This past November, St. Paul voters came together across ethnicity, class and zip code to vote in favor of keeping our neighbors in their homes and adopted a new rent stabilization policy. This policy — crafted by tenant advocates, policy experts and community members, then voted into effect by a clear majority of St. Paul voters — will hold annual rent increases to 3 percent, which is the historical average increase over the past few decades.
Few policies outperform rent stabilization when it comes to increasing neighborhood stability. But the idea irritates your amateur economist friend, and now a few developers have threatened to pack up their toys and leave the sandbox. Only, their math doesn’t check out.
I love St. Paul. I want what’s best for my city. I grew up in Highland Park eating corned beef on rye at Cecil’s, enjoying the paths along the Mississippi and playing at the Little League fields on South Cleveland. I went to law school in St. Paul, and I’ve spent the past 30-plus years as a commercial real estate finance lawyer, representing a variety of clients including those building multi-family projects. I’ve managed the real estate function for large company portfolios, which included construction, development, leasing, financing, purchases and sales, so I’ve seen a thing or two when it comes to these matters.
It’s important for us all to deal in facts, not fear, as the City of St. Paul works to implement the rent stabilization policy that voters approved. Certain developers are now fanning the flames of fear and blaming St. Paul voters in an attempt to hold our city hostage. As the story goes, either we allow them to generate unfettered profit at the expense of community or they’ll disinvest from St. Paul entirely. No one has provided concrete proof to link project pauses or developer flight with rent stabilization. Development takes time, and projects often pause — with now the most likely cause being due to material and labor shortages during a global pandemic.
The reality is that St. Paul’s rent stabilization policy brings stability to everyone, something just as important to the economy as housing supply. Despite the cries from developers, St. Pauls’ rent policy balances the interests of the community and the developers that invest in it. It will allow developers to finance projects in line with traditional financing parameters and enable residents to stay in their homes without fear that they will have to pay ever-increasing rents. We should think critically about the outsized role we allow developers to play in this discourse and which ones are the right developers for our communities.
Those well-versed in housing finance know that when a developer explores financing options, a pro-forma is created that projects costs and income over a 10 or 20 year period. In my experience it is rare that these pro-formas include rent increases greater than 3 percent. A developer who projects rapidly spiking rents every year is signaling less certainty and therefore a riskier investment to its potential investors and lenders, while a developer who stays within historic market margins — such as 3 percent — signals more certainty and will attract more capital.
[image_caption]Tim Walsh[/image_caption]This translates into how projects are valued and financed. There are many methods, but typically it is based on applying a capitalization (return on capital) rate to net operating income (NOI), calculated by subtracting expenses from rent income. The capitalization rate is based on the perceived risk or certainty of that cash flow level being maintained. A higher return offered or required signals perception of higher financial risk and therefore the market designates a lower value of the project. At the outset of every project, developers must determine what kinds of returns they need in order to get investors and/or lenders on board.
I may be a lawyer, but we’re not here to re-litigate the decision that St. Paul voters made together. The City of St. Paul must transparently implement the policy that voters approved, without presupposing any specific outcomes based on monied interests. I am proud to be from a city that has set a new standard for housing justice nationwide. Now, let us be guided forward by informed dialogue, real data, and an unwavering commitment to honor democracy and the will of St. Paul voters.
Tim Walsh is a commercial real estate finance lawyer from St. Paul.
Mr. Walsh, you clearly don’t understand the basic simplicity of supply and demand and how it drives housing prices down.
Actually, thank you, I’ve been making this same observation for years and recently here on Minnpost, only without your authority and credibility.
In a recent comment thread about this subject and every comment thread about this subject rent control is typically attacked as an anathema to the law of nature and economics. Despite a complete absence of data or evidence free market aficionados and others will claim that anything that impedes development will negate the inevitable price controls imposed by new development. Anti-rent control development sponsors simply double down on their faith based claim when asked why and how the market became so unstable and unaffordable in the first place. In a recent discussion a rent control critic went so far as to suggest that his development claims were actually comparable to climate science while my objections were a form of denial.
So yes, developers threatened to leave the sandbox if this ordinance passed, and some of them are pretending to follow through on that threat now in order to extract concessions. However some of us have pointed out the fact even if some developers walk away from the second largest and most vibrant city within hundreds of miles, others will no doubt fill the void. And stable affordable housing has never killed a city.
