Rent Control in a Tight Housing Market
A city of 800,000 people has a rental vacancy rate of 1.2%, well below the 3% considered healthy. Median rent for a two-bedroom flat is $520 a week and has risen 28% in three years, while median household income has risen 9%. The state government proposes capping rent increases at 2% per year for existing tenancies. Landlord groups warn that new investment will stop; tenant groups say families are being priced out. Data show that 34% of rental stock is owned by small investors with one or two properties, and that new apartment approvals fell from 4,200 to 2,900 over the same three years. The construction industry employs 22,000 people locally. The government's own modelling suggests the cap would reduce new rental supply by 8% over five years but cut average rents for sitting tenants by $60 a week.
1. Using supply and demand reasoning, explain the likely short-run and long-run effects of the rent cap, distinguishing between sitting tenants and new entrants to the rental market.
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Short run: supply is fixed (vacancy 1.2%), so the cap mainly redistributes. Sitting tenants gain about $60/week-roughly $3,120 a year-a significant transfer from landlords. New entrants (young people leaving home, migrants, students) face the same low vacancy and may find fewer listings, because landlords have less incentive to re-let at capped rents and may convert to owner-occupation or short-stay letting.
Long run: supply responds. The 8% reduction in new rental supply over five years reflects lower expected returns. With 34% of stock held by small investors, the cap may prompt some to sell-reducing rental stock further if buyers are owner-occupiers. New approvals already fell from 4,200 to 2,900 before the cap; the cap may accelerate this. Lower supply with rising demand (population growth, income up 9%) pushes unregulated rents higher, so the cap can paradoxically raise rents for those outside it.
Distributional judgement: the cap clearly helps sitting tenants (a defined, vocal group) and may hurt new entrants (diffuse, less organised). The exam rewards recognising that the policy's beneficiaries and victims are different people, and that the short-run gain can coexist with a long-run loss. The 8% supply figure is the government's own estimate-it concedes the mechanism.
2. The construction industry employs 22,000 people. Evaluate whether the government should prioritise the rent cap or supply-side policies, given the trade-offs.
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Case for the cap: rents rose 28% against income growth of 9%, so affordability has genuinely deteriorated. A $60/week saving for sitting tenants is immediate and targeted. Political urgency favours quick relief.
Case against: the cap treats a symptom (price) while the cause is a supply shortfall (vacancy 1.2%, approvals falling). Capping prices in a shortage typically worsens the shortage. It also risks the 22,000 construction jobs if investment falls-an unintended cost to a different group of workers.
Supply-side alternative: policies that increase approvals (zoning reform, infrastructure, developer incentives) address the root cause. But they are slow-approvals take years to become dwellings-and may not help current tenants.
Trade-off: the cap delivers short-run equity at the cost of long-run efficiency and supply; supply policy delivers long-run efficiency but little short-run relief. A combined approach-a temporary cap with a sunset clause plus accelerated supply measures-could capture both, provided the cap is credibly time-limited so investors do not permanently exit.
Judgement: prioritising supply is economically sounder, but ignoring affordability now is politically and socially costly. The best answer weighs who bears the cost (landlords vs new entrants vs construction workers) and over what horizon, rather than declaring one policy 'correct'. The 8% supply estimate should be treated as uncertain but directionally informative.