Local government faces incentives just like everything else. If we want voters to encourage growth near them, we need to make it worth their while.
An ever-expanding body of work shows that increasing local regulations are the main driver of increasing housing prices. Yet there has been less interest in explaining why local regulations are increasing, or why they are rising so much faster in some areas rather than others. Given that the legal authority of local governments to impose zoning or other regulations on building has barely changed over the past few decades, and is fairly constant across the United States, there has to be some cause explaining what turned many pro-development places into anti-development places.
The best explanation for increasing regulation is that local governments and neighborhoods are less likely to see the gains from growth than they were in the past. Local governments used to get substantial fiscal benefits from a growing population, yet now they suffer fiscal costs. Local homeowners used to see the value of growth in terms of reduced taxes and increased land values, and now they see the increased taxes and worse services. States and local governments used to prepare infrastructure before growth happened, but now they let existing residents suffer crowding of roads and schools when new residents arrive.
Although state legislatures, courts, and YIMBYs, or Yes-In-My-Backyard advocates for more housing, are correct to try to limit the damage of local housing regulations and zoning rules, in some sense they are attacking a symptom instead of the cause of the problem. Many pro-housing advocates assume that local governments always try to block growth, but for most of US history cities sought new residents, and that remains the case in much of the US today. To spur more building, we need to, in a phrase, grow the growth coalition once again by demonstrating to local residents that, even though there are costs to growth, there are even greater gains, and local residents can share in them.
Local costs and benefits
One of the most surprising things about building regulations in the United States is how extreme they are in some places and how minimal in others. One study showed that in the mid-2010s over 80 percent of metropolitan areas in the US had median housing costs that were around construction costs – i.e. many places in the US face no housing shortage.
A recent article examined the costs imposed by zoning, usually by preventing more intensive development), what is called a ‘zoning tax’, and showed that in half of 24 housing markets studied, ‘[t]he typical zoning tax ranges from negligible to small,’ and noted that ‘there is no evidence of an economically meaningful zoning tax’ for housing in much of the US.
The lesson from this research is not that the current regulatory regime is unimportant. After all, researchers also find that burdens are largest in the most populous and productive areas, especially San Francisco, Boston, Los Angeles, and New York City, and these burdens cause a massive maldistribution of resources. The research also shows that these burdens grow the closer one gets to the center of a metropolitan area, where the demand is highest.
Most concerningly, the evidence points to increases in regulatory burdens over time. The costs of zoning and regulation were low to nonexistent almost everywhere as recently as the 1980s but have been growing to a larger number of cities and becoming worse in those cities. Housing prices in America were remarkably stable for decades, until they began exploding in the late 1990s, with what proved to be only a temporary dip around the 2008 financial crisis.
Many pro-housing advocates misunderstand why cities zone and thus why they have increased zoning barriers. The most common argument is that cities zone to raise the value of property by restricting the supply of housing. But this gets the economics wrong. Imagine a small city of single-family homes that suddenly bans all new development. In the absence of any externalities, i.e. the potential negative effects of nearby development, such a change will lower the value of property, because a property that cannot be built up is less valuable than property with that option.
If there are some negative externalities to development, such as a gas station that creates a lot of light and traffic near people’s homes, zoning can improve the amenity values of property enough to overcome the loss of options. But in the most expensive cities in the US the zoning costs are vastly disproportionate to any possible amenity effects.
Housing regulations and zoning in much of the US are not adding value to property, they are destroying it. The best studies of zoning’s costs show how much value property-owners lose because they cannot, say, subdivide one lot into four or sell their home to an apartment developer. Pro-development advocates often think of the ‘benefits’ of zoning for a single-family homeowner in the San Francisco Bay Area who can get top-dollar for her home. But, according to the zoning tax paper discussed above, in San Francisco that homeowner is losing $400,000 in value for every extra quarter acre of undeveloped land she is forced to hold by zoning.
So if it often lowers property values, why do so many governments have such extreme zoning laws? One reason is that in most communities the ‘winners’ from increased development are always small. There are only so many plots that can be built up at any time. The vast majority of neighbors only see the negative consequences of someone else developing their land and try to prevent those individuals from developing, even if they could later benefit from developing their own land. These neighbors can indeed increase the value of their own property by limiting development options on others property, but the end result is lower total property values in a community.
