Sunday, 5 January 2014

Why house prices in California and New York are so high.

There is a school of thought that this is largely down to planning restrictions around the most densely populated and/or desirable parts of California and New York, which in turn are the first and third most populous/popular states.

How much evidence is there for this (and how indeed do you measure the restrictiveness of planning and zoning laws?)..?

Let's download the stats from here and get crunching!

1. House prices vs earnings

As we see, there is a good correlation between average local earnings and house prices for the 714 counties (excl California and New York) for which we have data. The coefficient of correlation is 0.80, if you factor in the property taxes, the coefficient is even higher at 0.84.

A lot of California (red dots) and some parts of New York (green dots) are well above the trend line; most parts of New York are in the middle of the pack. The green dot in the top right corner is Manhattan 'island', of course.

2. House price-to earnings ratios vs earnings

Their evidence to show that housing is particularly expensive in those two states is that house prices are a high multiple of local average earnings, so let's do another chart:
As we see, the ratio of house prices-to-earnings is not a constant. In low wage areas ($40,000) the ratio is only 2.5; in high wage areas ($120,000) the ratio is 4.8, but the coefficient of correlation is quite low, only 0.46.

That's because this is a false comparison. You get a much more sensible figure if you use the first chart and compare house prices with the excess of earnings above the basic minimum household expenditure of (say) $20,000 - the trend line is now house price = [earnings - $20,000] x 4.2.

3. The coastal effect - California

We know that in the UK, there is a large premium attached to areas with a sea view. It's also nice being within driving distance of the coast, and because of the size and shape of Great Britain and Northern Ireland, three-quarters of it is within 25 miles of the nearest bit of coast or estuary and just about all of it is within 50 miles thereof.

Not so for the 48 main states! Only a per cent or two of the area is within 25 miles or even 50 miles of the coast. So we would expect the premium for being near a beach or even near the coast to be higher.

We can easily split Californian counties into 16 "coastal" counties and 24 "inland" counties and compare the two:

And we observe that having controlled for earnings, people are prepared to pay about $100,000 more to be nearer the sea, i.e. they are prepared to pay an extra $6,000 a year to for the benefit of coastal walks, surfing, sailing, fishing, sun bathing etc. If somebody inland spends an extra $6,000 a year on his inland hobbies, or extra gasoline for getting to the coast, then we would not count that as housing costs, would we? So I'm not sure that the extra $100,000 along the coast truly counts as housing costs either

4. The coastal effect - New York

New York state is triangular and has hardly any coastline whatsoever, just a few miles of beach, river and estuary at the southern tip (around Manhattan).

So I separated out the eight counties at the southern tip and contrasted them with the other 30 counties:

As we see here, the premium for a home in those areas is $150,000 to $200,000, much higher than in California because of the additional scarcity - less than a fifth of New York counties are 'coastal' as against over a third in California. And New York City is a huge economic and cultural draw as well, of course.

5. Strip out the coastal effect, and prices in California and New York are no different to anywhere else

Finally, I reworked the first chart comparing the rest of the USA with inland counties in California and New York, as we can see, there are only half a dozen outliers and the rest of them are slap bang in the middle of the pack:


DBC Reed said...

Pretty convincing.Somebody should do some number crunching on high property tax Texas.

Mark Wadsworth said...

DBC, that's the strange thing.

I'm delighted that the BBC launched this myth, but even though property taxes vary widely in the US (between 0.1% and 10% of average incomes), this only has a marginal impact on house prices - probably because this is compensated for by lower payroll and sales taxes, so it cancels itself out.

The main factors are local average earnings and the coastal premium, which apply in Texas as in anywhere (their 'coastal premium' is zilch because it's not a very nice coast).

Or… if you believe the New Classical Economists, it's largely down to planning restrictions, although they have no evidence apart from circular logic to support this ("If prices are high that means that demand is not being met; the only reason for demand not being met must be restrictive planning; therefore high prices must be the result of restrictive planning").

The Stigler said...

Top analysis there.

So, Lex, when do we launch our plan to make Wiltshire coastal?

Dinero said...

Talking of circular logic a skeptic would claim ( "of course high earners live in expensive areas - who else can afford it.")

The combination of the two graphs , the second being the graph of price to earnings Vs earnings is very illustrative of earnings effect on prices.

Mark Wadsworth said...

TS, D, thanks for back up.

Sad thing is, I emailed him this and a previous link and he flatly refuses to even contemplate this as being an explanation.

He prefers circular logic. He seems to say that high prices cause higher earnings etc.

DBC Reed said...

@MW Are you sure Rick Perry's "Texas Miracle" is all a myth got up by the BBC? The Washington Post's "Breaking down Rick Perry's Texas Miracle" (on Net)does attribute some of Texas's growth to lower house prices consequent on high property taxes.
Would have thought Perry was behind the myth-making ,if myth it is.Googling Rick Perry Texas Miracle racks up a lot of responses showing plenty of local political PR in play.

Mark Wadsworth said...

DBC, Texas is a low tax state (as are all states which rely on land or property taxes, they are in-your-face taxes), it has no state income or sales taxes, in absolute $ terms, their property taxes are not that high either. And it has oil and liberal planning laws.

Houses are cheaper than these economic factors would dictate - Texas house prices are the lowest multiple of incomes at all income levels.

I suspect that's because the landsape is very dull and Texas is basically in the middle of nowhere.

But whatever the reason for low house prices, it is indisputable that Texas is a relative success story.

Bayard said...

"He prefers circular logic."

Presumably because it gives him the answer he's looking for.

DBC Reed said...

@MW In abslute dollar terms Texan property taxes may not be that high but as a percentage of median house prices Texas is the third highest state in the Union at 1.81%: the lowest Louisiana is 0.18%.
Perry is a Republican and an all_American political dope (see his hapless run for President last time out) but I can't see why we land taxers don't use his campaign points to squish British right wing buffoons who insist low property taxes are the key to prosperity.

Mark Wadsworth said...

B, yes, he had the temerity to send me a link to an article which he said explained what I observed properly, only that article says much the same as what I have been saying for ages and supports my case. Maybe he didn't read it himself?

DBC, yes their tax as a % age is high, but that is because the $ tax amount is pretty much in the middle of the pack and $ house prices are low.

So the Faux Libs will say that Texas' success is purely down to low income and sales taxes, in which they would be half correct, and they will just ignore the bit about property taxes.

The point is that there are other states and counties with incredibly high property taxes and people seem to pay them happily enough and nothing terrible happens (in fact, good things happen).

Kj said...

MW: who is "he", Allister Heath?

Maybe the thing about Texas is that it´s remarkably successful because of all the other factors *and* that it´s not desirable enough to command higher house prices/rents than anywhere else. A very large industrial estate of sorts where disposable incomes as the difference between income/rents are high.

Mark Wadsworth said...

Kj, Heath certainly does not reply to my emails any more, it is not him.

Whoever I'm talking about did at least respond to my emails, so far enough, he is entitled to anonymity.

Kj said...

Fair enough, I thought it was someone you were supposed to have mentioned or I had failed to pick up who/what this was in reference to.

George Carty said...

I wonder how much low property prices in heartland America are down to the dominance of wooden (rather than masonry) construction there? And how much are Texan house prices lowered by the use of cheap illegal immigrant labour for construction?