subsidies in housing by IDB

Subsidies in Housing

Stephen K. Mayo

Inter-American Development Bank Washington, D. C.

Sustainable Development Department Tec hnical Papers Series

Cataloging-in-Publication data provided by the Inter-American Development Bank' Felipe Herrera Library Mayo, Stephen K. Subsidies in housing / Stephen K. Mayo. Includes bibliographical references. p. cm. (Sustainable Development Dept. Technical papers series ; SOC-112) “It complements the Operational Guidelines for Housing, and should be used together”— Presentation. 1. Housing subsidies- -Latin America. 2. Housing- -Latin America- -Finance. 3.Housing policy- -Latin America. I. InterAmerican Development Bank. Sustainable Development Dept. Social Development Division. II. Title. III. Series. 363.582 M29--dc21

Stephen K. Mayo is with the Lincoln Institute of Land Policy in Cambridge, Massachusetts. The information and opinions contained in this article are those of the author and do not represent the policies of the Inter-American Development Bank.

July 1999 This publication (No. SOC-112) can be obtained through: Publications, Social Development Division Inter-American Development Bank 1300 New York Avenue, N.W. Washington, D.C. 20577 E-mail: sds/soc@iadb.org www.iadb.org/sds/soc

Presentation In 1995 the Board of Executive Directors of the Inter-American Development Bank approved an amendment to the Operational Policy for Urban Development (OP-751) lifting the restriction on housing financing imposed on the Bank. The amended policy indicates that the Bank will support borrowing countriesâ&#x20AC;&#x2122; efforts to improve the living conditions of the low-income population, encouraging governments to pursue policies to efficiently mobilize private and public resources to help households solving their housing problems. Bank activities in housing will have the following objectives : 1. Support policies and sustainable programs and projects to improve housing conditions for lowincome households. 2. Improve public sector effectiveness both as a facilitator of private sector initiatives and in the management of public resources allocated to the sector. 3. Promote sector-wide allocative efficiency of housing markets and related markets such as land, financing and construction materials and services. The Policy considers the possibility of financing housing subsidies when they can be proved to be efficient mechanisms to reach the poor. The provision of subsidies is controversial. The impact of many past national schemes has been quite contrary to the public interest, poverty reduction and the principles of equal opportunity and allocative efficiency. Concerning subsidies, the Bankâ&#x20AC;&#x2122;s Operational Guidelines for Housing direct Project Teams to discuss key issues when conducting country sector studies and country programming activities. These include questions like: Are the proposed subsidies for housing justified in the context of the country's overall policies for social services and poverty alleviation? Specifically, are housing subsidies an appropriate use of public resources? Are subsidies justified and sustainable in light of the government's fiscal position? Even if the use of subsidies can be justified, there is still controversy concerning the correct amount of the subsidies to accomplish the policy goals pursued by governments. This document, prepared for the Social Development Division of the Sustainable Development Department by Dr. Steven Mayo, is intended to provide Bank specialists with comprehensive background information to address housing subsidy issues. It complements the Operational Guidelines for Housing, and should be used together.

Eduardo Rojas Principal Specialist in Urban Development Social Development Division Sustainable Development Department

Contents Presentation Executive Summary................................................................................................................................. i Introduction............................................................................................................................................. 1 IDB Operational Guidelines for Housing............................................................................................... 2 The Broader Policy Context: Enabling Strategies for Housing ........................................................... 3 Are Housing Subsidies an Appropriate Use of Resources? .................................................................. 6 Limitations and Risks of Housing Subsidies ....................................................................................... 16 Assessing the Need for Housing Subsidies .......................................................................................... 27 Information Requirements for an Enabling Strategy ........................................................................... 33 IDB Experience with Housing Subsidy Programs ............................................................................... 36 Summary and Recommendations ......................................................................................................... 40 References............................................................................................................................................. 43 Annex: The Do=s and Don=ts for Enabling Housing Markets ............................................................. 47

