Economic reasons for rent regulation

A recent article in the Irish Independent contains the bold assertion that “Economists are virtually unanimous in their assessment of rent control.”

Economists are notorious for seldom agreeing with one another, though most can point out both good and bad examples of rent regulation (with 1950s New York style rent control seen as bad, but the Swiss rental market being viewed as highly efficient).

Most modern European rent regulations allow the landlord and tenant agree a price in a open market, but rent increases are then limited by an index. The index may be the consumer price index, or sometimes an index based on the rents agreed in new tenancies on the open market. Rent renegotiations over and above this are sometimes allowed after a set number of years, or if the landlord has done major renovations that improve the property.

The reason such regulations are prevalent across Europe is due to a market failure in the rental market: the tenant faces the bulk of the switching cost. Tenants face a cost of moving their belongings, having a deposit upfront (while waiting for the return of their current deposit) and search costs (though landlords also face search costs for a new tenant). While a landlord faces a cost of having an unoccupied property (foregone rental income), the cost to a tenant of having nowhere to live is far higher (such as paying for expensive short-term hotel accommodation while searching for a new residence).

This leads to an unbalanced relationship and the landlord can potentially get a sitting tenant (who does not want the costs of moving) to pay over and above what the landlord would get on the open market.

Rent caps or rent ceilings are far less common. These could make economic sense if a landlord has a near monopoly in a certain town. Generally this is unlikely to be the case (and in Dublin there are literally thousands of landlords).

Another market failure includes ‘assymetric information’, the landlord knows more about the flat than the tenant. For example the tenant would not know how expensive it is to warm an apartment. This has recently been overcome by mandatory BER certification.

Although rent regulation does help stop abuses, an increase in supply is necessary for a general fall in rents in Dublin. Though building regulations are essential, some such as a minimum size of 55 square metres for a one bed apartment seem unreasonably strict. (I live in a 50 square metre one bed apartment and visitors often comment on how spacious it is.) There are no information assymetries with regard to the size of apartments.

Finally, regardless of whether or not a consensus exists amongst economists, economists are not the experts on urban planning. While economics does have much to offer in the debate, I think the lead should be left to geographers.

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