Tim Walsh has unpacked the elephant in the room around this rent increase/rent control matter better than anyone has or could. He’s an insider who knows full well how development, local, state conditions play out in terms of what renters pay for rent. I applaud Mr. Walsh!
Let’s assume supply and demand economics apply to today’s rental climate in St. Paul and Minneapolis, as Mr. Udstrand insists it does. It would reflect workers’ wages and projected wage growth and “life on the ground.” Well, it doesn’t. It only reflects developers’ takes on cost to build, cost of regulation, etc. etc. etc. (oddly, these assertions aren’t backed up with empirical data) I just sat in on a very professional presentation by a higher-up in the development community and his proposal to make the financing formula fit its development balance sheet.
Mr. Walsh has taken a balanced approach to rents and rental policy in a major metropolitan community. It’s long overdue. He’ll probably lose his job over it — but I hope he knows it will be worth it in the long-term.
We should point out that the Minnesota Senate has proposed to overturn the will of the voters in last November’s election FOR rent control amidst developers’ belly-aching. Election and voter nullification has no chance of winning in the great state of Minnesota.
The one thing that the author fails to see is there is a choice for the folks investing their money in rental property. When you rent apartments, houses, duplex rentals, you are looking for the best return on your investment. Artificial caps on what you can charge for the property that you bought, maintain, insure and pay taxes on, turns off many investors.
We shall see what happens in the next few months, if the current situation continues, maybe it is rent stabilization. Owners of rental spaces have options, they will choose what is best for them.
First, framing critiques of the new policy as “we allow them to generate unfettered profit at the expense of community” or that anyone with a different opinion can be dismissed as “your amateur economist friend” makes it clear that this isn’t going to be a good-faith evaluation of the policy.
The crux of the facile argument presented in this article can be wrapped up here “In my experience it is rare that these pro-formas include rent increases greater than 3 percent”. Most proformas show that given a very conservative scenario, investors/lenders can still expect a minimal return (based on the judgment of that investor/lendor). The policy’s maximum increase of 3% means any adverse scenario will make the investment untenable. That 3% number being viable in the past is largely due to it being around what had been seen for inflation over the last 20 years. The fact it is now about 8% is going to make that historic 3% target meaningless very quickly.
Concider this scenario for somebody needs to account for an average of 6% inflation over the 10-year investment period but rent increases are capped at 3%. If for the ROI the apartment at the start could be rented for $1500 6% inflation would mean after 10 years the rent would need to be $2800. If the investors know they are capped at 3% they would need to start rent at $2000 to get to that same $2800 at the end of 10 years.
The author also fails to correctly relate the cause/effect of risk/capitalization rate. Quickly spiking rents can signal poor management for that particular developer/managment when those spikes are outside “historic market margins.” However, artificially locking everyone to 3% makes that measure of risk meaningless to investors because it no longer signals anything. Thinking that forcing a 3% increase is signaling less risk is like saying reprogramming the speedometer in your car to never show more than 25MPH means you are never speeding.
One of the most irritating tactics of the defenders/apologists of the St. Paul Rent control law has been to lie about the facts – typically the argument has been that there is ample evidence from other cities that what st. paul passed will work and will not affect new construction and will yield great benefit – however these same people know that there is no research on a law like St. Paul because no one has passed such an extreme policy – like it or not St. Paul has become a test case for what such a radical policy can do.
In this article, the truth-twisting has jumped to a new claim: “No one has provided concrete proof to link project pauses or developer flight with rent stabilization. Development takes time, and projects often pause — with now the most likely cause being due to material and labor shortages during a global pandemic”
Firstly, if project pauses were due to material and labor shortages, St. Paul would not be an island in the metro experiencing a near shut-down of new multifamily housing starts. Why is Minneapolis not affected by these same dynamics? What could be different between the two cities? Hmm that is a puzzle for the ages. However the author choses to ignore the public statements, on the record, of developers who have stated that they are pausing their projects because of the current rent control law. Period.
This article by Bill Lindeke puts to rest the fantasy that you can blame the cratering of the St. Paul housing market on supply chain or labor issues.
https://www.minnpost.com/cityscape/2022/03/in-first-months-since-passage-of-st-pauls-rent-control-ordinance-housing-construction-is-way-down/
a few other random quotes further disputing the authors fantasy:
Ryan companies, when they pulled 3 thousand units from the Highland project: “The City and Ryan took great care in creating a finance plan that leveraged market rate developments to provide funding to support deeply affordable housing creation both at Highland Bridge and throughout Saint Paul,” a company executive told KARE 11. “The rent control policy threatens the funding sources for market rate projects and therefore the overall finance plan for the development.”
