Housing, Geography And, Economics

On this blog, in the posting "The Cities Of North America", we had a look at why cities tend to form where they do. In the free enterprise model, the development of a city is driven by economics. Some type of beneficial production arises, such as industry or mining or transportation. Workers in that production, living nearby, will buy houses with their earnings. The prices of those homes will be set by the usual supply and demand, and depending on the money that the workers are able to pay for those homes based on their wages. As demand for housing continues, tracts of new housing will grow outward from the city center.

But this neat free enterprise model of economics can sometimes break down. There can be times when workers are producing wealth, but their wages do not keep up with prices.

Land values naturally increase as the city grows, and this higher value of land finds it's way into most other prices. We saw in the posting "The Three Fundamental Costs", on this blog, that the price of land is actually the first of the fundamental costs. This is why prices of most goods and services tend to be higher in cities, the price of land finds it's way into everything else. Usually, the system of supply and demand remains in balance and wages keep up with prices.

But when there is a distortion in the system, and wages do not keep up with prices, one of the first places that the distortion shows up is in housing. When this happens, a class of housing tends to arise that falls outside the logic of the market system.

Ironically, this distortion in the free enterprise model of urban economics often comes from the very reason that the city is there in the first place. A typical example is a good natural harbor, around which a city develops. But the harbor takes up space which, in the ideal model of city growth described above, would be used for housing and other developments. This distorts the land values, making land in the city more scarce and thus more expensive that it would be if the city had an ideal flat plain on which to grow.

We saw in the posting "The Most Expensive Cities", on this blog, that the cities that are known for the highest prices are inevitably those which have both the economic reasons for being there, but also geographic constraints on their growth. This drives up the price of land, which then finds it's way into just about everything else.

The truth is that the sub-standard housing, outside the usual market system, which arises in so many cities is very much associated with inflated land prices, and cities with geographic constraints that interfere with the idealized market economics, and drive up land values and prices, are especially prone to develop such sub-standard housing. This sub-standard urban housing is sometimes referred to, in less polite terms, as a slum. It may consist of either makeshift housing, or takeover and crowding into existing structures.

The truly ironic thing about slums is that the substandard housing may be built on land that is as valuable as gold, having been driven up to such values by the scarcity of land in the city due to geographic constraints. It is the very inflated value of the land which would make proper housing built on it too expensive for the workers who would live there to be able to afford it.

New York City is historically more associated with tenements then Philadelphia simply because Philadelphia had much more room to expand, which kept land prices lower. Mumbai (Bombay) is built on a peninsula adjoining the best natural harbor on the west coast of India, but this geographic configuration made land very scarce and expensive and the sub-standard housing that it is, perhaps unfairly, known for inevitable.

Rio de Janeiro  is a very populous city that has it's land constricted by both the natural harbor, and also mountainous terrain. The result is the famed "Favelas", which you can look around on Google Street View www.maps.google.com .

Possibly the largest housing development in the world, that is considered as a slum, is Cuidad Nezahualcoyotl in Mexico City. Since Mexico City is possibly the largest city in the world, and it's space is constrained by being within the Valley of Mexico, we might expect that land values would be very high and that there might be large tracts of housing which fell outside the logic of market forces. It is also completely covered by Google Street View. I spent a while looking around Cuidad Nezahualcoylotl, it is officially called a slum but also looks like a colorful place to live and is actually more of a township then a slum. (You can tell by some of the place names that the Aztec language of Nahuatl is still widely spoken in central Mexico).

Substandard housing, due to a breakdown in the free-enterprise model of city growth, does not always appear as visible substandard housing. At the time of this writing, for example, workers at Disney World in Orlando are known to live crowded into motel rooms because their wages do not make it possible to buy a home or even rent an apartment. Slums, or any substandard housing, exists when workers are doing work that is valuable to the economy but, due to some distortion in the ideal economic system, their wages cannot buy them a regular place to live.

This scenario also helps to explain why Montreal traditionally has a higher proportion of renters than other Canadian cities. This is not substandard housing, but Montreal started on an island in the St. Lawrence River with the famed hill of Mount Royal on the island. While this may have been a natural place for a settlement, it also means space constraints as both Mount Royal and the river occupied space that otherwise would have gone mostly to housing. This brought the development of apartments to rent, simply because apartments take up less space than houses.

