Arie Dekker: How a growth mindset from councils will pave the way to affordable housing

COMMENT:

Directing councils to take a growth mindset and addressing their infrastructure financing issues will be key to delivering affordable housing for New Zealand, writes Arie Dekker.

A number of factors have contributed to housing affordability becoming a major political issue in New Zealand. Local government has an important role to play in solving the supply issue.

However, it needs strong direction on urban boundaries and requires support in its ability to solve the infrastructure financing issues that also constrain growth.

Most political decision making in New Zealand is centralised with local government playing an important, but reasonably limited role in the provision of public services and infrastructure. The limited remit is matched by a limited revenue base with the majority of revenue coming from rates paid by existing homeowners and businesses; and fees and charges. Within this construct, it is easy to see why funding growth is difficult for councils.

Local roading, amenities and potable and waste water services are key parts of infrastructure that local government is responsible for. This infrastructure needs to be maintained and new infrastructure put in place to support growth in towns and cities. Councils have struggled to provide this infrastructure for new developments at a rate that has kept pace with the demand for it – there are a number of reasons for this.

With a limited tax base and poor pricing mechanisms for some infrastructure like water, keeping up on the maintenance of existing infrastructure is an issue for many councils. Councils have not had the capacity or ability to increase borrowing or raise non-guaranteed project finance for infrastructure. Amongst the existing ratepayer base there is a natural aversion to finance, or underwrite risk on, the infrastructure associated with growth development.

Pricing and financing mechanisms exist that could provide a solution that supports more timely provision of growth infrastructure. This Government is progressing a reform agenda that could make a difference if it has the political will to push through on important reform.

An inability to adequately provide for growth infrastructure has seen councils contribute to supply side issues with artificial barriers put up to stem the rate of new development. Many councils have developed an anti-growth bias. These constraints on councils and a lack of flexibility to deal with an infrastructure funding shortfall is a central driver for one of the most important political issues of the moment: housing affordability.

To be clear, it is not just funding issues that have seen councils artificially constrain the availability of land for new housing. A desire to foster compact cities, despite also restricting density through height restrictions, has been a motivating factor that needs to be dealt with. An aversion to urban sprawl has seen the supply of land available for new housing constrained, pushing up land prices and impacting the price of new and existing housing.

When the availability of land for housing development is constrained and competition is absent from the land market, the incentives for land owners within permitted urban boundaries to sit on that land and hold it for future development is higher given the price inflation that occurs where demand exceeds supply.

If land markets were competitive, property owners would be incentivised to put their land into productive use in competition with others knowing that if they don't develop their land, competing owners from a wider catchment will meet the demand instead. Land prices should be driven down to their marginal cost resulting in a significant reduction in the land component of housing.

This potential is evident in the wide gap that exists between undeveloped land within urban limits and that sitting outside of it. In a recent Regulatory Impact Statement, analysis from the Ministry for the Environment, and Ministry for Business, Innovation and Employment indicated that house prices in Auckland are nearly three times their fundamental cost and the difference in value for a 600 m2 section in Auckland between urban and rural zoning is in excess of $200,000.

Central Government has a critical role to play in directing councils to move away from the anti-growth bias inherent in urban boundaries. In the 2017 Speech from the Throne, the incoming Labour Government committed that "this Government will remove the Auckland urban growth boundary and free up density controls."

Minister Phil Twyford recently noted, "Through a National Policy Statement under the RMA we are going to direct councils to free up their planning rules to make room for growth, both up and out, with the aim of massively expanding the number of development opportunities in the market."

Following through on these promises remains critical. There are not insignificant political hurdles to overcome and the direction to councils must be clear. Meaningful liberalisation of land for development purposes will impact new house prices but also impact the value of existing housing – particularly nearer the borders of existing urban limits.

If more land becomes available, then providing the tools so that essential infrastructure doesn't become the bottleneck is important. Mechanisms exist that can avoid development being stalled through councils' inability to fund, and hence approve, development. Alternatively the current approach places much of the upfront infrastructure burden on developers and hence the ultimate home purchaser through higher upfront section prices. Some progress is being made here too.

Financing solutions that are adopted in a number of overseas jurisdictions have been floated to solve the infrastructure financing issue in New Zealand. The Government has legislation in the house that will facilitate special purpose vehicle funding.

Large scale greenfield land developers could put the risk capital up that is required in early stage development for local roading and other core infrastructure. If they can do that in the knowledge that designated special purpose vehicles would purchase that asset in the future once it is de-risked, development could be encouraged and the council bottleneck removed.

Councils would not have to take on the debt and the infrastructure cost would be recovered from the relevant homeowners over the life of the asset. The absolute level of upfront section prices should be lower to the extent developers have been meeting some of the costs in their development contributions.

Homeowners would buy into a new housing development knowing they would be levied by this special purpose vehicle.

Ultimately it would be good if local homeowners had a voting interest in the governance of the special purpose vehicles aligning taxation with representation.

This approach puts the incentives in the right place for development to occur and the structures in place that should attract investors who will provide the debt financing without the need to add to councils' already stretched balance sheets.

- Arie Dekker is managing director, head of research at Jarden. This article reflects the opinions and views at the time of publication, and is not to be relied upon as a basis for making any investment decision.