Fraser Forum

How the Wynne government killed the economics of building new rental units

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In an attempt to promote the construction of rental properties, Ontario’s Wynne government has announced it will fund 13 Ontario municipalities to rebate local fees for rental housing builders. Queen’s Park hopes that, by giving $125 million in rebates over five years, they may tip the economics of homebuilding in favour of expanding the rental supply.

This could work, but while the government gives with one hand, it’s taking with the other.

The rental supply does indeed need a major boost—vacancy rates in the Greater Toronto Area (GTA) are hovering at around one per cent, the lowest they’ve been in more than a decadeand this program could have a modest positive impact. After all, the fees homebuilders pay local governments for permission to build can add up to hundreds of thousands of dollars per housing unit in the GTA, curbing developer incentives to build new units.

However, the effect of rebating some development fees likely won’t be enough to offset the effects of a major new disincentive to rental construction, introduced by the same government—tighter rent control.

Last spring, the Wynne government announced its “Fair Housing Plan,” which, among other policies, expands rent control to all tenants in private rental buildings. In short, this policy limits rent increases to 1.5 per cent annually, following the simple logic that if rents are too high, government can simply cap increases. As appealing as this may sound, it ignores the overwhelming evidence that rent control is a damaging policy—especially for those it seeks to help most.

While economists are notorious for their disagreements, they are almost unanimous in opposition to rent control. According to a recent survey of top economists asking whether rent control has had a “positive impact… on the amount and quality of broadly affordable rental housing in cities that have used them,” over 90 per cent disagree.

And for good reason.

At its heart, the cost of renting is dictated by supply and demand. Low vacancy rates indicate a lot of demand for rental units and a lagging supply—resulting in higher rents.

Limited vacancies and high rents in turn send an important signal to developers, who respond by building more units.

By capping rents, government erodes the profitability of building these units, as the return on investment for developers could be higher if they build other housing such as condominiums. Indeed, over the summer of 2017, more than 1,000 purpose-built rental units across the GTA were converted to condominiums, and potentially many more since.

By restricting the rental stock, rent controls can also increase rents (running counter to the policy’s intuition). A recent study in San Francisco between 1990 and 2016 found that rent control reduced the city’s rental housing supply by 15 per cent, causing a 5.1 per cent citywide rent increase, worsening the city’s notoriously unaffordable housing costs.

So, when the Ontario government claims to be “creating more rental housing for individuals and families,” it’s important to remember that rebating development fees might not be helpful if government is simultaneously making investment in purpose-built rental units unattractive.

Yes, giving rebates to some development projects may add more (badly needed) rental units at the margin, but by eroding the economics of building more units due to polices such as rent control, Queen’s Park’s latest attempt at relief for renters is only one small step forward after two giant steps back.

 

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