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Single-family home prices in Honolulu soared to record highs in 2015, with the median price for the full year reaching $700,000. In the second quarter of 2015, only three U.S. cities had higher prices—San Jose-Sunnyvale-Santa Clara ($980,000), San Francisco-Oakland ($842,000), and Anaheim- Santa Ana-Irvine ($713,000)—and Honolulu’s price premium over the next highest city—San Diego ($548,000) is huge. High housing prices are, however, nothing new for Honolulu or the State of Hawaii. Census data show that home prices in Hawaii in 1950 were already higher than in the 48 mainland states. Honolulu’s long history of high land and housing prices relative to the U.S. mainland tells us that any explanations of high land and housing prices must be rooted in history to be valid. In my new UHERO report on land and housing markets in Honolulu, I identify four factors that have contributed to high housing prices in Honolulu over the last 50 years.
The first factor is somewhat obvious but perhaps the most important—Hawaii’s world-class amenities. Media and consulting firm surveys regularly place Honolulu among the top cities for quality of life. Consider the following attributes which are likely to positively affect the Honolulu price: warm ocean waters; high number of sun days, moderate temperatures, trades winds; a multi-cultural and multi-ethnic social environment, highlighted by the host Native Hawaiian culture; relatively low racial and ethnic tensions; and a low crime rate. To gain access to these positive environmental attributes, Honolulu residents compete with each other and with people living outside Hawaii to pay higher housing prices and to accept lower wages.
A second factor raising housing prices is that the competition to live in paradise is exacerbated by the population being concentrated in the smallest natural supply of land available in any U.S. metropolitan area. Honolulu has a very small natural supply of developable land, with roughly 92 percent of the 50-kilometre radius circle centered on the Honolulu downtown not developable, either being mountains, wetlands, lakes, harbors, or the Pacific Ocean. This is much higher than the 80 percent measure of undevelopable land for the next most constrained U.S. metropolitan area, Ventura, California, or the 63 percent in San Diego or the 40 percent in New York City. High rents in the central city that middleincome residents could normally escape by moving to a distant suburb would leave a Honolulu family paddling a canoe in the middle of the Moloka‘i Channel.
A third factor is land use regulation. The process of competition in Honolulu land and housing markets takes place under the watchful eyes of state and county governments that together impose the most severe regulation on land development to be found in any large U.S. metropolitan area. We compare Honolulu’s regulation with other U.S. cities by examining values of the Wharton Residential Land Use Regulatory Index, a respected index measuring land use regulation in U.S. cities. Developed by economists Joseph Gyourko, Albert Saiz, and Anita Summers, the Wharton Index aggregates 11 sub-indexes: a local political pressure index, a state political involvement index, a state court involvement index, a local zoning approval index, a local project approval index, a local assembly index, a supply restrictions index, a density restrictions index, an open space index, an exactions index, and an approval delay index. Honolulu has a higher value of the Wharton Index (compiled in 2006) than any other US metropolitan area. Its high score stems from the multiple layers of rigorous, lengthy review by both state and county governments for all new development projects.
A fourth factor that might be helping to keep Honolulu’s housing prices high is the “home voter” hypothesis, an idea first developed by the urban economist William Fischel in 2001. The idea is that high housing prices induce homeowners to vote for city and county officials who support regulations on residential development and to lobby against more development in their neighborhoods. This feedback effect from high home prices to even higher levels of regulation serves to maintain housing prices at elevated levels and protect home owners’ wealth. The economist Albert Saiz has found some empirical support for the home voter hypothesis in the overall U.S. sample. No direct evidence for the home voter hypothesis exists for Honolulu. Qualitative evidence is more abundant, as virtually any proposed new housing project or extensive redevelopment have encountered opposition in the courts, neighborhood, the Hawaii State Land Use Commission, or the Honolulu City Council.