Tables Table 1: Incidence of Electricity and Private Water Connections by Income Decile in El Salvador, 1980 (percent) .................................................................................. 8 Table 2: Under-five Child Mortality, Children per Classroom, and Unauthorized Housing in Latin American Cities by Income Quartile ................................................... 9 Table 3: Estimated Household Income and Expected Rents, 1996 ..................................................... 15 Table 4: Program Efficiency in U.S. and German Housing Subsidy Programs............................................................................................................................................... 24

Figures Figure 1: Permanent Structures and Gross City Product Per Capita in Latin American Cities, 1990 .................................................................................................................. 7 Figure 2: Water Connections and Gross City Product Per Capita in Latin American Cities, 1990 .................................................................................................................. 7 Figure 3: Supply Enabling Index and Housing Prices in Latin American Cities, 1990........................................................................................................................................... 11 Figure 4: Food Costs as a Proportion of Household Budgets in Latin American Cities ..................................................................................................................................................... 14 Figure 5: Housing Subsidies as a Proportion of Government Budgets, 1990..................................... 18 Figure 6: Households Per Dwelling and Housing Prices in Latin America ......................................... 20 Figure 7: Consumption Efficiency of Housing Subsidies in Relation to Subsidy Size and Demand Elasticity .................................................................................................... 22

Executive Summary Lending for housing and urban development by the Inter-American Development Bank is a key component of its approach to overall economic development, poverty alleviation and environmental management. The region is among the most highly urbanized in the world, and housing is an especially important sector in the urban economy. Housing in Latin America typically comprises between 15 and 20 percent of Gross National Product and affects real, financial and fiscal variables, making its performance critical to economic performance. Thus, both policy failures and successes regarding housing have the potential to damage or improve overall economic performance.

tant role to play in the mitigation of environmental risks, particularly for the poor. Policies that affect the performance of the sector, of which those concerned with housing subsidies are an important part, are of critical importance in ensuring that urban and national economies function well, that economic and social objectives are served, and that the environment is protected and sustained. For this reason, both governments and international institutions, require clear policies and guidelines for their implementation. Approaches to housing subsidy policies and their implementation have changed greatly over the years, in response to observed successes and failures in different subsidy schemes and to broader conceptions of the role of subsidies within the arsenal of housing policy instruments. The most significant change in subsidy policy and design is associated with a general shift in focus toward Aenabling policies@ which aim to create a well-functioning housing sector while ensuring that the needs of the poor are met. Enabling policies were first elaborated and promoted internationally in 1988 when the U.N. General Assembly unanimously endorsed the Global Shelter Strategy for the Year 2000, a document prepared by the U.N. Center for Human Settlements. Shortly after the U.N.=s endorsement of enabling policies, the World Bank articulated its own views on enabling policies and incorporated them into its Housing Policy Paper, Enabling Markets to Work (1993). Similarly, the IDB endorsed enabling strategies within its Operational Guidelines for Housing, and provided an overall framework for the Bank=s approach to housing policies and, in particular, to housing subsidies.

Housing is also important as a basic need and focus of social concern and should be seen as one of the key elements of social policy. Income inequalities in the region hamper the ability of the poor to gain access to all types of public services, especially to health care and education. And while households have the ability to gain some access to land and housing in private markets, they are often frustrated in gaining access to residential services such as water and sanitation, and to property rights that establish secure and transferable rights of ownership. These Amarket failures@ regarding insufficient provision of residential services and secure property rights are the formal analogue of failures to provide minimal levels of health care and education, and are primarily the responsibility of governments to correct. Housing=s role as part of the basic Asafety net@ requires public sector intervention and, at the least, that housing policies be integrated with other safety net policies. Finally, housing policies are an important component of environmental policy. Housing and its associated infrastructure account for more than half of all urban land uses. Much of that land is environmentally sensitive, in hazardous topographical areas with steep slopes or unstable soils, in watersheds, or in flood zones. Most often, it is the poor who occupy environmentally sensitive land, often illegally, and it is the poor who overwhelmingly bear the cost of environmental disasters. Thus, housing policy has an impor-

This paper complements the IDB=s Operational Guidelines for Housing. It establishes guidelines for the design and evaluation of housing subsidies in Latin America. It provides a motivation and justification for subsidies on the basis of both Atraditional@ and Aenabling@ rationales. Among the traditional motivations for subsidies are: i

