RDP 2018-03: The Effect of Zoning on Housing Prices 2. Related Research

Several government, academic and private sector studies have pointed to restrictive zoning as being an important factor in Australia's high and rising housing prices. These include OECD (2010); Kulish et al (2011); Productivity Commission (2011, 2017); HSAR Working Party (2012); RBA (2014); Senate Economics References Committee (2015); CEDA (2017); Stevens (2017) and Daley, Coates and Wiltshire (2018), among others. Most of those papers that make policy recommendations call for increases in land supply and changes to zoning rules to allow for greater housing density. A problem with that recommendation is that it implicitly weighs benefits against costs, but these are not based on quantitative evidence. This paper tries to partially fill that gap by quantifying the effect of zoning restrictions on housing prices.

Several previous studies have focused on variations in zoning regulations. McIntosh, Trubka and Hendriks (2016, p 52) regress Sydney land values on zoning regulations and numerous other controls, including suburb and distance to transport. They find that rezoning a property from detached housing (a floor space to land area ratio of 0.5) to a 5- to 10-storey apartment block (a floor space to land area ratio of 4) would, on average, increase the value of land by 167 per cent. In an earlier, simpler study, the Centre for International Economics (CIE and ARUP 2012; CIE 2013) finds effects from a number of different types of zoning restrictions. In total, these restrictions are conservatively estimated as imposing a cost of $8 to $16 billion in Sydney, which is small relative to the value of the housing stock. There have been many international studies of variations in regulations; these often find large effects on prices. Gyourko and Molloy (2015), Furman (2015) and Hilber and Vermeulen (2016) provide overviews of this research.

In contrast, Ong et al (2017) examine variations in the number and types of planning controls used by local councils and find they have little effect on housing supply. This may be because, as they discuss (p 50), their planning controls do not reflect variations in zoning or density measures. Instead, their estimates place substantial weight on the number of controls used, including a variety of controls that we would not expect to have a material effect on supply or prices – for example, relating to caravan parks, native vegetation and so on.

In addition to study-specific issues, there are some general limitations with a focus on variations in regulations. First, most of the papers cited above estimate the effects of differences in regulations, whereas we are interested in their overall effect. It is often not the variations in zoning that matter, but their average level. As Kulish et al (2011) discuss, a uniform restriction (for example, a height limit) will have a much larger effect in the city centre than in outlying suburbs. And unchanged restrictions will bind more tightly as demand grows. Second, regulations vary from one jurisdiction to the next, which makes it difficult to compare, aggregate or extend estimates. Third, variations in zoning are often a function of variations in prices, as well as a cause, an issue emphasised by Saiz (2010).

In their literature survey, Gyourko and Molloy (2015) suggest that these difficulties can be avoided by comparing prices to the marginal cost of supply. This is the approach taken by Glaeser and Gyourko (2003) and Glaeser et al (2005), who examine single-family detached dwellings in US metropolitan areas. They find that the wedge between marginal costs and prices is large in markets where narrative evidence suggests zoning restrictions bind tightly (typically big coastal cities) and negligible in others where restrictions are thought to be loose, such as in the south and mid-west. We discuss this approach and apply it to Australia's largest cities in Sections 3, 4 and 5.

Others have already applied this approach elsewhere. Lees (2018) studies cities in New Zealand. Cheung, Ihlanfeldt and Mayock (2009) look at metropolitan areas in Florida and Sunding and Swoboda (2010) examine southern California. In an undergraduate essay, Turnbull (2005) examines the Sydney housing market. These studies all find large effects of zoning for some cities. As we discuss below, we have better data than was available to these researchers. Nevertheless, our estimates are similar.

High-density housing raises different issues and calls for a slightly modified approach. Glaeser et al (2005) compare the market price of apartments in Manhattan to the marginal cost of adding an additional floor to a development. They find a large gap between prices and marginal cost, from which they conclude that regulatory restrictions were responsible for at least half of the price of apartments in Manhattan in the early 2000s. Cheshire and Hilber (2008) apply this approach to commercial property in Europe and find that restrictions on supply increase office rents several fold. We apply this approach to Australia in Section 8.