My wife and I face the same basic issue as the city of St. Paul. Fix it up or tear it down? For us, it is the unsatisfactory back porch on our 109-year-old house. For the city it is the increasing number of deteriorating vacant houses.
The question is the same, but the context of the decision is different. Our porch is a classic “private good,” as economists use the term. For the city, the houses are a mixture of “private good” and “public good,” again as economists use the term.
Some details clarify the difference. My wife and I own the house and live in it. It has a two-story porch that was once open but enclosed decades ago. It sits on uneven footings rather than a basement. There are 19 drafty, rotting, single-pane windows. The rim joists are rotting. The floor slants. There is no insulation and birds peck through the rotting soffits to nest above where we iron clothes.
We want the space, so eventually we need to either fix up what we have or tear it down and build something new. Our house is a private good, in that we own it and we use it. We can keep others out. We have to pay for any improvements and we enjoy the benefits thereof. Subject to the building code, we get to decide what to do and how to finance it.
Other than the birds losing their home, the aesthetics of the view our neighbors get, and the slight increment in real estate taxes paid to local government, no one else is affected by what we decide.
The situation for the city is much more complicated. Derelict houses are largely privately owned. Some are owned by individuals who once lived there, others by landlords. Mortgage lenders that foreclosed own many more. Some vacant homes are still in the process of default or foreclosure, with the title uncertain.
Some are in relatively good shape. Families could move in immediately. Others are habitable, but need work. Most probably don’t comply with current building codes in at least some way. Some have been trashed, with only the shell intact. Others are in even worse shape with rotting interiors and buckled foundation walls. The condition of any such vacant houses deteriorates over time.
Empty houses have major “external costs”: A deteriorating house lowers the values of other occupied houses in a surprisingly large radius, with the next-door neighbors hurt the most. Crime becomes more common in neighborhoods with such blighted homes. Neighborhood businesses see their clientele shrink.
Local government has a direct interest. More police and fire protection is needed in neighborhoods where houses stand empty. The tax base shrinks. Schools see declining enrollments.
Economically viable neighborhoods with stable property values have elements of a “public good,” as does public safety. But owners of vacant houses, however blighted, still have an economic interest in their properties. Hence the public good-private good mixture in the problem.
The complication is that important decisions are split between private owners, often mortgage lenders in some other state, and local government. Split decisions like this often result in wasted resources.
People still need housing. If the value of a habitable house exceeds the cost of making it serviceable, society as a whole would benefit from fixing it up. If not, and the external costs of it standing empty are greater than demolition costs, it should be torn down.
Getting incentives right is once again the problem. The St. Paul City Council recently enacted a rule requiring existing owners of derelict houses to fix them up before they can even be sold. The intent is to force property owners to eliminate external costs of the worst houses and to prevent buyers taking on homes with problems that are likely to overwhelm them.
The effect is largely negative. It sharply raises the cost of houses whose reoccupation would benefit society. In the existing economic climate, such higher prices makes it harder to sell these houses. It makes them less attractive to potential owner-occupants who might fix them up using sweat equity. It makes them much less attractive to entrepreneurs who might buy them to rehab and resell. It helps perpetuate the surplus of unsold houses of questionable value that hangs over the entire comatose national housing market.
Moreover, given ubiquitous government budget problems, the city does not have funds to tear down houses not worth fixing. And the number of these grows weekly, accelerated by the perverse effects of the “fix before you may sell” ordinance.
In the real economy, as opposed to the financial one, we face a paradox. There are families that need housing. There are houses worth rehabbing. There are 5 million people without jobs.
Not many people have the skills to work on the capital-intensive highway and power grid projects funded by the stimulus package. But millions of people can mud drywall, tear out old linoleum, replace windows and shingle or paint.
What we have here is not only market failure, but government failure. In the meantime, blighted neighborhoods get worse, day by day.
© 2009 Edward Lotterman
Chanarambie Consulting, Inc.