•

their usefulness in promoting improved housing as a so-called Amerit good,@ consumption of which is considered beneficial to society as a whole;

•

encouraging consumption of elements of housing which are Apublic goods@ likely to be undersupplied by private markets such as tenure security and residential infrastructure;

•

overcoming Amarket failures@ such as those that occur in slums and squatter settlements which exhibit negative Aexternalities@ that depress rates of housing and community investment;

•

overcoming Anon-market failures@ whereby government policies such as inappropriate regulations distort prices and lessen incentives for citizens to invest in or consume housing;

•

promoting opportunities for the generation of income and accumulation of wealth through home ownership, usually the single greatest source of wealth for city-dwellers throughout the world; and

•

facilitating reductions in the cost of housing provision and in its price to consumers.

and employees of firms engaged in the development of land or supply of building materials, infrastructure, and housing; owners and employees of financial intermediaries that supply housing finance; and local and national governments. Ensuring that housing policy provides broad benefits to different stakeholder groups is important not only because the potential economic and social benefits will be greater and more widespread, but also because without broad benefits, it will be politically difficult to sustain policies more narrowly focused on the poor. The interdependence of the interests of different stakeholder groups is particularly at issue because some groups pay for subsidies while others receive them. This raises the issue of affordability and sustainability of subsidies. The paper presents an example of the costs of well-targeted subsidies for low-income housing in one Latin American country based on a traditional subsidy program and concludes, both from the example and direct observations of the government budget share devoted to housing subsidies, that subsidies on the order of from 1 to 5 percent of government budgets are likely to be easy to afford and sustain. On the other hand, the paper suggests that the budgetary share devoted to housing subsidies is a good deal less important than the objectives and form of the subsidy, how well targeted its effects are, and whether or not they avoid adverse spillovers upon nonbeneficiary groups. Examples of adverse spillovers include the possibility that subsidized housing simply displaces private housing that would otherwise be provided; that it drives up the price of housing for nonbeneficiaries; that it distorts prices of housing inputs such as land, building materials, and finance; and that it distorts locational choices and the spatial form of cities.

By themselves these reasons would be sufficient to justify housing subsidies in many places, but the emergence of enabling policies for housing has provided a new and powerful set of motivations for housing subsidies. Within the context of enabling policies, housing subsidies may be used in conjunction with other policy instruments to promote the functioning of the market as a whole, with potentially beneficial outcomes not only for the poor but also for broader society. In particular, subsidies can be used in conjunction with policies and programs to develop property rights, housing finance, property taxation, infrastructure provision, regulatory reform, and reform of the building industry to accelerate implementation of reforms in these areas and to benefit a broad range of stakeholders throughout society. Among these stakeholders are not only low-income households, but also middle-income households; owners

The paper argues that subsidy systems must be designed to avoid these kinds of negative spillovers and, as well, that they must be designed so that subsidies are Aefficient@ in the sense that the value that beneficiaries place on the subsidies is high relative to the costs to taxpayers to provide them. Evidence on the efficiency of different types of subsidy programs in different countries is provided, and it is concluded that traditional Abricks and mortar@ supply-side subsidies ii

that provide newly built housing often cost about twice as much as the benefit placed on them by recipients. Moreover, there is evidence that such supplyside programs can and do displace private housing, although it was not possible to conclude definitely that this would be the case in most Latin American markets. On the other hand, demand-side subsidy programs such as the Ahousing allowances@ or Ahousing vouchers@ of industrialized countries or programs such as the ones implemented in Chile, Costa Rica, and Panama can be highly efficient. Moreover such programs are far easier to structure in ways consistent with enabling housing strategies and with fewer negative spillovers than supply-side subsidies.