In early August, President Obama announced and the U.S. Environmental Protection Agency (EPA) released the final details for the Clean Power Plan (CPP). These rules are designed to lower levels of carbon pollution from existing U.S. power plants – aiming to curb U.S. electric sector emissions by 32% from 2005 levels by 2030 (EPA, 2015a). The CPP is an important first step in making good on the U.S.’s global commitment to reduce economy-wide greenhouse gas emissions by at least 26% below 2005 levels by the year 2025*.
Under the CPP, states have been given the choice of meeting either a rate- or mass-based goal for their existing fleet of power plants. In the draft version of the CPP, Hawaii was given a goal of reducing its emissions rate to 1,306 pounds of CO2 per MWh by 2030 (Carbon Pollution Emission Guidelines for Existing Stationary Sources: Electric Utility Generating Units, 2014). This target included energy efficiency gains and, given Hawaii’s Renewable Portfolio Standard goal of 100% renewable sources for net electricity sales by 2045 (and 40% by 2030), the CPP target was almost certainly achievable. Our modeling of Hawaii’s electric sector suggests that it was cost-effective to go beyond this draft target, even without factoring in energy efficiency.
Yet, Hawaii is not included in the last version of the CPP. Between the draft and final, the EPA based its decision on a continental grid-based modeling approach (EPA, 2015b). As such, non-contiguous regions are currently left without regulation. The EPA states that further regulations will be developed, though no timeline for completion has been given (EPA, 2015b). In addition, Hawaii is excluded from generating potentially valuable emission rate credits (ERCs), even if a target is determined in the future. The CPP regulations state that the “resources must be connected to, and deliver energy to or save electricity on, the electric grid in the contiguous United States.” This regulation unnecessarily excludes Hawaii (and Alaska and Puerto Rico) for geographic reasons, when economic markets do not have to be geographically bound.
One of the ways that the federal programs will regulate GHGs is to limit future coal-fired power. The New Source Performance Standards (NSPS) for the construction and operation of new power plants will effectively prohibit new coal units (without carbon capture) from coming online in the U.S., including Hawaii (Standards of Performance for Greenhouse Gas Emissions From New Stationary Sources: Electric Utility Generating Units, 2014). This of course is a positive outcome in terms of limiting future emissions and most relevant to coal-intensive states. In Hawaii, limiting new coal is something that the Hawaiian Electric Companies voluntarily agreed to in 2008. The NSPS makes this official**.
In sum, the EPA’s recent actions toward GHG emissions is important at the national scale but will have limited to no impact on Hawaii.
*This commitment was made in 2014 between President Obama and China’s President Xi Jinping, representing the world’s two largest GHG polluters. China committed to peaking its carbon emissions around the year 2030 and to increase the share of non-fossil fuel energy consumption to about 20% by 2030 (Office of the Press Secretary, 2014).
**Oil-burning units in Hawaii are excluded from regulation under the NSPS (Standards of Performance for Greenhouse Gas Emissions From New Stationary Sources: Electric Utility Generating Units, 2014).
Carbon Pollution Emission Guidelines for Existing Stationary Sources: Electric Utility Generating Units, 78 Fed. Reg. 34830 (proposed June 18, 2014) (to be codified at 40 C.F.R pt. 60). Available here
Office of the Press Secretary, 2014. Fact Sheet: U.S.-China Joint Announcement on Climate Change and Clean Energy Cooperation. Available here
Standards of Performance for Greenhouse Gas Emissions From New Stationary Sources: Electric Utility Generating Units, 70 Fed. Reg. 1430 (proposed January 8, 2014) (to be codified at 40 C.F.R pts. 60, 70, 71, and 98). Available here
U.S. Environmental Protection Agency (EPA), 2015a. Fact Sheet: Clean Power Plan Overview.
U.S. Environmental Protection Agency (EPA), 2015b. Carbon Pollution Emission Guidelines for Existing Stationary Sources: Electric Utility Generating Units. Final Rule. Available here
The Federal Reserve is poised to raise interest rates, but whether the Fed begins liftoff tomorrow or early in the New Year, the climb thereafter is likely to be gradual. Futures contracts predict a gentle ramping up of interest rates, with the federal funds rate hitting about 1.4 percent by the end of 2017 and 1.7 percent by mid-2018. If investors are right, this will be the slowest interest rate normalization on record.
