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Saturday, September 24, 2022

Why It’s Good for San Francisco that Rents Dropped 29% to Multiyear Low. But They Haven’t Dropped Nearly Enough Yet

The market is working on a solution to the “Housing Crisis” and “Exodus.”

By Wolf Richter for WOLF STREET.

San Francisco has long lamented its “Housing Crisis,” a phenomenon where housing – whether rented or owned – is so ludicrously expensive that middle-class workers, even if there are two in the household, can no longer afford to live in San Francisco, or have to spend so much of their income on housing that they’re effectively poor in every other aspect, and cannot spend money on other things.

So now the market is responding to this phenomenon: More people are leaving, fewer people are coming in, vacancies are surging, and rents are sagging, amid a massive churn by tenants who move to similar apartments for a lot less and get “three months free,” or who chase after the “free upgrade” to nicer apartments.

The breath-taking downward spiral of the median asking rent of one-bedroom apartments continued in February, dropping to $2,650 a month, the lowest in years, down 24% from a year ago and down 29% from June 2019:

Despite this drop, San Francisco remains the most expensive major rental market in the US, according to data from Zumper.

The median two-bedroom asking rent in San Francisco, at $3,500 in February, is down 24% from a year ago and down 30% from the peak in October 2015, when it was $5,000. Which is just nuts when you think about it. “Median” means half the asking rents are higher, and half the asking rents are lower. This is the middle, amid small-ish apartments, not glorious luxury.

Following that peak in October 2015, rents began to correct, dropping by over 10%. Then the Trump-bump set in after the 2016 election, and rents rose again. One-bedroom rents eked past the old record and set a new high in June 2019. Two-bedroom rents got close in June 2019, but did not quite set a new high, and have now plunged 30% from their October 2015 high.

And that’s a good thing for the city and for the “Housing Crisis” and for businesses – the lucky ones that are still hanging on and those that haven’t left yet. The market is in the process of correcting a mega-problem that the City has had: housing was too damn expensive, and was driving a lot of people and businesses out, and was killing local businesses.

I understand that property owners – landlords and homeowners both – want property prices to only surge. Because it’s just money, and getting rich off this surge is the name of the game.

But then out of the other side of their mouth, in a deafening hypocrisy, they bemoan in a politically correct manner the “Housing Crisis” and they lobby for taxpayers or developers to subsidize a few “affordable” housing units.

Housing costs are a leech on the economy. What people spend on rent and mortgage payments in San Francisco cannot be spent on other things – the lucky ones that can even afford to live in San Francisco and haven’t been driven out yet by high costs.

Local businesses suffocate if locals don’t have money to spend. Sure, you can rely on hordes of tourists to come in and drop loads of money. But as we have seen, tourism can be fickle, and bleeding tourists dry doesn’t create a vibrant city but a tourist trap.

Local businesses are already being suffocated by landlords that have raised their rents into the stratosphere when the 10-year lease came up for renewal. Before the Pandemic, shuttered stores along the commercial strips and in neighborhoods were already an eyesore. Now they’re a pandemic in their own right.

Small businesses with thin margins, such as retailers and restaurants and some service establishments, cannot survive if their costs, such as rents, keep getting jacked up while their customers are squeezed by housing costs. This is a toxic combination – and it has been visible in San Francisco long before the Pandemic.

And forget the once thriving community of artists and musicians with notoriously uneven incomes that have long ago abandoned the City.

Small businesses have trouble hiring because the people who work in kitchens and shops cannot afford to live in the city. $20 an hour in San Francisco is very tough to get by on. But businesses cannot pay higher wages – unless they’re serving the very high end of the market – because their potential customers are squeezed dry by housing costs and cannot spend the money to sustain those businesses.

Then there’s the exodus of bigger businesses that has been going on for years. High housing costs – and the high salaries they require – and high office rents are among the primary reasons. It’s just money. The list is long. And let’s not blame the Pandemic: among the pre-Pandemic departures are Charles Schwab moving its headquarters to Texas and Macy’s shutting down the headquarters of macys.com, Product and Digital Revenue, and Technology. This trend just accelerated during the Pandemic.

You get the idea: Money spent on housing goes to Wall Street, banks, investors, mega landlords and their investors, and small mom-and-pop landlords, from where it goes to the banks, Wall Street, and their investors. Housing has been completely financialized and every aspect has been turned into a global financial asset class.

Sure, some work is done to repair and maintain the rental properties from time to time – replacing a roof, painting, etc. – which boosts the local economy a little. But there’s not a lot of it, and the workers live elsewhere and car-pool into the City because they cannot afford to live in the City, and so they won’t spend their money in the city, except for a sandwich if they forgot to bring their lunch. And sure, high housing costs are generating some local tax revenues – but at what cost?

The solution is to let the market correct this bizarre phenomenon of rents (and more broadly, housing costs) strangulating the City. The Federal Reserve could help by ending its asset purchases and by raising short-term interest rates at tad. This would speed up that process of curing the City of the Housing Crisis.

Sure, some big landlords might walk away from the properties and let the lenders have the collateral. And some small landlords might too. But lenders and investors got paid to take those risks, and they pocketed the income from interest and fees for years, so it would be their turn to eat the losses. They will eventually sell the properties, and the new landlords with a lower cost base can make those properties work with lower rents. And tenants would have more money to spend on other things in the City.

Once housing costs become reasonable, some folks will come back, and new folks will arrive, and businesses can hire and thrive, instead of having to pack up and leave or shut down, and just maybe a new vibrancy might emerge. And that’s of course when the next boom will start in San Francisco’s boom-and-bust cycles, along with all the ultimately self-defeating housing craziness…. OK, I give up.

The massive Pandemic shifts that triggered plunging rents in the most expensive cities and surging rents in cheaper cities are still on display. Read… Exodus from Big Expensive Cities Running out of Steam? Maybe. But Rents in San Francisco & Los Angeles Hit New Multiyear Low

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