For much of the twentieth century, and in much of the United States today, the main way the developing plots compensated their neighbors was by providing extra fiscal revenue to the rest of the city. Although neighbors saw the costs of increased development, they also saw reduced taxes and increased services. Cities engaged in ‘fiscal zoning’ to attract the sort of development that brought extra funds and this was the impetus for increased local growth in general.
There is a vast body of writing on fiscal zoning and it demonstrates the strong link between the fiscal benefits of different types of development and local increases in those types of developments. In one way, this is intuitive, because cities want more of what will give them more money. But in another way this is counterintuitive, in that the higher the local charges on something, the more of it a city will get.
Much of the literature around fiscal zoning focuses on how cities attract different types of properties depending on the type of taxes they impose. For instance, one study found that higher local sales taxes led to more large retail stores, and a decline in manufacturing employment, since large retail crowded out other types of land uses. Most US cities tend to favor commercial property in general, either offices or retail, since they bring in lots of taxes but require little services.
Other studies have looked at how different types of taxes can deter or attract housing. As early as 1991, economist Joseph Gyourko noted that impact fees, or local charges on new development, could ensure that new housing pays its way. Impact fees ‘reduce the incentive for communities to engage in fiscally inspired exclusionary zoning’ and thus the ‘optimal density of new development can increase following the introduction of the fees’. One early study of impact fees indeed found that higher impact fees did not deter building but rather led to increased housing development in Florida suburbs.
But the largest tax source for local government is property taxes, most importantly those levied on residential property. A study of New Hampshire towns showed that higher property taxes caused both smaller lot sizes and smaller houses, which at first might seem to indicate that the tax was stunting development. But ironically these changes also led to more living space per developed acre since more housing was permitted there.
Some pro-housing advocates have attacked local impact fees or property taxes as a deterrence to construction and have advocated for reducing them or centralizing them at the state level. Historically, however, the common argument against such local taxes was that they drove too much development. As one academic article from about two decades earlier said, ‘The urban planners’ most frequent objection to local tax reliance [is] that it induces too much growth and blinds communities to regional and environmental planning objectives.’ One pro-development San Francisco Bay Area newspaper in the 1960s advocated for building on a local pasture by reminding its readers: ‘Cows don’t pay taxes!’
The connection between local revenues and growth is international. A Journal of Housing Economics study found a connection between European countries that allowed local governments to keep more revenue and countries that allowed more development. In countries like Austria and Switzerland, local or regional governments had more local autonomy and kept larger percentages of the fiscal upside to growth and thus were more likely to support it. In countries with more centralized governments and fiscal control, such as the United Kingdom, local governments only got the downsides to growth, and thus restricted it. According to the study, decentralized countries had over a fourth more development in outlying areas, and corresponding lower housing prices, than the centralized countries.
In the United Kingdom in 1990 a national reform took commercial property taxes out of the hands of local governments and put them in a central pot administered from Westminster. One study showed that cities responded by allowing less commercial real estate. There has been a recent spate of articles noting the absence of sufficient laboratory space around Oxford and Cambridge, and how this is inhibiting medical breakthroughs. Some reports note that the planning system is to blame, but they rarely highlight how the current fiscal structure gives cities few reasons to build.
Although China hardly provides an example of an even-handed housing policy, it has given local governments ample incentive to grow. Local governments in China own the rights to develop new land and in many years make almost a third of their revenue from the sale of those land rights. Further local revenue comes from taxes on land and housing. Most observers agree that Chinese local governments’ dependence on these revenues explains why they have been rapidly expanding housing.
Just as we have evidence that increasing the fiscal benefits of development can spur it, we also have evidence that decreasing fiscal burdens does the same. One odd fact about school districts in America is that they don’t always overlap with local city boundaries. One study showed that cities in Ohio were more likely to approve development if the land was in a school district that itself was not largely overlapping with the rest of the city. The reason is the city got the direct fiscal benefits of the development, but most residents of the city did not have to pay the cost of educating more students.
