The Guru Is In

Subsidy’s conduit, subsidy’s camouflage

By David A. Smith
January 2, 2019 5 min read

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Finance is not subsidy, though they are easily confused in people’s minds. Affordable housing always needs subsidy in one form or another – so why the recent fascination with state and local housing bonds?

Fascinated the voters indeed are: as reported elsewhere in this issue, housing bonds are popping up around the country, particularly urban and blue districts with big-ticket authorizations. Blue-island Austin’s Proposition A will raise $250 million. Portland, OR, despite having among the lowest levels of fiscal health, passed Measure 26-199, authorizing $653 million in new borrowing projected to boost every homeowner’s taxes by $60 a year. California’s Proposition 1 topped both by authorizing up to $4 billion in new statewide borrowing. Why the appeal?

What state/local housing bonds do. Although not subsidy per se, housing bonds can do many things:

• They can allow states and municipalities to take action on affordable housing when higher levels of government can’t, won’t or are controlled by the opposition party.
• They can get properties under development fast.
• They can be readily converted into production numbers.
• They can magnetically attract other funding into housing: state bonds from localities, local bonds from other sources, such as community-development philanthropies, gap-filling soft loans from federal or other programs.
• They can combine readily with non-cash resources that municipalities can deploy, such as city-owned land or property, upzoning or inclusionary zoning initiatives.
• They can be a conduit for camouflaged subsidy: lower rates due to tax exemption (even double- or triple-tax-exempt); longer tenor; higher loan-to-value ratio. Camouflage isn’t a bug, it’s a positive feature: the quantum of subsidy is opaque, and that helps when persuading the body politic to vote it in.

How the politics of housing bonds influences their uses. When former House Speaker Tip O’Neill famously said all politics is local, he was voicing a uniquely American perspective. Compared with their peer cities in other developed nations, America’s municipalities are extraordinarily autonomous: they raise their own real estate taxes; often impose their own sales, employment, or funky taxes; enact and administer their own zoning and land use policies; and run their own essential local services – police, fire, schools and roads.

Most importantly, American municipalities finance their own debts in the capital markets, and because of this, they can self-assess their citizens for money that is a purely local priority, regardless of what those above think. They have a history of public-benefit-use expenditure dating back more than two centuries. Politicians like this, so when the economy booms and the city’s coffers swell from rising real estate taxes, cities often spend the surplus by launching new initiatives.

Because they are always raised by a sub-sovereign entity (either state or locality), municipal bonds have unusual political features:

• They are a fiscal referendum on public expenditure, so they are typically pitched as being needed for vital large expenditures that seem, obviously, for the greater public good: new hospital, modernized high school, preservation and restoration of a beloved city park.
• By their placement on the ballot, they raise housing’s visibility in the public’s consciousness, or they give a public worried about unaffordability, rising homelessness, workforce or returning veterans a means to convert their concern into tangible form.
• They always sound like a lot of money, and that makes voters feel they are doing something meaningful (even if they aren’t).
• They’re the classic feel-good political-fiscal initiatives, where the upside is expressed in total cash now, and the downside risk in annual-per-household-cost later.
• They can be locally countercyclical and tied to big-ticket economic development.
• Their impact (whether economic development or social benefit) can be justified prospectively by wishful thinking combined with rose-colored eyewash.
• They enable the impassioned minority to win a moral-heartstrings campaign versus the largely complacent majority.

What state/local housing bonds don’t do. The shiny political appeal of housing bonds (especially for advocates) can nevertheless blind us to their limitations:

• They’re not always cheaper than freely-available off-the-shelf financing. Not only have taxable to tax-exempt yield spreads been compressed, issuance costs (including fees and the invisible deadweight of debt service reserves) compress them further.
• They don’t bring the free-money additionality of four percent LIHTC’s that volume-cap bonds do.
• The money they raise never goes as far as voters think. Portland’s $653 million will fund “between 2,400 and 4,000” apartments ($165,000 to $272,000 apiece), half of them preservation.
• They don’t achieve deep affordability on their own. To help the truly needy, income subsidy is required, and that’s still mainly a federal responsibility.
• They never fix a structural operating deficit. Financing vessels funded with sinking funds always drown.
• They don’t solve a housing shortage. Two years ago, Portland’s voters approved a $258 million issue for 1,300 apartments, and now the city will borrow two-and-a-half times as much.
• They don’t crack NIMBYism. The same affluent voter who touts his support for a bond issue to develop housing for the homeless in the tri-county area can with the straightest of faces be on the front lines objecting to it being sited in his neighborhood – and see no hypocrisy in his two positions.
• They don’t tackle high costs. Worse, by allowing voters to believe that financing is subsidy, they perversely incentivize other state or local elements— high land costs, zoning barriers, environmental review procedural gauntlets—that drive affordable housing costs higher than conventional.

What best complements housing bonds. Because markets rise as money does, housing bonds will never crack the challenge of urban housing affordability alone: they need complements, and if as an industry we really want to do something game-changing at the state or local level, let us do what Minneapolis just did:

Repeal single-family zoning.