper will lull his followers in Generation Rent into a false sense of security about the consequences of their campaigns. It is they who are being hoodwinked.
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