Cities respond to incentives like other organizations or individuals. If you give them more reason to grow, they will grow more. But these days they have less incentive to grow than ever.
Why don’t cities want to grow anymore?
As early as the 1960s, there was widespread acknowledgement that zoning was no longer about far-sighted planners setting goals for development, but about trading development for cash. In 1965, the head of the American Society of Planning Officials bemoaned that zoning had become a ‘marketable commodity’. Of course the salability of zoning has issues of its own, but the question is why an American fiscal zoning regime which once was willing to make the trade of growth for taxes has forsworn it.
One of the most consequential reasons is school finance reform, which is particularly important because schools absorb about half of all local property taxes. From the 1970s through the 1990s, a series of state court cases claimed that funding schools based on local property taxes was inequitable and unfair. Subsequent rulings and legislative changes tried to equalize spending on students, often by ‘taxing’ property-tax rich districts to redistribute funds to property-tax poor districts. Early litigators not only ignored that there was little correlation between rich districts and rich people (central cities with the most poor and minority students had disproportionately high property values due to downtown commercial real estate), they also ignored how these rulings could upset the incentives facing local cities.
The California case of Serrano v. Priest (1976), the first significant state court school ‘equalization’ ruling, was a major cause two years later of Prop 13, the California initiative which sharply limited property taxes. Although a similar property tax limitation measure was voted down by almost two to one before the Serrano ruling, after the Serrano ruling it triumphed by almost the reverse ratio. Cities with the highest property tax values per pupil, in other words, the areas most likely to lose funds from the Serrano ruling, saw the sharpest rise in support for tax limitation.
Voters felt that if property taxes were going to be redistributed away, they did not want to pay them. The end of local governments’ ability to both use new development to reduce local taxes and to fund better schools has been a major reason for the increased opposition to housing in California, which now has by far the greatest burden of excessive zoning.
School finance reforms reduced the benefits of all sorts of development. One study looked at communities with nuclear power plants before and after the finance reforms. The huge property tax gains of these plants were once a way to offset local opposition to them. But after school finance reform redistributed local property taxes, the study showed the homes in communities with these nuclear plants lost value, since they no longer got the fiscal boost to offset local concerns about nuclear power. This same scenario played out thousands of times across all of the locally unwanted land uses in the nation, including, often, new housing. What was once conceived as a potential trade of more local development for higher tax revenue has now become a burden without offsetting benefits.
The benefits of new development have also been inhibited by property tax ‘modernization’. In the past, many governments pursued what became ironically known as a ‘welcome stranger’ policy, whereby new developments got assessed at a higher level, and therefore had to pay more property taxes, than existing development. This gave local governments an extra reason to, indeed, welcome strangers. But in the similar time period as school finance reform, many states reformed property taxes to make sure they were assessed equally across different properties, and thus limited the property tax benefits existing homeowners had acquired. As Isaac William Martin showed in his book, The Permanent Tax Revolt, property tax modernization preceded and contributed to many tax limitation measures, including in California, Massachusetts, and New York, and thus further inhibited the gains local governments and homeowners could get from growth.
Partially because of these property tax reforms, many cities have moved to demanding impact fees and ‘exactions’, such as developer-funded local parks. In this sense the trade of new development for money has become clearer than ever. Yet one-off income or services are less likely to benefit communities than continuing income and services. Many courts, including the US Supreme Court, have also made trades of exactions for development harder. In cases such as Nollan v. California Coastal Commission (1987), Dolan v. Tigard (1994) and Koontz v. St. Johns River Water Management District (2013), the Supreme Court has limited the demands that local governments can place on new development to provide or fund other infrastructure.
In Dolan, for instance, the Supreme Court struck down an Oregon city’s approval of a local store expansion that was dependent on dedicating a public greenway. The Court declared that the demand was an ‘unconstitutional condition’ on the permit that bore little relation to the actual impact of the new development and therefore was a taking of property without just compensation. Even if this and other exactions were extortionary, the alternative to such extortion was often no development at all. By limiting trades while placing minimal limits on zoning’s ability to block developments, the courts have exacerbated the problem of making sure neighbors can see the benefits of growth.