The trend toward urbanization across the world only makes the economic balance that prevents sub-standard housing more precarious. The next downward step is when people cannot live at all on prevailing wages and crime, as well as substandard housing, spirals upward.

As we might expect, the greater the income gap in a society the more likely will be the prevalence of substandard housing. The more money the wealthy take out of circulation, the more likely there will be substandard housing. The presence of the wealthy can be expected to drive up prices and property values beyond the reach of many workers.

One solution to substandard housing, brought about by distortions in the free enterprise model of urban development, is government intervention. Within cities, this may mean the building and subsidizing of housing projects of condensed housing that does require too much expensive land. Another solution is that of the "township", built outside the city where land is less expensive. The disadvantage of a township is that it requires special transportation for workers into the city.

The most famous township in the world is, of course, Soweto (Southwest Township), to the southwest of Johannesburg. Building such a township precluded the development of substandard housing within Johannesburg, where land prices were higher. Quite a bit of Soweto is covered by Google Street View, if you want to have a look.

I have childhood memories of a television documentary about an entire new city that had been built in an effort to relieve crowding in Mumbai (then Bombay). The new city was called Navi Bombay. I suppose that the concept was similar to New Delhi being built next to Delhi.

But we must always remember that housing, as with anything to do with economics, is a balance.

The perfection of assembly line manufacturing techniques, early in the Twentieth Century, along with much more efficient agriculture so that only a few percent of the working population was required to grow food, brought the possibility of unprecedented prosperity for all. But it also brought a peril with it. The efficiency in both agriculture and manufacturing meant that fewer workers were needed.

This may seem like a good thing, but it meant that not enough money was being paid out in total wages for workers to be able to afford to buy all of the goods that the factories were producing at a rapid pace. Much of the inventory produced was just piling up in warehouses. Factories began cutting back on production, which meant that workers had even less money, and it spiraled into the devastating economic crash of 1929.

We seem to have gotten past the peril of mass manufacturing goods without paying workers enough to be able to afford those goods. But we arrived at another peril, this time with regard to housing. The widespread postwar ownership of automobiles, along with the development of air conditioning, brought the possibility of eliminating the substandard housing problem, caused by inflated land values, by making use of the virtually unlimited space for building in the U.S. southwest and Florida.

There was overabundant space to build homes, in desert cities that did not have a significant portion of their geography taken up by water. This meant that there would be no logical shortage of housing but it brought us to another peril, of people not being able to buy all of the houses that would be built. The economic crash of 2008 would be a mirror image of that of 1929, except that it would revolve around housing rather than manufactured material goods.

Notice that the housing debacle, which nearly brought a repeat of the 1929 economic crash in 2008, revolved around cities like Phoenix and Las Vegas. These are desert cities with an abundance of land available for housing developments. But those developments, like the manufacturing of 1929, were taken further than the people's wages.

This is related to "The Inverse Geographic Prosperity Principle" that we saw in the posting by that name on the world and economics blog. When we see a big city in a place, such as a desert, that geography dictates there really shouldn't be such a big city, we know that the city must be prosperous or else it wouldn't be there. But, as with 1929, production was driven too far relative to the money being paid out in wages and salaries.

That was the irony in the 2008 crash, it started in some of the most prosperous areas of the U.S. The basis of capitalism is the profit motive, trying to sell as much goods and services as possible for as much money as possible while trying to drive costs such as workers' wages as low as possible in order to maximize profit. But this risks those workers not being paid enough to be able collectively to buy all that is produced, and thus crashing the system.

All of this goes to show, once again, how economics is all about balance. The inflation of land values by a geographic distortion invites substandard housing if individual wages are not enough to afford a place to live within the market system. This is true even though the geographic distortion, often a natural harbor, may be the reason that the city is there in the first place.

But an abundance of inexpensive land for housing development invites an economic crash if total wages are not enough to buy all of the houses that are built. Simply raising everyone's wages is not a solution, it will simply result in inflation. The real solution is an ideal balance of wealth between the wealthy and the less-than-wealthy.