The expectation that rate hikes will happen at a gradual pace reflects mixed signals about the economy. As the Fed tries to fulfill its dual mandate of stable prices and full employment, it faces low headline numbers for inflation and unemployment. But as we discuss in our report, the devil is in the details. Unemployment is already at the “natural” rate” according to Congressional Budget Office estimates, and further declines would normally spark an increase in inflation. However, inflation remains very low, usually an indication of underutilization of resources like labor and machinery. One explanation for this dichotomy is the still elevated number of involuntary part time workers and those who were unsuccessful in landing a job within the last year. And as long as there is no shortage of people willing to work at prevailing wages, inflationary pressures will remain muted.
The current six-year expansion is already longer than most, and when the US economy hits the next recession the Fed will lower interest rates again. To combat recessions in the past, the Fed has typically brought down the federal funds rate—the interest rate at which banks trade balances held at the Fed—by 3 to 4 percentage points. But if the next recession hits prior to 2019, rates may begin to decline even before they reach 2%. In other words, for the foreseeable future the trajectory of the federal funds rate is likely to remain in the low single digits.
What about market interest rates that affect businesses and homeowners? The onset of monetary tightening will almost certainly nudge rates on business loans and mortgages somewhat higher. But if history is any indication, these rates will rise by less than the federal funds rate, with the spread between them tightening due to lower borrower default risk during an economic expansion.
At a time of dwindling inventory and rising prices, housing affordability has once again become a hot topic in Hawaii. One way to quantify whether the typical single family home or condominium is “affordable” is to compare median sales prices to the value of a mortgage the median household income could support. However, mortgage payments do not capture all of the costs of homeownership. Below, we incorporate several additional costs and a number of different assumptions about mortgage characteristics to illustrate how they affect the affordability of a median priced homes and condos in Honolulu.
Beyond a down paymentand monthly mortgage payments, homeownership requires additional expenses. These include closing costs related to the purchase, which we estimate at 2% of the sale price, and periodic costs such as property taxes, insurance, and maintenance. Property taxes vary across counties, and residential property taxes as a percentage of the home’s assessed value range from 0.35% in Honolulu County to just over 1% in Hawaii County. Homeowner’s insurance is also quite variable, and a particular policy depends upon features of the home and surrounding area. We estimate insurance costs using the average of the 2015 premiums published by the State Department of Commerce and Consumer Affairs.
Condo association fees can range from less than $300 to well over $700 per month, and we take $500 per month as the approximate midpoint. All expenses associated with the structure, such as insurance and condo fees, are adjusted across time to reflect historical changes in construction costs. Finally, our estimates are contingent upon a buyer’s ability to come up with a down payment, which is a significant barrier to home ownership for many households. If a purchaser pays less than 20% as a down payment, lenders require insurance to cover non-payment of the mortgage. Based on data from the Federal Housing Administration, we use an annual mortgage insurance premium of 0.8% of the loan amount.
The first two figures plot single family home and condominium prices that are “affordable” for a family spending 30% of the median household income (estimated by the US Department of Housing and Urban Development) on homeownership under various scenarios. Not surprisingly, a simplified measure that focuses only on the downpayment and mortgage costs overstates the affordability of homes and condos in Honolulu. Using the assumptions listed above and UHERO’s forecasts for 2015 home prices and mortgage rates, the median household can only afford 75% of the median priced home. In contrast, condos remain within reach of the median household that can muster the 20% downpayment. For households making only a 5% downpayment, owning a median priced condo would require more than 30% of the median household income, with the exception of the period from 1997-2003 at the bottom of the last housing cycle. Finally, the last figure illustrates that families earning only 75% of the median household income can not afford a condominium if all the extra costs of ownership are factored in.