One final reason trades don’t happen is that the combination of increased state and federal rules around infrastructure and of the increased number of different groups or individuals that could block such infrastructure (called ‘veto points’ or ‘veto players’) means local governments can’t credibly commit to offsetting the impacts of development.
State transportation bureaucracies and regional ‘Metropolitan Planning Organizations’ have federally mandated 20-plus year plans for road and transit building. Since funding is baked into such plans, and determined by factors beyond local growth, it’s hard for local governments to adapt to pleas of developers that don’t fit perfectly into them. One study showed that while increased road building in the US led to increased local employment, the effect was minimized because the roads often went to areas that had stagnant or declining populations, as a kind of subsidized construction jobs program. The potential for opponents of development to use lawsuits, environmental laws and bureaucracies, and other means to block new infrastructure means that even if a local government promises to build roads or infrastructure to offset the impact of new housing, they often can’t guarantee it will happen.
Increasing infrastructure allows and encourages more cities to grow. One study found the construction of highways in Spanish cities was followed by zoning changes which led to more development. Another showed that a ten percent increase in accessibility from road-building in Britain led to up to a four percent increase in local employment and the number of firms, and also led to increased local productivity. Although upzoning is necessary for growth, it is not sufficient since the growth needs infrastructure. Either developers will fail to develop areas where there is not sufficient local infrastructure, or voters who worry about the crowding of local infrastructure will have more reasons and find more ways to block it.
Making cities and neighbors part of the growth coalition
Restoring local fiscal incentives to build should be at the forefront of a pro-growth agenda. We know that keeping local fiscal incentives in place, or creating new ones, can expand development. For instance, although Britain centralized commercial property taxes in 1990 because its Conservative government was concerned about local governments being ‘anti-business’, it knew the government of the ‘City of London’ – the financial district in central London – was not, so the government allowed it to set and keep a substantial portion of its own local business tax revenues, unlike other local governments in Britain.
The result was that after 1990 the City of London, partially inspired by the competing Docklands (Canary Wharf) area that was already outside the normal local government system, became relatively more likely to approve development than other cities and boroughs. Another study focused on the introduction of a local property tax in Italy in 1993 and found that it led cities to adopt less stringent planning and thus ‘facilitated local development’.
In the United States, reversing a history of school equalization rulings and legislative changes, either by returning taxing power to local communities again or by structuring a state funding system that does not penalize communities for raising more funds, may be an important part of such a pro-growth agenda.
The rise of new school finance reforms, such as state-level education savings accounts and school vouchers, also could ensure more local benefits of growth. In America, these new education savings account or voucher programs provide families funding directly from the state to educate their children almost wherever they would like. But about half of school funding still comes from local governments, even if some of that is then redistributed according to state formulas. New account and voucher programs tend to leave that local funding alone. Despite complaints that these new programs are ‘robbing’ public schools, for every student who uses them to pursue a private education, local school districts get to keep the money they raised from property taxes, but don’t have to spend a dime to educate the student. That means that local governments will keep more of the fiscal upside from new families, for spending on other things or reducing school property taxes.
Even if an entire municipality gets financial benefits from development, it’s difficult to guarantee that such funds are directed at the local neighborhoods that are most affected by new development. And in the modern era, neighbors have more power than in the past. So states and local governments should find new ways for nearby property holders to see benefits from upzonings. For instance, in 1974 developers and local government in Virginia helped enact a formal ‘proffer’ law, which allowed legally enforceable exchanges of amenities such as new roads for zoning changes, and which helped accelerate Northern Virginia’s explosive growth.
One of the big reasons for neighbor opposition to development is that while the total value of land can go up, some property can actually decrease in value as the character of a neighborhood changes. Thus cities should find new ways to help neighbors band together for sales. This would help neighbors share in the gains of growth and not be left out of deals that could reshape their neighborhoods.
As Robert Nelson noted in his book Private Neighborhoods and the Transformation of Local Government some neighborhoods have done this on their own. In Atlanta two decades ago, 118 homeowners formed a single corporation to sell their homes to a developer, who could give them double to triple the price of their existing lots. In Vienna, Virginia, 70 homeowners near a Metro subway stop got together in 2004 to sell their homes to a developer who planned to densify, and they got almost double their existing value.
