Apartments are occupied by money, not people
“So, Watson,” Holmes said, filling his pipe with a particularly vile shag that he sometimes favored, “you have been sufficiently enterprising as to visit brother Mycroft to have him explicate the science of securitization, a journey about which you were pleased to post.”
Mycroft was always willing to expound upon money
“You were away, working on a mysterious matter –”
“My dear fellow, I entirely approve! With all thy getting, get wisdom, eh? Indeed, it was via brother Mycroft that you came into knowledge of real estate developer Professor Moriarty and his urban land partnership.”
Watson continued to be astonished that Holmes would even consider investing with Moriarty
“Perhaps you did not know that it was via a former associate of his, Colonel Sebastian Moran, that I learned the even more fundamental principle, in financial terms, apartments are occupied by money, not people. Allow me to illustrate.”
“In the future, people will look up things electronically.”
He gestured, and a slide appeared.
“Yes, that seems familiar. Urban land’s value is the residue of post-improved property minus cost to improve it.”
Holmes nodded. “In turn, that post-improved value is defined by Net Operating Income divided by the Weighted Average Cost of Capital.”
Watson nodded. “Lowering the cost of capital is the reason Musgrave and others follow the ritual of assembling the financing quilt.”
Complexity is why housing finance consulting detectives are so well paid!
“Now we are ready for the monograph, modest though it be. How does a property create Net Operating Income? Particularly an affordable property?”
“Renting to a resident,” Watson said.
“Not just any resident, mind you, but a rent-paying resident.” Watson clicked his thumb and a new image appeared:
The first thing we do, we move in the resident
“An occupied apartment consumes operating expenses — heat, water, power, maintenance and administration — simply to attract the human being to move in. We thus actually expend money before we collect anything.”
Having the resident as occupant means we spend operating costs
“But collect we do — and in affordable housing, we have a financial partner — the government.”
Government subsidy is critical
“Subsidy,” said Watson, “the fifth kind of money.”
“Both the best and the worst,” Holmes said.
“It was the best of posts, it was the worst of posts.”
“Subsidy is the best because there ought to be no risk of non-collection. It can be the worst form of income because it breeds a dependency schema, and if government capriciously or cynically refuses to fund its obligations, the property has no even tolerable alternative. When one has to sue the sovereign, one is always fighting uphill.”
And the sovereign has better equipped troops
He shook himself back to the present. “Nevertheless, the effect of occupancy is to generate Net Operating Income (NOI). Now” — he tapped the flat-screen monitor to emphasize the point — “how do we maximize NOI? Or more pointedly, given that we have an occupied flat of affordable housing, what influences the property’s operating cost?”
Watson pondered. “Household composition. How many people live there, of what age and family configuration.”
“Correct. And these are largely invariant of household income.” He held up his hand, forestalling an objection. “Yes, better properties have higher maintenance standards, and these are correlated with the income of their renters, but the cost of delivering the space is roughly the same regardless of whether two or six people live in the apartment.”
Checking the operating budget
“Consider now the income side. Remarkably, income depends not on how many people live in the apartment, but how rich they are. This has numerous consequences. Given the choice, an owner always prefers to rent to the richer family.”
The higher the family’s income, the greater the NOI.
“That certainly sounds elitist.”
“It is neither elitist nor racist. It is simple self-interest: richer people will pay more for the same square feet. Second, in properties benefiting from a means-tested subsidy, what the resident pays becomes more or less irrelevant: the owner cares only that the subsidy makes up the difference.”
“Third, when people are very poor, they can only afford housing if they are crammed together in a closed space, gradually building up enough money to cover the minimal operating costs. Thus the overcrowding, under-maintenance, and squalor of slums is economically rational. As a certain blogger wrote:”
The private sector has a straightforward and economically rational solution to the problem of unsustainable renters, consisting of the following steps:
Compress rentable space each unsustainable renter occupies. This has the effect of increasing the revenue per unit.
Reduce operating expenses to a bare minimum. This results in an accelerating cycle:
Inadequate operating expenses create deferred maintenance and a decline in property physical condition.
Declining property condition creates lower curb appeal, difficulty attracting good tenants which creates acceptance of marginal tenants.
Accepting marginal tenants creates higher collection/ bad debt losses, higher maintenance, secondary problems (e.g. vandalism) which means higher-income tenants move out.
Loss of market tenants creates lack of rentability creates stigmatization of the property.
Adverse-select the worst location because these have the lowest acquisitions/ operating costs and the tenancy residing in them has the fewest alternatives and the least economic imperative for (as an example) transportation and public services.
The long-term end result, of course, is a slum, and it is economically significant that exactly the same slum-creation economics recur in cities going back two thousand years.
“Slums are thus an efficient wealth-extraction machine.”
Slums are a giant wealth-extraction machine, distilling human beings to their financial essence and pumping that value off-site. To understand this, imagine that money glows green and people are merely shades and phantasms, as if we are all seeing with X-ray eyes:
Think of it as money and it all becomes clear
Each of us is thus a faintly gray form with a bright rectangle on our hips (wallets) or by our ribs (handbags).
We’re here for the rent
It doesn’t matter how many are behind the shade, what matters is how much they have
“Either way, economic nature abhors a vacancy. Even as there is clandestine occupancy, an adventure of the Empty House as it were, such as that practiced by Colonel Moran.”
“Struggle though you may, Colonel, you must pay the rent.”
“Markets relentlessly pursue the highest income residents. Which is why” — he shrugged, and the glint of challenge was in his eye — “the effort to create affordable housing must likewise be relentless.”
The fight for affordability is never-ending
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