HowRaisingtheMinimumWageAffectsRentsSeattle starts phasing in a $15/hour minimum wage, it’s worth pausing to consider exactly how higher minimum wages affect local housing values and rents.  The minimum wage question is very, very complicated, when you peel away the political rhetoric and start looking at the underlying economics.

Want a simple example to illustrate this complexity?  In February 2014, the Congressional Budget Office released an extensive economic report, sifting with a fine-tooth comb through two scenarios: a minimum wage hike to either $9.00 or $10.10.  At $9.00/hour, economists modeled that 7.6 million US workers would see a substantial increase in weekly earnings, but 100,000 workers would lose their jobs.  At $10.10/hour, those figures were both higher, with 16.5 million workers seeing higher earnings, but at a cost of 500,000 jobs.

Which is better, leaving the minimum wage as-is, raising it to $9.00, or raising it to $10.10 under those projections?  If many will benefit but a minority will be dramatically hurt, what is the ethical choice?  While everyone might have an opinion, there is no “right answer” – there are merely tradeoffs.

The question just becomes hairier from there.  Employers don’t just roll over and accept thinner margins of course, and they don’t just reflexively go on firing sprees either.  Businesses use a combination of strategies when labor costs rise: they raise prices, they rely more heavily on salaried and part-time employees (with no benefits) rather than hourly employees with benefits, they try to raise productivity by getting more work per hour out of hourly employees.  They may pull back on benefits, or pull back some jobs from full-time to part-time.  Where the math makes sense, they automate jobs that used to be filled by low-wage, low-skill employees.  They may be able to reduce employee turnover and save costs there.

Rather than a simple matter of “let’s just give everyone a raise,” it is actually quite a complex dilemma.  Tradeoffs are required, which will mean some people lose, through cut jobs and benefits, higher prices, and more burden placed on salaried and part-time workers.  Other people will win, with higher incomes, potentially lower public spending on welfare programs, and higher housing values.

In Seattle, housing values and rents will likely go up, a mixed blessing.  The news is great for everyone who already owns real estate, and not so great for renters and prospective buyers.  People generally spend between a quarter and a third of their income on housing (in the mortgage industry, for example, the general standard of affordability is 28%).  So changing a person’s income merely changes how much they think they can afford to spend on housing.

Consider a simplified illustration of how raising spending power without raising supply will affect prices: Peggy and Sue are roommates, each earns $1,800/month, then they both suddenly start earning $2,300.  They decide they no longer need to live together, and Peggy starts looking for her own apartment in the same building.  But if all of the building’s tenants get the same raise, then Peggy is not the only renter with the same idea.  What started as an $800/month rent might jump to an $1,100 rent if everyone suddenly has more money to offer for the same limited supply of rental units.

That is the crux of the matter: housing supply is unaffected by simply raising wages, only demand changes, as large swaths of people (who suddenly have more spending power from higher incomes) start thinking about moving.  In the example above, Peggy and Sue unbundled their household; the creation of new households is known as the household formation rate and is a critical factor in determining housing prices (including rents).

Demand grows even more as low-wage workers from surrounding counties are drawn to the city to find work, if a job pays twice as much there as the town thirty minutes away.  On the supply side, local housing supply might catch up eventually, if there is viable land to build on, and if zoning and construction permits allow sufficient new construction.

“Residents in rent-controlled buildings may see more money in their pockets every month, but tenants paying market rents will just see those rents go up,” explains Lucas Hall, founder of Landlordology.com.  “Raising the minimum wage causes a temporary spike in spending power, but the market quickly balances itself out.  Landlords raise rents as tenants are willing and able to pay more.”

In 2003, San Francisco raised its minimum wage to $8.50/hour, and has been raising it consistently since then (last year, San Francisco voted to raise its minimum wage to $15 over the next two years).  Rents have also skyrocketed in the last ten years, although there are additional factors at work here, most visibly the influx of high-skill, high-wage workers in the tech industry.  Still, even adjusting for the rise in median income in San Francisco, anyone expecting to see a higher minimum wage lead to a lower percentage of income spent on rents will be sorely disappointed: the percentage of income spent on rents has actually risen in the last ten years.

Nor will renters suddenly become homeowners overnight.  Aside from the higher fiscal responsibility needed to be a homeowner (sometimes furnaces break and need $3,000 in repairs overnight), housing prices are subject to the same market forces as rents.  More low-wage earners bidding for the same entry-level homes will, of course, just drive up prices.

Raising the minimum wage, like any significant economic shift, will create winners and losers.  It is neither the panacea that its champions assert, nor the economic death knell that its critic argue, but merely a boon to some at the expense of others.  Some low-wage earners will come out ahead, and it may just be the economic injection they needed to turn their lives around.  Others will lose their jobs, or perhaps their benefits, or maybe they’ll just have to pay $4 instead of $3 for a hamburger at the local fast food joint.  One thing is certain: homeowners and landlords will be among the winners.

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