households. In addition, cost recovery in the programs was poor, default rates on loans were high, and negative real lending rates prevented implementing agencies from recovering seed capital. There was little in the design or execution of such projects that addressed well the needs of the poor, of the housing sector, or of the economy. They were neither replicable nor sustainable. These experiences, which paralleled those of other donors, led to a general withdrawal of the IDB from lending for housing during the 1970s, when only three loans were made during the decade. With a renewal of lending for housing in the 1980s, the focus of the IDB=s housing projects changed, first toward the Asites-and-services@ model whereby loans were made for modest, usually ungradable, structures or for upgrading of slums and squatter settlements, and later toward demand-side subsidy programs such as that pioneered by Chile in the 1970s. The structure of such programs is more in line with the enabling strategy for housing advocated by the U.N., the World Bank, and the IDB, but even demand-side subsidy programs in Latin America and the loans that have supported them have generally fallen well short of the sort of comprehensive approach to sector reform represented by the call for enabling housing strategies. Nevertheless, recent IDB loans, such as those made to Panama and Guatemala, have taken a broader view of the role of lending and subsidies for housing and have attempted to grapple with issues of broad sectoral reform using approaches that are both more comprehensive and market-friendly than past approaches.

Designing and implementing efficient, effective, and fair housing subsidy programs requires good data and good analysis. The paper proposes the routine collection and analysis of data such as housing indicators, household interview surveys, housing supply studies, land market analyses, a housing finance review, and subsidy incentive analyses. Examples of each of these have been applied in many countries to help in the formulation of housing policies and to guide the choice of housing subsidies. The paper describes each of these types of analyses and their data requirements. Finally, the paper examines the evolution of housing policies and projects at the IDB. During the 1960s, when lending for housing was initiated, about five loans were made each year, mainly for projects that provided finished housing, built by the government and allocated directly to program beneficiaries. Within these projects, housing was of comparatively high standards, putting it out of reach of most of the poor, despite soft loan conditions and modest subsidies. When subsidies were increased to improve targeting, the market value of the housing was such that poor households often monetized their subsidies by covertly transferring their houses to better-off

Continued reform in housing lending and in the structure of housing subsidies is called for, particularly in using subsidies to complement and facilitate other housing policy instruments. Designing and implementing comprehensive subsidy policies that fit within an enabling framework requires more and better data and rigorous analysis of the workings of the housing sector.

iii

Introduction Lending for housing and urban development by the Inter-American Development Bank is a key component of its approach to overall economic development, poverty alleviation and environmental management. The region is among the most highly urbanized in the world, and housing is an especially important sector in the urban economy. Housing in Latin America typically comprises between 15 and 20 percent of Gross National Product and affects real, financial and fiscal variables, making its performance critical to economic performance. Thus, both policy failures and successes regarding housing have the potential to damage or improve overall economic performance.

land uses. Much of that land is environmentally sensitive, in hazardous topographical areas with steep slopes or unstable soils, in watersheds, or in flood zones. Most often, it is the poor who occupy environmentally sensitive land, often illegally, and it is the poor who overwhelmingly bear the cost of environmental disasters. Thus, housing policy has an important role to play in the mitigation of environmental risks, particularly for the poor. Policies that affect the performance of the sector, of which those concerned with housing subsidies are an important part, are of critical importance in ensuring that urban and national economies function well, that economic and social objectives are served, and that the environment is protected and sustained. For this reason, both governments and international institutions, require clear policies and guidelines for their implementation.

This paper establishes guidelines for the design and evaluation of housing subsidies in Latin America. It complements the IDB=s Operational Guidelines for Housing. It provides greater detail on the motivation for housing subsidies, the role of housing subsidies as one of a number of housing policy instruments, criteria by which the need for subsidies may be ascertained, alternative subsidy systems, principles for subsidy system design, and informational requirements for designing and implementing housing subsidies. In addition, the paper provides a tentative assessment of recent IDB operations in housing and urban development with a particular focus on how housing subsidy elements of those projects stack up against the principles outlined in this report. Based on that assessment, recommendations are made for IDB policy and practice.

Finally, housing policies are an important component of environmental policy. Housing and its associated infrastructure account for more than half of all urban

IDB Operational Guidelines for Housing The context for this paper is provided by the IDB Guidelines for Housing, which were recently revised to reflect an amendment to the Operational Policy for Urban Development (OP-751) in 1995 which lifted the restriction on Bank financing of housing. The modified policy calls on the Bank to Asupport borrowing countries= efforts to improve the living conditions of the low-income population, encouraging governments to pursue policies to efficiently mobilize private and public resources to help households in solving their housing problems.@ Toward these ends, the objectives of the Bank=s activities regarding housing are (IDB, p. 3):

•

Support policies and sustainable programs and projects to improve housing conditions for lowincome households.

