Heimat and the market

Heimat is a German word with no good English equivalent. It describes the relationship of a person to a specific geographic (or social) unit. I myself have few Heimat’s. Iceland is one of them and Eherenfeld, my neighbourhood in Germany is another. It is my view that Ehrenfeld is the nicest neighbourhoods in the city of Cologne. The streets are clean, homes are modest but of a good standard, it has great public transport links and a fabulous community of people from all parts society and the world. My local take-away pizza place is not only cheap but of a great. Café Sehnsucht is of Michelin standard in food quality but their prices are in the range of a gourmet-burger joint.

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Best value restaurant on the planet

Few weeks ago I realised that all my gear that I could wear to formal events (funerals, weddings, etc) was awful. To solve that I went on a stroll down to the local menswear store, Herrenbude, and bought myself a suit. On my way there I stopped to read the classifieds board and two adds stood out to me in particular.

The first add was from a young journalists couple looking to rent a 3 – 4 room (2 – 3 bedrooms) place in the hood for a maximum of 900 euros per month. The second add was from a landlord looking for tenants for her 3 room (2-bedroom place) and the price of that place was 1,070 euros per month. So, it looks like we have here is a bit of a problem here.

What is even more interesting about this whole thing is that the potential tenants have possibly grossly underestimated how much flats in this part of town are in demand. This is reflected in the number of “tear-offs” that had been teared off from each of the adds. If you check out the photos below you can see that only two of the potential tenants “tear-offs” have been taken by a potential landlord whereas 10 of the landlords “tear-offs” have been removed by potential tenants.

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The tenants (on the left) and the landlords add (right).

Now, before I get further into the discussion, I would like to leave a small disclosure. I am a big fan of markets and the ability of price signals and competition to steer many economic functions of society in a way that allows us all to get the goods we want without even thinking about it. I am also a fan of regulation when required due to market failures (in particular when it comes information asymmetries and lack of competition, but that is for another time).

The tenants problem

Back to the add and how the market would potentially solve the 170 euro deficit. Let’s and we start with the potential tenants.  Based on my observation, the tenants only have the option of renting from two landlords. I know nothing of those flats, but given the low price relative to the other add chances are that these flat will be sub-optimal. The tenants can either decide to go with it or post another add offering higher price.

The landlords problem

The landlord can choose from 10 people to rent to. Since all these people are willing to pay the price posted he will most likely not be in any trouble getting rid of the place. He can indeed choose from so many tenants that he will be able to pick the most reliable once, which indeed will reduce his risk of rent recovery and thereby increase his expected return. Alternatively, he could also simply ignore all those people and post another add at a higher price.

The Markets problem

But all these transactions do feed the market for flats in my hood with valuable price signals that the market should technically respond to. Over time two things should happen:

  • Prices for individual flats should rise; and/or
  • More apartments should be made available for rent.

But the consequences of both items above, at least in the short run, are quite serious and in some cases devastating. Let’s look at each effect in isolation.

Market solution 1 – prices increase

In the event of a price rise, current landlords are incentivised to raise prices to their current tenants or kick them out to bring in new once who pay more. If this process happens fast enough then there are at least three potentially consequences of this price rise.

First, if a great number of local tenants are displaced and forced to move out of the neighbourhood then the neighbourhood loses a good number of people who make this community and neighbourhood what it is. In other words, the neighbourhood loses the social fabric that makes it what it is.

Second, substantial number of the tenant decides to take the hit and pay higher rents, then the people who make the community what it is stay. But, their ability to pay for local services and invest in the community is greatly diminished.

Third, the incentives for owners of property in which businesses in the neighbourhood operate are also changed. They would now be tempted to demand higher rents or else convert their properties into homes for higher rents. In case the businesses stay they would now have to raise prices to meet increased rent payments. In either case, quality of life for the people in the community is diminished.

It is off course hard to see how these things would develop and what would happen, but there is no doubt that if prices in this case are left to steer the adjustment then the social fabric (people and businesses) that made this neighbourhood nice in the first place would be diminished. Now no one knows if the changes turn out an even better (or worse) and if the displaced tenants would revitalise other neighbourhoods in the long run. In any case what is certain is that the hood would never be the same.

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The first market solution would significantly raise the prices for the houses of this lovely street in my neighbourhood.

Market solution 2 – more homes built

The other, less interesting, but possibly the preferred option is that more houses are built in the hood. For example, the council could sell of land in the green parks that surround the hood for development. But that would not come without consequences. Most obviously the nice green space that can take me all the way down to the Rhine, and if I am in the mood all the way to Bonn, would no longer be there if it was replaced by building. Alternatively, new stories could be added to old houses or they could be demolished to allow for construction of larger houses. Whatever the solution the result would be similar. The hood would have greater number of people on the streets, more congested cycling routes and the pleasure of living here would not be the same.

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The second market solution could mean the loss of this fabulous inner city public park.

No such thing as an obvious solution

Now in the world of Trump and Brexit, where too many people like to create a strawman of every issue and propose simple solutions to oversimplified version of reality, I would like point out that the issue of ‘gentrification’ is complicated and has no imitate solution. The people who invested in the community for decades and made it the desirable place to live can now face displacement or reduced pleasure of living in this beautiful neighbourhood. They will never be compensated for the enormous amount of value they have created on the way which the new people now take advantage off.

But, the new people who really like the neighbourhood are not to blame. They have all the right in the world to try and live in nice neighbourhoods. The fact that they have the means to pay to get in there should not be held against them.

However, markets work in such complicated ways and as prices change price signals feed back to the market and that could indeed stop the problem from being as extreme as in the examples above. For example, higher prices and new builds could act together to make the place only loose small part of its qualities while still accommodating some of the new people. Also, another neighbourhood could emerge somewhere else where some of the new people could rather go themselves and make their own nice neighbourhoods. Who knows.

Even a mixed solution that imposes a small change can still have a big impact. In small neighbourhoods like mine, losing only a few neighbours, the pizzeria and the local restaurant in return of disengaged strangers and an artesian boutique burger place or an overpriced café would indeed make a significant difference to the quality of life in this neighbourhood.

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Whatever happens in the future, I hope that he ants get to keep their hotel.

Thank you for reading,
Eiki

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