It’s obvious to most people that when there is scarcity of something its price goes up. When there is an abundance of a product it goes down. But when it comes to housing, the disconnect between what’s obvious and deep bias against new development and change was brought home to me. In a meeting last week about housing costs and how they contribute to slow down supply, I made the case, enthusiastically, that regulatory burdens slow production, create uncertainty, and incentivize larger, bigger housing units. This, I said, is true of all housing whether for profit or non-profit housing; the difference with market rate housing is that the price goes up, while non-profit housing burns more dollars and thus makes fewer units. Either way, regulation has got the housing supply chain in a choke hold. But why do people resist the notion that reducing costs will result in lower housing prices? Because: “If costs go down, developers won’t lower prices, they’ll just get more profit and housing prices will stay the same.”

This is nothing shocking. Most people, I think, believe this to be true. If a water main extension is required by regulators, for example, and that extension adds costs, then, presumably, those costs will end up in the price. If that doesn’t happen, and the builder can avoid the water main extension with fewer, larger units, then the price of those units will be higher. The point is that costs have a big impact on price because they impact how much housing can be produced. But what difference does cost make if supply and demand are the twin ruler of price? It’s called competition.

If 1000 people appear on the scene to buy 100 units of housing, we know that they will bid up the price. Those with more money will offer more to the seller and those with less will end up “priced out.” But what if we produce 900 units? And what if those units are built with extremely expensive materials. Would it matter? Wouldn’t there be an equilibrium in supply and demand? That is, even if the 900 units were made of solid gold, wouldn’t they drop in price because supply matched demand?

The problem is the nature of how housing is built and financed. I had to bring up the term “invisible hand” and I acknowledged that it’s something that progressives and liberals don’t just bristle at but reject with the conviction of Jesuit priest. Housing builders don’t build housing first, then determine what the price per unit will be. They have to take into account costs and what they and their lender think would be acceptable to buyers in terms of price. If the 900 units were so expensive to build that no lender believed they could get their money back, then the 900 units wouldn’t get built. The demand is there, but producing the units needed just doesn’t make sense. Nobody wants to go broke making them and lenders don’t want the risk of building units that just won’t sell or rent.

This is how higher costs reduces supply and thus keeps supply in this oversimplified version. In this case think of the units not as made out of gold but simply regulated to a point at which the price in fees, fines, taxes, design review and other impositions and exactions means that recovering the costs pushes the price way up. Then, while the units might not be made out of gold, they will be expensive and thus have a higher price. They might even sell as “luxury units;” and there would be fewer of them, say 450.

Now, let’s take our example one step further. Let’s say that a local official and his government saw what regulation was doing to supply and thus to price. In spite of other efforts, there are still 1000 people looking for 1000 units, but there are only 550, and the price is high enough that there is lots of pain in the economy, included “rent burden;” people paying a big percentage of their income in rent.

So this leader decides to back off a bunch of rules, regulations, and fees. Suddenly the costs go down. More players enter the market. They’ve seen the high prices of rents and housing and they figure they’ll get a piece of those high prices in the form of profit. Lenders know, however, that when more supply gets on the market, maybe even excess supply, that rents could drop, so they’re more conservative. Still, they lend and building ensues. On an individual project level, builders get their financing and get started. A project here and there start construction, and often the work is right across the street from some of the 550 units.

When the supply of housing hits 1000 units, suddenly everyone has a shot at housing. About 300 of the remaining 450 get into a unit. But the price is still too high for 150 people. They just can’t afford it. Now some of the builders are losing money; they have vacancies. There are people who need the unit. They offer less than the rent. The builder lowers his asking price. Other people hear about this and lower their offer. Throughout this silly simple and unrealistic market, suddenly those demanding housing have an advantage. And, since the costs is lower, another player comes on the scene and builds 50 units of housing and she prices them even lower. Her vacancy is zero and she’s still paying what she owes and has money left over. Meanwhile, the other guys are hearing from their renters that they’re not happy.

I know, I know. That’s too simple, and maybe I lost track of my math. But the point of the simple example is that when costs are lowered, a barrier is dropped to enter the market. Individual builders don’t look at the whole picture and neither do lenders. They look at what’s in front of them: will this project work given what we think people can and will pay and are we asking too much or too little. This process works it’s way through the economy every day, slowly, surely, and yes, mostly invisibly until overall prices adjust. What regulation does is impose a limit to what can be financed and produced. When we think of prices we of course know that is a quantitative indicator of how much supply there is relative to demand; but we also have to consider the factors that limit production.

I’ve said it before, but it is worth repeating: greed is a character trait, not a business model. Price is a guessing game and a negotiation. Sure, someone out there might produce the same units as they did before a program of regulatory relief, lower their costs, and then charge the same amount. But as production goes up and competition ensues, that person will find themselves with increased vacancies.

Again, even with numbers and data, most progressives and liberals in Seattle will scoff at this. “Yeah, right. We’ll let them get away with lower costs and they’ll just laugh all the way to the bank.” However, we know that doing what we’re doing isn’t working. And if we keep the barrier high, we do add costs that have to be absorbed somewhere, and that means higher prices and consuming more subsidies. It’s why Mayor Ed Lee of San Francisco has said, “The time for excuses, delays and bureaucracy is over” and issued the Executive Order embedded below. Are we going to wait until we’re another San Francisco? Or can we get this order issued here  in Seattle soon?