•

Improve public sector effectiveness both as a facilitator of private sector initiatives and in the management of public resources allocated to the sector.

•

Promote sector-wide allocative efficiency of housing markets and related markets such as land, financing and construction materials and services.

A more general way of thinking about the criteria that must be satisfied by housing subsidies is that they should facilitate and be consistent with an Aenabling strategy@ for housing, which not only takes account of the needs of subsidy beneficiaries, but also addresses the needs and interests of a broad range of stakeholder groups. Indeed, concern with the sustainability of housing subsidy systems should be seen as the challenge of getting Athe system@ to work right, so that subsidy beneficiaries are well served and other actors and stakeholders in the housing Asystem@ are each made to feel willing participants in the process of improving the housing conditions of low- and moderate-income households. Among these stakeholders are the land developers and builders, including those involved in building materials, labor, and infrastructure; housing finance, both formal and informal; community groups for which the integrity of the physical and social fabric of communities is a principal concern; the authorities that regulate and tax housing, particularly local governments; and authorities concerned with the many linkages that exist between the housing sector and the broader economy, notably national governments.

Within this context the Guidelines state that: •

The Bank will finance subsidy schemes for housing when these can be demonstrated to be efficient and equitable means of promoting improved housing conditions for the low-income population. Subsidies should always be transparent, well-targeted and explicitly itemized in the government budgets. There should also be sufficient evidence that the subsidies can be sustained until sector objectives concerning the low-income population are attained (IDB, p. 4).

While not explicitly stated in the Guidelines, it is clear that in addition to satisfying the specific requirements just cited, subsidies should be structured in a way that insofar as possible promotes the broader goals articulated in the Guidelines. This means, for example, that subsidies should promote rather than substitute for private sector housing activity; that they should enhance rather than distort incentives for land development, housing construction, and mobilization of resources for housing finance; and that they should not impose unnecessary costs on households that do not benefit directly from subsidies.

The Broader Policy Context: Enabling Strategies for Housing The Operational Guidelines for Housing were produced at a time when a fundamental paradigm shift had occurred among international agencies concerned with housing and urban development issues -- a shift first signaled in a significant way by the publication in 1988 of the United Nations= Global Shelter Strategy for the Year 2000, a U.N. policy document that was unanimously endorsed by the General Assembly. In that document, the U.N. observed that the stakes of good housing sector policy are high not only for the performance of the housing sector but also for the economy as a whole. Further, it observed that past government sector policies, often characterized by massive direct state provision of housing, had neither met the housing needs of the majority of citizens nor served well the broader social and economic interests of society. As an alternative to past policies, it recommended embracing policies that facilitate housing markets and, indeed, facilitate the ability of all major housing stakeholders (consumers, producers, financiers, and governments) to achieve their particular ends. There was seen to be little hope of devising policies capable of bringing about a well-functioning and sustainable housing system without taking account of the ways that the interests of different stakeholders within the sector either coincided or conflicted.

of its own housing policies, programs and projects. Reflecting on its own housing-related lending, it observed that: ... in the first two decades of Bank-financed housing projects, especially the necessity of adopting appropriate standards for housing and residential infrastructure and appropriate pricing and cost recovery, [the housing policy paper] suggests that these policies by themselves are not enough. (World Bank, 1993, p.1), and that: ... the scale of the Bank=s interventions in the past has been too narrow to have a major impact on the performance of the housing sector in developing countries. (Ibid.) The advice of the policy paper was simple; it advocated: ...the reform of government policies, institutions, and regulations to enable housing markets to work more efficiently, and a move away from the limited, project-based support of public agencies engaged in the production of housing. Governments are advised to abandon their earlier role as producers of housing and adopt an enabling role of managing the sector as a whole. (World Bank, 1993, p.1)

Thus, while the Global Shelter Strategy reiterated the traditional concerns of much housing policy, the needs of the poor, it also observed that the stakes of housing policy went far beyond the concerns of the poor, and, that policy also had to take account of the housing delivery system. In particular, it had to take account of the ways that the interests of the poor depend on a system that revolves about the needs and interests of many different stakeholder groups other than the poor. Policy=s goal was seen to be one of harmonizing the interests of these groups in order best to serve the common social and economic goals of society.