Exeter Development: “”We, like everybody else, are re-evaluating what — if any — future business activity we’ll be doing in St. Paul,” said Jim Stolpestad, who has worked on developments in St. Paul for 30 years as founder of Exeter, the company behind major projects like Grand Avenue’s revamped retail corridor and new luxury apartments in the Cathedral Hill neighborhood.
“We have two projects with 260 units where the capital stack was all put together and ready to go, but when the ordinance passed those investors went away,” explained Kou Vang, president of JB Vang Real Estate. “A lot of our investors were family funds, stuff of that nature, and they still went away.”
Mr. Hess, unfortunately Lindeke’s article was a product of specious reasoning and selective factualizing. When pressed Lindeke was unable to support his basic premise in that article beyond circular repetition.
Your analysis and claims here simply ignore Mr. Walsh’s article while pretending to refute it.
I agree with the author that we need facts, informed dialogue, and data to help guide the discussion about how best to modify and/or implement the rent control policy passed in November. One of the frustrations I have had is that we don’t have any good information. Even now, there still isn’t any fine-grained data (e.g. at the neighborhood scale) on St. Paul rents, for example, how much they’ve gone up or down over the years. At the Mayor’s task force, we’ve been trying to ground our conversation in as much data and research as we possibly can, and even there CURA has promised this information, but admitted it’s difficult to gather and we haven’t seen it yet.
In the vacuum of concrete information, we have to make do with what we have, which is why I think the patterns of building permit data over the last year or two are a solid footing for the conversation about whether rent control has affected new construction. (See HUD data here: https://socds.huduser.gov/permits/index.html) The latest monthly permit count shows St. Paul with zero new units of housing for February, while Minneapolis has permitted 695. Apart from that, testimony from a wide range of people working in the housing industry is consistent about the stark effect of this policy on the housing supply, reducing market-rate housing construction in St. Paul to almost nothing. Though he comes to the wrong conclusion, the author of this piece does a good job here explaining why this happens, detailing the ins-and-outs of risk evaluation for lenders. In my opinion, the lack of an exemption for new construction is a major problem for St. Paul if we want abundant housing and widespread affordability. I hope that the City Council can work with the Mayor’s office to pass some changes soon.
We have decades and of data and information and incontrovertible evidence that we HAVE an affordable housing crises and that rents nationwide have been increasing. This proposal passed because people in St. Paul and MPLS are well aware of these increases so let’s not suddenly pretend we don’t have enough information.
You can’t claim we don’t have enough information after decades of housing cost increases to decide whether or not we need rent control, and in the next breath claim that we have more than enough evidence and information to condemn rent control after just three months. The comparison between MPLS and St. Paul permit applications is a perfect example of the statistical fallacy that assumes causation from correlation. The drop in permits in St. Paul is obviously part of a deliberate campaign to overturn or weaken rent control, not merely a natural outcome resulting from rent control. THIS is why three months worth of data cannot be sufficient.
obviously part of a deliberate campaign? But Mr Walsh said it’s just labor shortage and supply chain issues (which just happens to be only hitting St. Paul).
Michael, more than one thing can happen at a time.
It’s not just economics at play here. It’s the perception on the part of developers that St. Paul is not a friendly place to invest. As a small landlord, I am fed up with the attitude of not just St. Paul politicians, but the bleeding heart liberals in Highland Park who view landlords as exploiting innocent tenants and vote for this kind of stuff.
Rent control is suppose to provide stability for everyone???? It may provide stability for those renters who are lucky enough to currently reside in a rental unit. What about someone moving to St. Paul, who won’t be able to find any place to rent at any price, because all the existing units are being hogged by people who were lucky enough to live here when this ordinance was enacted, while no new apartments are being built. Or how about the stability for low income homeowners whose property taxes are going to go thru the roof, because of the decline in value of apartment buildings and the stagnation of the property tax base? Or how about the stability of renters who are living in apartments that get converted to condos because landlords can’t make a decent return on their investments?
Mike, some of us have been around long enough to notice that you’ve been complaining about anti-business liberal hostility for a very long time and way way before rent control. Yet, you continue to own and landlord property in St. Paul rather than relocate to a more hospitable city run by Republicans.