The problem with deals between property-holders is that they require unanimous agreement. Yet there are ways for cities to help organize property-holders to overcome a small minority of holdouts. In one case. Fairfax County in Virginia promised to rezone a neighborhood for commercial development if 85 percent of the homeowners could agree to a joint sale. The county thus would force the hand of the few remaining holdouts to a deal.
Cities in general could explain to property-holders ahead of time that getting supermajority buy-in to a collective sale would lead to a rezoning and thus increased sale prices. By working with such property associations, they could encourage more win-win situations. Policy Exchange in Britain has proposed ‘Street Votes’, which would allow a supermajority of residents on some streets to upzone and receive a part of the financial gains resulting from such upzoning. The British government has supported pilots of the idea.
There are some precedents for states allowing a majority of property-holders to force holdouts to join a new group. As Robert Nelson notes, one example is unitization law, whereby multiple oil drillers can take a vote to create a single united ‘pool’ of their property to reduce duplicative drilling and avoid wasting oil. They sacrifice some of their independence for higher property values and returns. Oklahoma, for example, requires 63 percent vote to ‘unitize’ a pool, with the votes weighted by the proportion of land each holder owns above the pool.
Although forcing existing homeowners into a new ‘unitization’ agreement would be impossible in most existing neighborhoods, cities can encourage the formation of groups that allow less than unanimous sales. Some state laws allow entire condominiums to be sold with less than 100 percent agreement of individual unit owners. In Arizona and Texas condominium owners can sell an entire building with just 80 percent agreement of the holders. Most single-family homeowners’ associations don’t allow forced sales, but the association can sometimes be terminated with just 80 percent agreement and the common areas sold off, which is a big incentive for others to join any subsequent sale, since the neighborhood has agreed to fundamentally transform itself.
As well as encouraging corporatisation and new local government forms among homeowners and resident groups, local governments should also have more authority to plan and fund infrastructure. And insofar as state and federal governments are funding infrastructure, they should attach the funds to areas that are growing. Most importantly, state and local transportation departments need to prepare more roads in developing areas. According to the Urban Institute, road and highway spending grew slower than any other type of state and local spending from the 1970s until today.
In almost all of the US, cars are still the main way to get around. For travel of less than 500 miles, cars were used in over 95 percent of US trips, while buses and trains together were less than 3 percent, and of course the buses need roadway. Even in New York City, by far America’s most dense and transit-dependent big city, people use cars and transit about equally, and cars and buses together far more than trains. The simple truth is that unless government is willing to build or support new roads and improve existing ones, pro-development groups will have no answer to the concerns with traffic that motivate much opposition to development. If cities and states make the new routes self-financing variable toll roads, they can both ensure drivers pay the cost of the roads and that traffic jams are kept to a minimum.
Transit in those areas where it is necessary should be funded to the greatest extent possible by ‘land value capture’. In this model, the transit developer either owns the land to be developed around the transit stops or receives some of the gains from the increase in the value of the land resulting from the transit project. In this way, the transit developer, whether public or private, is able to reap some of the extra value they have created. Many of the earliest ‘streetcar suburbs’ in America were created by streetcar companies who expected to profit off nearby real estate investments, and the modern Hong Kong and Japanese transit systems also grew partially as ways to bolster real estate projects.
For all sorts of infrastructure, more states should mimic the ‘Municipal Utility Districts’ or MUDs, in Texas. Developers often form MUDs on undeveloped land, then issue bonds to build roads, water, sewerage or other infrastructure on that land. The bonds are supported by property taxes on the existing land and the burdens on any landholder decreases as the development grows. Although MUDs or other ‘special districts’ can last past their time and become tax sinks, in the development stage there are few substitutes for making sure the costs and benefits of growth are ‘internalized’ and paid for by new residents. By creating more competing developments, such projects also limit the ability of existing cities to extract monopoly rents from restricting their own growth, just as more competing companies limit the profits a monopolistic company can get from cutting production.