The paper then laid out a framework for designing and implementing enabling strategies consisting of seven areas in which governments were urged to play a role in Amanaging the sector as a whole,@ thereby allowing markets to work more effectively. There were seen to be three enabling instruments that addressed constraints on the demand-side of the market, three that addressed supply-side constraints, and one that addressed the management of the sector as a whole.1 The demand-side instruments are in the areas of:

The World Bank, in its own policy document, Housing: Enabling Markets to Work, published in 1993, expanded on the Global Shelter Strategy, and provided a remarkable self-assessment of the limitations

The following enumeration of enabling instruments is taken from World Bank, 1993, pp.4-5. For a brief tabular synopsis of some of the key features of enabling poli3

(1) developing property rights, ensuring that rights to own and freely exchange housing are established by law and enforced, and administering programs of land and house registration, and regularization of insecure tenure;

organizations, and ensuring that policies and programs benefit the poor and elicit their participation. These Aenabling instruments@ were seen as an arsenal of policy and programmatic choices that could be used to greater or lesser degrees in different countries depending on their level of economic and institutional development and on the degree to which the housing sector was seen to be functioning well or badly. Diagnosis was seen as critical to the specific nature of the prescribed remedy, ensuring that policy choices are sensitive to local contexts and are not a uniformly applied stock formula.

(2) developing mortgage finance; creating healthy and competitive mortgage lending institutions, and fostering innovative arrangements for providing greater access to housing finance by the poor; and (3) rationalizing subsidies; ensuring that subsidy programs are of an appropriate and affordable scale, well-targeted, measurable, and transparent, and avoid distorting housing markets.

For example, a greater emphasis on the development of property rights is required in the transitional economies of Eastern Europe, with their legacy of poorly developed systems of private property rights. Poor countries are in comparatively greater need of infrastructure. Latin American countries, with comparatively well-developed systems of housing finance, might require relatively less attention in this area but, might require more attention to policies to provide land and house registration and secure tenure. These sorts of broad, region-specific diagnoses were seen as useful, but were to be augmented by country- and city-specific diagnoses of key housing issues based on data such as that collected by the Housing Indicators Program, a joint World Bank-United Nations Program on which much of the analysis presented in the World Bank=s policy paper was based.2

The supply-side instruments are in the areas of: (4) providing infrastructure for residential land development; coordinating the agencies responsible for provision of residential infrastructure to focus on servicing existing and undeveloped urban land for efficient urban development; (5) regulating land and housing development; balancing the costs and the benefits of regulations that influence urban land and housing markets, especially land use and building, and removing regulations which unnecessarily hinder housing supply; and (6) organizing the building industry; creating greater competition in the building industry, removing constraints to the development and use of local building materials, and reducing trade barriers that apply to housing inputs.

The IDB Housing Policy Guidelines were formulated within the context of enabling strategies and with an

There is a seventh instruments complementing the first six:

The Housing Indicators Program was initiated by the U.N. Center for Human Settlements (UNCHS) and the World Bank in 1990 to provide a basis for measuring the performance of the housing market in cities and countries at every level of economic development. The initial phase of the Program collected data on 55 key indicators of performance and on more than one hundred features of the policy, regulatory, and institutional framework likely to influence sector performance. A subsequent phase is now being administered as a part of a broader program of data collection by the UNCHS -- the Urban Indicators Program in which more than one hundred national governments have participated, providing data on key indicators of urban performance in nearly 300 cities.