Frederick Melo’s story in the PiPress this morning details an alarming drop in permit applications over the past year or so. We may be seeing a little capital strike in response to the rent control ordinance.
What strikes me most about the rent control argument is that it is happening because housing is very scarce in Saint Paul. Even before rent control not much was getting built, because it is way too difficult, time consuming and expensive to get a project approved in Saint Paul. Maybe that’s why we’re so reliant on large developers and their financial backers to get housing built.
A better strategy might be to ease the permitting process and find ways to encourage more small developments and small developers all around the city.
You can’t fix the housing shortage if you won’t allow more building.
it provides some sense of certainty for both renters and their landlords, as well as developers.
John, the flaw with your observation is the assumption that new housing never gets built once rent control goes into effect. While Lindeke and others may have use believe that the current tantrum some developers are throwing is a permanent feature of St. Paul’s housing scenario, (after just 3 or 4 months of “data”) no tantrum lasts forever.
Builders and developers et al spent something like $3 million in an effort to defeat this initiative and lost in both cities. Part of that campaign was a threat to take their developments elsewhere, this is just a last ditch effort to bully someone in St. Paul into changing the ordinance into something more to their liking. They’re manufacturing a self full filled prophecy. This effort was anticipated in the ordinance design. What Mr. Walsh is explaining here is the fact that this is the same city developers made money in before, and they can’t leave all that money on the table indefinitely. You can only build so much in MPLS and there is no other alternate city of 300k around here you can build in. Walsh is basically telling us that developers will crunch the numbers and return to St. Paul once they get ver the sting of this defeat. That makes a lot more sense than the prediction that developers have now left St. Paul forever.
We’ve also documented population drops in MPLS and St. Paul according the census. One reason the simplistic supply and demand models fail here is simply because inventory is controlled and manipulated. This is why a model based on the assumption that developers will build like automatons until they loose money (hence reduce prices) is so facile. It’s a complex scenario, the idea that it’s ALL about rent control and rent control can only damage the market is based on spurious, simplistic, and unproven claims and observations.
Minneapolis
Population, Census, April 1, 2020 429,954
Population, Census, April 1, 2010 382,578
St. Paul
Population, Census, April 1, 2020 311,527
Population, Census, April 1, 2010 285,068
Both cities are growing . both cities need more housing . Policies that discourage new housing or encourage removing housing from the rental market are a bad idea.
Dude, the population decrease was between 2020 and 2021, and it was reported here in Minnpost: https://www.minnpost.com/glean/2022/03/hennepin-ramsey-counties-see-considerable-population-declines-in-2021/#:~:text=Hennepin%20County's%20population%2C%20which%20includes,new%20census%20estimates%20released%20Thursday.
Dude you said Minneapolis and St. Paul. Those are county level statistics – the core cities have shown sustained growth. You can’t extrapolate all the declines of Henn or Ramsey into the % living in Minneapolis and St. Paul – and even if you allocate a % ofthem,, core cities show substantial growth over the last 10 years. They need more housing – so policies that prevent that are bad.
Thank you Michael, I stand corrected on county vs. city population growth.
Just curious — does anyone know the percentage break between ma and pa rental housing and larger multi-housing units in St. Paul?
Hi, Anthony, I don’t know exactly the St. Paul split between the Ma and Pa rental ownership and the larger/corporate model. But at a national level, the Pew Research group has some interesting conclusions. “In fact, 72.5% of single-unit rental properties are owned by individuals, while 69.5% of properties with 25 or more units are owned by for-profit businesses.” The whole study is worth a read: https://www.pewresearch.org/fact-tank/2021/08/02/as-national-eviction-ban-expires-a-look-at-who-rents-and-who-owns-in-the-u-s/
Thanks for this, Elizabeth. I’ve wondered to what extent the discussion about what will happen with multi-unit housing overlooks the question of what ma and pa landlords with do once rent stabilization is enacted. The choice between continuing to own rental property with its attendant hassles and selling out in favor of dumping the proceeds into an index fund is one that I suspect a lot of ma and pa operators are considering. If they sell, who buys? What happens to the overall supply of rental housing?