Hawaii is in the midst of transforming its electricity system into one with a lot more renewable energy. It’s an exciting time, but also a challenging one that is forcing the State to make tough decisions amid many uncertainties. There appears to be confusion about who bears responsibility for making these decisions. Take, for example, public discussion surrounding the potential merger of HECO and NextEra, which has focused at times on whether NextEra can be trusted to keep their commitments to meeting Hawaii’s clean energy goals. At face value, that discussion seems odd given the utility is regulated and obtains approval from the state Public Utilities Commission (PUC) for important policy changes. Meeting clean energy goals is a statutory mandate or regulatory requirement, not HECO’s or NextEra’s “choice”.*
It is possible that these concerns arise from the fact that the State’s goals have escape clauses. The Renewable Portfolio Standard (RPS), for example, includes a long list of reasons why the utility can be allowed to fall short of prescribed targets, including the cost of achieving the goals. Clearly, there are many ways the State might achieve its renewable energy goals, and the path we choose will have many consequences—for the cost of electricity, how the burden of those costs are allocated, how much energy we use, and the environmental impacts. Regardless of how the PUC decides the merger case, it is their job to ensure that the State’s goals are met in a cost effective manner.
Regardless of who owns the electric utility, given the pace and scale of changes to our electric system, there has to be a better way to fully utilize our local academic resources as we take on this formidable energy transformation. We need a mechanism for the utility, the PUC and other entities to engage in collaborative processes that results in an effective strategy befitting of the state’s multifaceted goals. These should include rigorous and transparent analysis of a wide range of policy alternatives from neutral parties.
We believe UHERO, as an objective data and research driven entity, can play a role in achieving the State’s clean energy goals and the need to lower and stabilize the cost of electricity. Several UHERO faculty and fellows have recently joined forces to form the Energy Policy and Planning Group. You may have seen some of the many blog posts or working papers we have released over the past year. A few things stand out from this line of research. First, is the merely obvious, reducing the cost of electricity in Hawaii can have significant impacts on our economy. Makena Coffman’s research showed that a 25% reduction in the price of electricity could raise Hawaii GDP by close to 1.5%. Moreover, focusing on making the business of contracting and pricing more efficient to get the incentives right is likely to create economic development opportunities through innovation in the production, delivery and use of energy.
Demand shifting is another active area of work that was discussed in some detail in "Efficient Design of Net Metering Agreements in Hawaii and Beyond" by Makena Coffman, Michael Roberts, Mathias Fripp, and Nori Tarui. This paper lays out several policy goals that are achievable in the near term, and some longer term goals. For example, Coffman et. al recommend an optional tariff, available for all customer classes, with hourly prices that reflect the continuous variation in supply and demand of electricity. In that way, customers will have incentives to reduce their use during times of high marginal cost (high loads with low renewable power production) and increase their demand during times of low marginal cost (low loads and/or high renewable power production). Customers who are able to shift demand will reduce their own costs and the system’s costs. And, variable pricing will open the door even wider to storage and related innovations. Such variable pricing will require smart meters, and HECO has already filed with the PUC to install smart meters.
There are thoughtful ways of incrementally modernizing the grid in a way that also facilitates customer choice. At first, smart meters need only be installed for households most willing to juggle variable pricing. Well-designed experimental pilots can be used to measure efficacy and guide future policies. To implement these policies it is imperative that the PUC possess the capacity to analyze the technical and economic merits of proposals or issues to be deliberated. UHERO faculty and fellows have been working on building such capabilities for several years. For example Matthias Fripp’s open source SWITCH model allows optimization of investment and electric system operation decisions to study alternative pathways to extremely high penetration renewables. And the UHERO electric sector model is tied to our General Equilibrium Model to translate energy systems decisions into economic outcomes.
We recommend using UHERO’s Energy Policy & Planning Group as a neutral, research-driven evaluator to model and analyze Hawaii’s energy policy. This role could be modeled after the role of the UH Hawaii Natural Energy Institute as a neutral evaluator of energy technology, or it could be less formal.