(7) developing the institutional framework for managing the housing sector; strengthening institutions which can oversee and manage the performance of the sector as a whole, bringing together all of the major public agencies, private sector, and representatives of nongovernmental organizations and community-based

cies, see Annex 1: The Do=s and Don=ts in Enabling Housing Markets to Work. 4

eye toward the specific market and institutional context of the region. For example, the Housing Policy Guidelines mirror the recommendations of the Global Shelter Strategy and the World Bank=s Housing Policy Paper in calling for activities in the areas of: • • • • • •

• • • •

and to the sustainability of the solutions proposed. In the area of housing subsidy, design and reform, the Guidelines note that Athe provision of subsidies is controversial,@ and that Athe impact of many past national schemes has been quite contrary to the national interest, poverty reduction and to principles of equal opportunity and allocative efficiency.@ In considering the need for subsidies and how they should be designed, the Guidelines ask:

improvement of the regulatory framework for housing production, promotion of efficient urban land markets, establishment of efficient and sustainable housing finance mechanisms, promotion of private investment in rental housing, development of an efficient and competitive building industry provision of infrastructure for residential land development and the provision of serviced land for low-income households, promotion of slum upgrading, stimulation of home-based microenterprises, reform or establishment of efficient subsidies, and establishment of an efficient institutional framework.

•

Are the proposed subsidies for housing justified in the context of the country=s overall policies for social services and poverty alleviation? Specifically, are housing subsidies an appropriate use of public resources?

•

Are subsidies justified and sustainable in the light of the government=s fiscal position?

These questions can be addressed in terms of the evolving rationale for intervention in the housing sector that is provided by the Aenabling framework,@ in which housing subsidies are one in an array of instruments for addressing both social and economic objectives. Alternatively, it is useful to examine housing subsidies in light of the more traditional rationale for subsidies, where arguments for and against their use are cast in terms of criteria that can be applied as well to other areas of social concern such as health, education, public safety, etc.

As in the case of the World Bank=s Housing Policy Paper the IDB Guidelines are concerned with ensuring that the scale of its operations is appropriate. The guidelines state that to ensure maximization of the impact of Bank involvement in housing, project selection and design will pay attention to the expected impact in relation to the scale of the relevant problems

Are Housing Subsidies an Appropriate Use of Public Resources? While the evolution of the concept of enabling strategies for housing has provided a powerful framework within which to evaluate the design and application of any policy or program, (especially housing subsidy programs), it is important as well to keep in mind the traditional rationale for subsidies. Before the advent of the "enabling" concept, housing subsidies were typically justified on the basis of a number of criteria. Some of these represent market or non-market Afailures@ intended to be corrected by subsidies, and others represented broad social or economic objectives which could be served by housing subsidies as part of a broader package of targeted assistance, often as part of a social safety net.

ing incomes across cities are not necessarily reflected in higher housing or infrastructure standards. Within roughly the same income range, Asuncion in Paraguay, and Cochabamba and Santa Cruz in Bolivia have low levels of water connection and permanent structures for their income level (between roughly 40 and 60 percent for each variable), while other cities, such as Bogota, Colombia, and Cuenca, Ecuador, have high levels of both permanent structures and water access (above 90 percent for each variable). The market, by itself, does not automatically translate higher incomes into better housing or infrastructure. On the other hand, low incomes are not automatically reflected in poor standards of housing and infrastructure. Table 1, for example, indicates the incidence of electricity and private water connections across the income distribution in Sonsonate and Santa Ana in El Salvador, at the time of household surveys conducted in the early 1980s. Median household income in each city was about the same at the time (about $150-160 per month). Yet the incidence of both services was considerably higher in Sonsonate (92 percent of households were served by electricity compared to 66 percent in Santa Ana; 96 percent with private water connections in Sonsonate versus 62 percent in Santa Ana), but there was little variation in access to services across the income distribution in Sonsonate.3

TRADITIONAL MOTIVATIONS FOR HOUSING SUBSIDIES Housing Is a Merit Good It is part of a set of goods and services about which there is a social consensus regarding the right or desirability of universal access to some minimum level of provision. Private incomes are too low or preferences are such that many households do not opt for or are incapable of affording minimal service levels, making subsidies necessary. Attained housing standards, whether in the form of physical quality or access to basic residential infrastructure such as water and sanitation, vary greatly across cities and countries, as well as across incomes. Often, residents of higher income cities have lower quality housing than do residents of lower income cities. Within cities, increasing incomes are generally associated with better housing quality and better access to services, but this is not always the case. Figures 1 and 2 indicate the incidence of dwellings built with permanent building materials and those with connections to piped water within a sample of cities on which data were collected as part of the UNCHS Urban Indicators Program. Each figure indicates that neither physical standards (in the form of permanent structures) nor infrastructure is universal, and that increas-

