Innovation and Opportunity
Expanding Affordable Housing Through Smart Development
by Stephen Ballard
Housing is one of the greatest problems in America right now. It is extremely difficult for the vast majority of Americans to afford to purchase a home.
The ratio of median home price to median household income is at its highest level in 70 years, higher than the housing bubble in the early 2000s. Currently, median home prices are about seven times the median household income.
As a result, the homeownership rate is declining.
Supply and Demand
The obvious question that arises every time this is discussed is “How do you drive down the price of something?” You increase supply. As supply goes up relative to demand, prices go down. As demand goes up relative to supply, prices go up. As the price of a house drops, more people will want a house that they could not previously afford. These people enter the market and, as a result, they stabilize prices.
However, home prices are not the only factor to consider for housing affordability. High interest rates are the main problem. From 2000 until rates rose in 2022, the average income needed to afford the median home was about $60,000-80,000. Currently it is $115,000-120,000.
Building Costs
Increasing supply is only part of the solution to housing affordability. Building a new home comes with significant fixed costs. Purchasing land, establishing plans and permits, getting entitlements, and preparing the lot for building are all requisite whether planning a $100,000 house or a $500,000 house. These are less of a problem when building higher price homes. As builders work on luxury homes, their profit margin and total profit increase.
This is one area where additional regulation may be helpful. Incentives for building smaller homes, discounted permits or a faster permitting process for affordable housing, or rebates for builders working on affordable housing could all work to reduce the burden of high fixed costs for affordable single-family home construction.
Variable build costs are easier to reduce. Practices like prefabrication and modular construction are recent, cheaper trends. They still allow for high quality materials and builds but make it easier to build comparable homes at scale. This practice will continue to become more economical as technology improves and should help decrease variable build costs even more in the coming years.
There are some other trends that are picking up steam, such as the 3D printing of homes and using structured insulated panels (SIPs) which are easier to install and stronger. Both allow for faster construction, reduced labor costs and total build time. The shorter the build time, the lower the financing costs.
Property Size and Density
There has been a switch in recent years towards building more townhomes and condos. These are smaller floorplan properties that a lot of people are transitioning to. Some of that is out of need because they are going after lower price options and some of that is a desire for smaller properties, especially in those retiring and looking to downsize.
The average square footage of houses in the US has fallen since 2015, where it was at its peak of 2,687ft. and is now in line with home sizes in the early 2000s. Further, building more multifamily housing, which increases the density of housing, allows more people to live within a desirable area and should keep the price of housing down.
Strategy & Tactics
An interesting piece that is not talked about much is that building high-end housing increases the available housing for lower price markets. Evan Masted from the Uptown Institute did a study looking at the ripple effect of new multi-unit buildings. He found that for every hundred market-rate units that opened up, the equivalent of 70 units in neighborhoods earning below the median income opened up as well, and an additional 40 units opened up in the poorest neighborhoods. This is because as new market rate units open up, people vacate their existing housing to move into the new units, thus creating vacancy at their previous housing and providing more affordable housing to the market in general.
Another tactic that has helped with development and decreasing housing cost has been decentralization, so as people live further out from city centers, you can find much more affordable housing. This is something seen heavily in the migration from cities to suburbs in the first couple years of the COVID-19 pandemic. People had strong affordability options because at the time they still had low interest rates and stimulus payments provided by the government also helped stabilize potential home buyers. These events increased the buying ability of the average American consumer and investor.
Additional remote work opportunities, combined with improved transportation options and transit-oriented developments, helped people live further out from city centers and therefore be able to choose much more affordable housing because there is less demand there.
Final Remarks on Affordable Housing
What, ideally, must be accomplished in the market? The answer is to drive down both the fixed costs and variable costs of building, and to increase housing density overall. These can be done via transit-related development, improving transportation from further out areas to internal areas, improving transit within cities and building smaller homes on smaller lots, as seen by what DR Horton and Lennar are doing. There is also a need to continue the trend of multifamily development. These practices are considerations that are beneficial for the American consumer but still not harmful towards the investor or builder.
The industry is on the right track but there is plenty of room to grow. Investors must investigate what opportunities are available to decrease variable costs, investigate what initiatives are happening in their markets of interest, and talk to legislators about how costs can be reduced for the American consumer. Interest rates coming down should help with that, but there’s many different things that can be done as an industry to help solve this problem.
