Organization for Economic Operation and Development

Question: Discuss about the Organization for Economic Operation and Development. Answer: Introduction Rental price control is the policy of the government fixing a cap on the rental price such that the house owners do not charge their tenants high price above the cap price. The government is mostly obliged to maintain a high standard of social welfare which is lost when there is a hike in housing prices (England, 2015). The reason why the government decides to impose a price cap on housing is because in the current period the economy has experienced rental and property prices hikes (Pettinger, 2013). The government is always scared of price hikes as they represent bubbles that eventually burst leaving the economy in a very bad situation. This paper will help in determining whether it is beneficial to impose a rental price cap or not. It will determine the winning party and the losing party; the parties involved are the tenants and their landlords. It will tell whether the landlords are more or less likely to observe the policy. Generally it can be argued that, the landlords would onl y observe the policy if it were beneficial to them; if its not, they are more likely to disregard it and engage in other black-market business which would be more profitable to them. The paper will provide the primary aim of imposing the cap and determine whether it is achieved. The price cap imposition is meant to increase the housing affordability. At very high prices, the lower income people cannot afford and this issue is a concern to the government. To create some equality, the price cap is imposed at an affordable price. Therefore, the cap is fixed below the current equilibrium point. Naturally, without the price cap, the premium areas are set only to people with a middle income and above (E.H, 2015). The lower income group are forced to move out many miles in order to find an affordable house. The free market equilibrium point is at price Pe and quantity demanded is Qe. This is the high price that the government is attempting to reduce through a price cap. Thus the cap is set at price Pc which is lower than Pe; it is the maximum rent to be charged for a rented property. At the lower price Pc, the affordability of households goes up creating an excess demand at the current supply level (McKernan, 2011). The excess demand is the extra demand beyond quantity Q1 which the suppliers are willing to supply at the lower price = (Q2 Q1). The cap results in the reduction of the landlords returns. Initially the returns to the landlord was equivalent to figure 0QeXPe; however, the new level of revenue is equivalent to figure 0Q1YPc. So this is a clear evident that the landlords are the losing party. Riley (2012) argued that these effects would cause a fall in the supply for rental houses causing the supply curve to shift up as indicated by the arrows. This is because some landlords wont be willing to continue supplying at the lower price and will thus exit the housing markets; (McKernan, 2011). This therefore means that a price cap cause shocks to the housing supply (Butler, 2016). Otherwise, the suppliers could exploit the consumers surplus by charging the tenants some additional costs by offering their houses at black-market rent (Pb). This rent is high and even above the initial equilibrium price, but the quantity supplied is still equal to the prices caps supply level as shown in the diagram. This possibility of the supplier exploiting the consumer surplus is undermining the effectiveness of a rental price cap. Owing to the problems associated with the price rental caps described above (i.e. shocking of supply and the charging of a higher black-market rent), the objective of the government to improve housing affordability is not achievable. The high black-market rent is even more troublesome than the current free market equilibrium price. The ineffectiveness of this policy is quoted by the statement by German Institute for Economic Research that Price capping treats the symptoms, not the disease, (Niewhner-Pape, 2014). It doesnt address the problem fully. The consumers who were intended to be the beneficially ends up being disadvantaged. The rent control may be useful in the short term but harmful in the long term since the shocking of supply would result in undersupply of rented houses. Since maintenance and upgrading of the houses may not fetch better returns for the landlords, the cap creates a disincentive for such improvement and the quality of houses deteriorates (OECD, 2010). Due to this deterioration, the tenants suffer external costs that are a negative externality from imposing the cap. Rent controls is only applicable to rental houses and not to luxury houses, thus, investors will shift from constructing rental to luxury houses to escape the rent control. Riley (2012) argued that the increment in affordability enables many people to live by themselves thus creating a shortage. Many teenagers live with their parents since they cant afford to pay higher rental prices; the lower price may change this situation. Due to the inadequacy of supply, the cap results in an opportunity cost of the increased search time (i.e. people take more time to trace a vacant house). The rent control does not improve the availability of quality housing and would be of most peoples expectations. Conclusion The rental price cap does not solve the problem of hiking rental and apartment prices; it even makes it worse. The major issue here is that market clearing cannot be achieved since it stimulates demand but on the other hand it shocks supply. The problems of allocative inefficiency still exists and equality is unachievable. Since cap rent is expected to continue even in the long run, the economy will be bad-off by then. Those who will occupy the capped rental houses will continue enjoying the benefits, but what about the future generation? The capped rental houses will be of no help to them as they will be fully occupied and there will be a shortage that will cost them dearly. The policy would only be effective if the government also came up with a policy to stimulate supply at the cap price to supplement the rental cap price policy. This would include subsidies on construction of houses and even lower taxes on building constructions. Else, the cap alone cannot improve housing afforda bility and hence it is not workable. References Butler, P. (2016). Benefit cap on social housing will leave thousands homeless, landlords warn. The Guardian. Retrieved 18 April 2017, from https://www.theguardian.com/society/2016/jan/26/benefit-cap-on-social-housing-will-leave-thousands-homeless-landlords-warn. E.H. (2015). Do rent controls work? Economist.com. Retrieved 17 April 2017, from https://www.economist.com/blogs/economist-explains/2015/08/economist-explains-19. England, C. (2015). Here's Why a UK Rent Cap Could Make You Even Poorer. Vice.com. Retrieved 18 April 2017, from https://www.vice.com/en_uk/article/would-a-rent-cap-actually-work-822. McKernan, S. (2011). Prohibitions, Price Caps, and Disclosures: A Look at State Policies and Alternative Financial Product Use (1st ed., pp. 8-10). DIANE Publishing. Niewhner-Pape, K. (2014). German Residential: Price cap will not halt demand for houses. Realestate.ipe.com. Retrieved 19 April 2017, from https://realestate.ipe.com/markets-/sectors/residential/german-residential-price-cap-will-not-halt-demand-for-houses/10004261.fullarticle. Organization for Economic Co-operation and Development (OECD). (2010). Paying for biodiversity: Enhancing the cost-effectiveness of payments for ecosystem services. Paris: OECD. Pettinger, T. (2013). Would a cap on house prices work? Economicshelp.org. Retrieved 18 April 2017, from https://www.economicshelp.org/blog/9140/economics/cap-house-prices-work/. Riley, G. (2012). Unit 1 Micro: Revision on Maximum Rents in Housing. tutor2u. Retrieved 18 April 2017, from https://www.tutor2u.net/economics/blog/unit-1-micro-revision-on-maximum-rents-in-housing.