Using Nation Wide Rent Caps to Combat the Housing Crisis?

When it comes to housing and rent policy, there is a lot to consider and weigh up, so that a consensus rarely emerges – this became evident quite quickly in the discussion between Caren Lay and Claus Michelsen. Here is an overview of the most important takeaways and points of discussion.

What are the central elements of a socially meaningful rent policy offensive? That was the kick off question for the discussion. According to Caren Lay, these include, above all, a massive expansion of social housing, a federal law against rent increases modeled on the Berlin rent cap (adjusted to local rent levels), stronger punishment of exorbitantly high rents, and the possibility of lowering high rents. Equally important, she said, is the introduction of an anti-speculation law to mitigate the overheating of the real estate market. The rent brake on the contrary is an inadequate instrument for limiting rent increases, Lay stated.

In general, it should be noted that housing is a basic need that deserves special protection. In an unregulated housing market, many people would suffer – an erosion of the social fabric and growing inequality would be the result. Reforms in corporate tax law and the financial market liberalization observed in recent decades had made the German real estate market more attractive, with large-scale investments by foreign players on the market driving up prices. As a result, construction often fails to meet people’s need for affordable housing.

And Claus Michelsen? He, too, pointed out that mistakes had been made in the past, especially in social housing construction. This affects above all the lower 20-30% of the income distribution. There was also agreement that the housing market has a major influence on how wealth and income distribution and social inequality develop. Unlike Caren Lay, however, Michelsen emphasized that while regulation does make sense to a certain extent – since supply cannot respond to higher demand in the short term –  instead of rigid intervention in the form of a rent cap, it would make more sense to tighten up existing instruments such as the rent brake. According to Michelsen, this instrument works better than its reputation suggests. A rent cap on the other hand could lead to lower investment in the housing stock and thus to lower quality. Private capital for climate-friendly renovations would then also be lacking.

And the indications that the rent cap in Berlin had led to a decline in the number of available apartments? Michelsen sees the breach of trust between landlords and investors on the one hand and politicians on the other hand as most problematic. Caren Lay, on the other hand, rejected conclusions, pointing out that the observation period had been too short to derive any consequences for action.

What else was important?

In particular, an active land policy pursued by policymakers is an important instrument in the housing crisis, Michelsen said. High land prices put pressure on construction investment projects – often these are only profitable if apartments are rented out in the upper price segment. In addition, according to Michelsen, the current land taxation system does not reflect how land values have changed over the past decades. That’s why he proposed land-value-based taxation.

Other instruments that would make more sense than a rent cap according to Michelsen: land taxes against speculation with building land, the introduction of a rent tax (rents remain unregulated, but high returns are skimmed off accordingly), the taxation of capital gains and a reform of the inheritance tax. Since real estate makes up the largest part of private wealth, and is concentrated among the top 10% of the wealthy, Michelsen says more thought should be given to this issue as well.

Instruments that Caren Lay brought into play: the introduction of a wealth tax and a related reform of the property tax, a reform of the inheritance tax and transactions taxes.

The topic of housing policy is hotly debated and politically charged. In particular, the overruling of the Berlin rent cap by the Federal Constitutional Court in April 2021 has caused a great deal of uproar nationwide. While a clear majority of 60.5 percent of those surveyed in an ING DiBa poll were in favor of a nationwide rent cap, there is little consensus in the political arena as to whether such regulation of the housing market makes sense.

The party Die Linke calls for a nationwide rent cap in its election program. The aim is to lower particularly high rents and put a hold to the recent rise in rent levels. At the same time, the party wants to promote social housing construction with 15 billion euros annually. Up to 250,000 social housing units are to be built each year. Representatives of the FDP and CDU/CSU, on the other hand, openly reject rent caps. Even among economists, there is still no consensus on the question of whether regulation of the housing market is sensible and necessary – and if so, in what form. But what are the most common points of contention?

On the one side are those who reject any rent controls, citing the efficiency of markets. Opponents of housing market regulation often argue that price controls would lead to excess demand and exacerbate scarcity by disrupting the allocation mechanism via prices. The panel of economic experts ‘Wirtschaftsweise‘ have also rejected regulatory instruments such as the Mietpreisbremse as ineffective in the past.

But whether the housing market is really a suitable example of the ineffectiveness of government regulation is questionable for at least two reasons. First, housing is not an arbitrary good, but a basic need with far-reaching social implications. Consequently, there are good reasons why an allocation of this good should not be based solely on individual willingness to pay, but also take into account other factors.

Second, the housing market is far from a perfectly competitive market due to various factors – for example, high transaction costs of moving, long duration of supply adjustment (construction times), limitations of supply due to scarce building land and bureaucratic hurdles – which makes the derived policy recommendation of a deregulated housing market seem less clear. For example, Achim Truger, for his part a member of the expert panel ‘Wirtschaftsweise’, commented the following: “…it should actually be indisputable that the free market does not work in housing. In many cases, market failures can be identified due to market power and time lags between demand and supply. So you can certainly justify a variety of government interventions – including a rent brake.”

In addition, there is growing knowledge that high rents exacerbate social inequality. This is suggested by a recently published study by the Hans Böckler Foundation, according to which high rents further reinforce the already existing income polarization in society. A study commissioned by the Forum in the past has lead to similar results. It is also undisputed that Germany is losing social housing. In the past twenty years alone, the stock has roughly halved. One of the reasons: after a certain period of time, the apartments that were once subsidized lose their social housing binding and migrate to the free market. Proponents of rent control want to cushion these undesirable social effects until the situation has eased through additional creation of new housing.

Problematic: In Berlin, where the rental market was drastically regulated at times by the rent cap, studies demonstrated a substantial decline in the supply of rental housing. How the economic effects of regulation can be brought into a maximally socially acceptable framework through the creation of new housing thus remains an open empirical as well as political question.

The detailed explanation of the economic debates on whether and how much the housing market should be regulated – here.

A Forum study on inequality in Germany, looking at the role of real estate wealth as a driver of social inequality- here.

A yet unpublished study on the main drivers of inequality in Germany, discussed in advance at our eighth New Paradigm Workshop – here.