Why steamroller approaches are not enough
Much of the YIMBY movement has focused on striking down the local barriers to building. Such laws have had real successes in limiting excessive restrictions on development. But one reason that such efforts, or what could be called a ‘steamroller’ approach, are not sufficient on their own is that there is a high level of demand for local control of neighborhoods, and if cities don’t provide for some amount of local control, other, sometimes even less pro-development, organizations will.
Whatever one thinks of homeowners’ associations, their striking growth points to Americans’ desire to have some authority over their neighborhood. Almost 30 percent of all Americans now live in a community property association of some sort, the large majority of which involve homeowners associations, typically of single-family homes or townhouses. Such associations were almost unknown in the 1940s and ‘50s, but by the 1980s and 1990s half of all new homes were part of a community association. Today, over two-thirds of all new homes include a community association of some sort, so the total proportion of housing in them will keep increasing.
These associations are composed of property-holders who unanimously agreed to be subject to rules that would make the most restrictive cities blanch, such as rules about paint colors or the times of year flags can be flown. In the future, helping local neighborhoods in general and community associations in particular see the benefits of development will be crucial for encouraging growth. This will mean making sure cities share some of the fiscal revenue they get from growth with those associations and making sure they provide the infrastructure to offset growth (or make it easy for other organizations to do so).
The other reason that zoning reform is not sufficient is that unless cities are willing to build more infrastructure, upzoning won’t matter. For instance, both Marin County and Santa Barbara in California in the 1970s began rationing water and used the rationed water as a reason for opposing more growth. But Marin County had explicitly opposed reservoirs in order to block growth and Santa Barbara had declined to join the California Water Project in order to prevent resulting development. Although courts can and have forced cities to connect new projects to existing infrastructure, they can rarely force further upstream building.
If an area refuses to build enough water and wastewater treatment facilities, it can’t grow. If a city won’t expand roads or transit, it can’t grow. If a city can’t provide new and expanded schools, it can’t grow. Once new development pushes up against infrastructure limits, the development will fail, no matter the zoning. Cities need to be partners with the states in building this infrastructure.
States should work with the YIMBYs to mandate more density in some areas, especially in areas with large gains from development and sufficient infrastructure, such as central cities. And states and courts should limit the most egregious local zoning abuses, such as when cities downzone areas below the density of nearby developed property or create excessively large lot sizes. But unless local governments become part of the growth coalition again, there will be no hope for bringing back what academics once called the local ‘growth machine’.
Although by many measures America still has more affordable housing than most of the developed world, its housing cost crisis is unparalleled in its history. Almost all agree this is the result of increasingly burdensome regulations in its major urban centers. Yet the reason for the explosion of regulations in these places has received less attention than it deserves. In a decentralized country with almost 20,000 different municipalities, bad policies that hurt local residents should be crowded out. Yet such positive competition and local growth is not happening like it was in the past. Instead of abandoning all local government, which, as other nations have shown, does not lead to increased growth, America should revive its local governments and try to make them partners in growth again.
As David Foster and Joseph Warren point out in their article ‘The NIMBY Problem’, making cities more majoritarian, with fewer veto points, can facilitate bargaining between developers and locals and allow more people to share in the gains of growth. Tying such structural changes to fiscal ones and also ensuring that neighborhoods, even if they have less veto power, do not suffer only downsides from growth, can help bring them back into the growth coalition.
The fundamental argument for growth, in cities as in nations, is not that it is costless. There are always costs to growth. We always lose things, including things we are attached to. The fundamental argument for growth is that the costs of not growing are even greater. We see this in cities today where landholders can’t benefit from sales, where new renters and homebuyers are priced out, and where whole regions are deprived of the workers and dynamism they need. To put it a slightly different way, the argument for growth is that there are net gains. And if there are net gains, trades between the winners and losers can ensure that growth happens.
One side-effect of reestablishing the connection between local gains and growth is that it will reestablish the constituency for growth in general. While all politics may no longer be local, most people view the world from their own front porch or front window. By showing neighborhoods that growth brings not just crowding and costs, but real and tangible gains, voters can be reminded of all the great things that growth has to offer.