Profiling Tenants and Landlords for More Efficient Rental Markets

Commentary, David Seymour, Housing Affordability, Role of Government, Saskatchewan, Uncategorized

Now that the Regina City Council rejected the proposal that it regularly inspect rental properties, the campaign for better housing in North Central has actually taken a step forward. No doubt, housing is a key building block in the vision of a revitalized North Central, but Rental Unit Licensing (RUL) would have done as much harm as good.

To understand what type of policy will work, it helps to understand the relationship between tenants and landlords. What exactly do they do for each other? Landlords take on most of the risks and responsibilities of home ownership. They raise the deposit, (usually) secure the loan, do all the paperwork and insure against catastrophic events such as fires.

Landlords do this in return for monthly payment from tenants, and they hope to make a long-term return on their investments. Landlords voluntarily bring their time, funds and appetite for risk to the rental market. They choose to, presumably, because the return is better than other things they could do with their money such as investing in stocks or just spending it.

Any forced increase in maintenance costs would compel landlords to re-evaluate their participation in the market. If they found that the conditions have shifted away from their favour, they would likely exit the market or seek better returns from higher rents. Ideas like RUL are probably why economics is called β€œthe dismal science.” It is not pretty; it is just real.

The Milwaukee report cited by Regina advocates of RUL actually recommended against it, because of these types of results. Indeed, the only people who testified for it were people paid to administer RUL programs in the United States.

That is not to say that nothing can be done, just that Rental Unit Licensing would have hurt as much as it would have helped. The proposal revealed just how much distrust and resentment exist between some tenants and some landlords. In the Leader-Post, the North Central Community Association head, Rob Deglau, said tenants would happily pay extra fees for the government to inspect housing, presumably because landlords are thought to be inherently untrustworthy. Meanwhile, Jason Hall of the Landlords Association suggested that some tenants should be living in jail. The problems are not the result of character flaws, but of a market failure.

Strictly defined, market failure occurs when doing what seems best leads to a sub-optimal result, usually because of a lack of information. Rental markets have two serious information problems. The first is a lack of knowledge about the reliability of a potential tenant or landlord. The second is not knowing how much of the damage to a property or how much of the cost of maintenance is due to negligence on the part of the landlord or tenant as opposed to normal wear and tear.

Because of this information gap, there is an incentive for tenants to get maximum use from the property and to pass on to the landlord any costs that result. The landlords have an incentive to spend as little on maintenance as possible. The result is resentment and distrust and, more importantly, high maintenance costs and poor housing. This is a problem government can help to solve.

In theory, traders on eBay face a similar problem. They trade with strangers they will likely never meet, often with large sums of money or valuable goods hanging in the balance. Theoretically, this is a classic market failure where it is safer to be dishonest than risk trading. EBay solved this problem by giving every trader the opportunity to have an online profile. After a trade, each party can give feedback on the other, which builds up a profile. The incentive to be honest is that traders will trust someone who has a good profile.

Just as eBay solved its market failure problem, the City could increase the efficiency of the rental market with a profiling scheme for landlords and tenants. A strong profile would lead to more rental or tenant opportunities, perhaps with better terms, and it would not create a winner-loser dynamic. The possibility of a strong profile would change the current negative incentives into positive ones. Being a good tenant or landlord would become more important than passing costs on to the other party.

Rental Unit Licensing was a well-intentioned policy that would have had poor results. Using smart policy from the cutting edge of business, government might still make the problem go away.