Roughly to the point:
AMERICAN ECONOMIC REVIEW
VOL. 109, NO. 9, SEPTEMBER 2019
(pp. 3365-94)
Article Information
Abstract
Using a 1994 law change, we exploit quasi-experimental variation in the assignment of rent control in San Francisco to study its impacts on tenants and landlords. Leveraging new data tracking individuals’ migration, we find rent control limits renters’ mobility by 20 percent and lowers displacement from San Francisco. Landlords treated by rent control reduce rental housing supplies by 15 percent by selling to owner-occupants and redeveloping buildings. Thus, while rent control prevents displacement of incumbent renters in the short run, the lost rental housing supply likely drove up market rents in the long run, ultimately undermining the goals of the law.
Real quick: another factor negating the claim that a mere drop in application or permits within three months can be sufficient data; is simply the fact that not only is it mixing causation with correlation ( i.e. assuming an organic connection between rent control and permits based on timing alone) but it only looks at one side of the equation.
The claim here isn’t that St. Paul voters are putting developer and contractors out of business; the claim is that these guys will take their business elsewhere. For this claim to be verified any drop in permits and building in St. Paul must be accompanied by an equal or greater increase elsewhere, simply noting the drop in the St. Paul can’t verify the claim. Granted, this shift to building elsewhere may or may not yet happen, but it hasn’t happened in the last three months and it could take years for that shift to emerge.
This is really something. New apartments are down 80% since this ordinance passed. There is a cause, the ordinance, full stop. I feel you’re getting into “stolen election ” territory trying to question the immediate effects of this ordinance. It has, as was obvious it would do, stopped apartment construction in St Paul. Supply has been constrained, which as this ordinance was written should be seen as one of the intents of the ordinance. So now we get to see what stopping new supply of apartments does in St Paul. I don’t get why that was a progressive goal, but it was so obvious that this would be the result from not exempting new construction that I think it’s right to hang this effect on the authors of the ordinance and their apologists.
St. Paul sure has stability – a stable housing unit growth rate approaching zero.
I keep hearing “3% caps create stability for owners/capital” but how does that work in a our unstable interest rate environment? People invest in assets like housing as a hedge against inflation among other reasons. The Fischer Equation (real interest rate = nominal interest rate − inflation rate) is Econ 101 material and says that in our current inflation environment, most certainly above 3%, you can have a positive 3% nominal interest rate with a negative (and possibly significantly negative) real interest rate.
Mr. Steele… people live in apartments and pay rent. Stable and predictable living expenses provide a variety of obvious advantages for those people.
People do understand that investors of all kinds are just a segment of the economy right? Most economic participants are NOT living off of investment income. And everyone realizes that investment returns are never guaranteed right… you always take some chances when pay your money so “risk” and uncertainty are a new feature of investment that rent control just created.
Rent gouging happens when housing is too scarce. Rent control does not address the cause, and will not fix the problem.
Most of our rental housing is in buildings of 8 or fewer units. Big developers don’t build or rehab many of these. Smaller developers who want to do these projects have to waste an awful lot of time and money jumping through hoops to get permits. That’s an unreasonable obstacle.
Rent control controls rent increases, no rent in St. Paul will increase more than 3% this year for the first time in decades. No other strategy has produced that effective outcome.
Hi, Paul, I think if you read St. Paul’s implementation, you’ll see that landlords will have a mechanism to raise rents more than 3% – but they’ll have to jump through some hoops. It was covered in the Pi Press: https://www.twincities.com/2022/04/01/st-paul-rent-control-draft-rules-allow-landlords-to-self-certify-increases-over-3-percent-rent-cap-up-to-8-percent/amp/#aoh=16488712510343&csi=0&referrer=https%3A%2F%2Fwww.google.com&_tf=From%20%251%24s
And here’s a draft of those rules – they’re pretty complicated. https://www.stpaul.gov/sites/default/files/2022-04/StPaul_RentStabilization_Collated%20Draft%20Rules_DRAFT.pdf
Thank you Elizabeth,
I’ve actually pointed this out several times. These mechanisms to exceed 3% exist but that isn’t stopping landlords and developers from crying about being trapped with unsustainable rent increases. This is yet another fact that detractors keep ignoring when they manufacture their fear-based response. Nor are they talking about the fact that they are currently jacking up rents 50% – 100% before the rent lock goes into effect.
yet another problem with this law…. No one really knows if the proposed rules for 3-8% will be passed by city council or if it is, will the activists who wrote the law sue because “self certify” isn’t onerous as getting exception approval from the city…. Lots of unknowns.