The ubiquitous provision of services in Sonsonate reflect the government's decision that residential services are indeed merit goods and then acting to ensure their provision. Over time, levels of service provision in Santa Ana were converging toward those of Sonsonate but, in the case of water, still had not reached the latter=s level a decade later. If a consensus supports provision of a socially acceptable minimum standard for all (or to groups defined as 3

According to Urban Indicators Program data, the incidence of electricity and water in Santa Ana had risen to 95 percent and 76 percent respectively by a decade later. 6

Figure 1: Permanent structures and Gross City Product per capita in Latin American cities, 1990 (percent) CAJAMARCA TRUJILLO CUENCA GEORGETOWN

CURITIBA

BOGOTA

RIO DE JANEIRO SANTIAGO

KINGSTON

ASUNCION COCHABAMBA

SANTA CRUZ

Figure 2: Water connections and Gross City Product per capita in Latin American cities, 1990 (percent) SANTIAGO

BOGOTA CUENCA

BRASILIA

RIO DE JANEIRO

CURITIBA

CAJAMARCA

ASUNCION

SANTA CRUZ COCHABAMBA EL AL TO

especially needy), either the costs of providing that minimum have to be brought down to a level that households can afford, or subsidies have to be granted. Determining whether or not subsidies are required depends on an assessment of household willingness-to-

pay for public or private components of the minimum standards of service and the costs of provision. It may be possible to put in place cost-effective systems of service provision with adequate cost recovery which require no subsidies; alternatively, internal cross7

subsidies may be all that is required. In some instances, subsidies representing transfers from outside the users of the system may be necessary, especially if the standards of the merit good are set high.

or publicly regulated utilities. Reasons for these arrangements have to do with indivisibilities in service provision (a minimum scale at which provision is technologically or economically viable); and with decreasing costs of provision, (the latter means that

Table 1: Incidence of Electricity and Private Water Connections by Income Decile in El Salvador, 1980 (percent) Income

Santa Ana

Sonsonate

Decile

Electricity

Water

Electricity

Water

100

Average

conventional criteria of setting output at levels where marginal cost and marginal revenue are equal would result in suboptimal levels of provision). Subsidies are necesary to achieve a scale in service provision that is socially and economically optimal in Latin America and in the Caribbean, the informal sector of the housing market is highly active, operating on the fringes of the formal legal market. Many, if not most, dwellings in the informal sector fail to comply with either zoning or building codes; much is built on land to which the occupant does not have legal title. Data collected in seven cities in the region in 1990 as part of the Housing Indicators Program show that the median propor-

Housing Has Elements of a Public Good Housing is a complex commodity, made up of many attributes, some of which have elements of a public good likely to be underprovided by private markets. The legal framework for private property rights is, for example, customarily provided by governments rather than by private institutions. Residential infrastructure services such as water, sanitation, road infrastructure, and drainage, while increasingly provided by the private sector within individual housing developments, are nevertheless provided at scale, in the form of trunk infrastructure capital and operations, by governments 8

tion of Aunauthorized housing@ was 0.268 (the mean was 0.300). Data collected subsequently as part of the Urban Indicators Program on 22 cities in the region indicated a similar proportion of unauthorized housing, 0.252 (with a mean of 0.311). In the sample of seven cities, as much as 54 percent of the housing stock (in Caracas) was estimated to be unauthorized; in the sample of 22 cities, as much as 84 percent (in Cajamarca, Peru) was estimated to be unauthorized.

secure property rights among the sample of 22 Latin American/Caribbean cities. The table looks at median outcomes for under-five child mortality, the number of children per classroom, and the proportion of unauthorized housing among cities divided into four income quartiles. While child mortality and children per classroom fall as incomes rise (by about 60 percent and 32 percent from the first through the fourth quartiles respectively), the proportion of unauthorized housing is unrelated to income; the highest incidence of unauthorized housing is among the lowest and highest income countries in the region (56 and 38 percent respectively).

Compared to other regions, the incidence of unauthorized housing in Latin America is far higher; in ten countries outside Latin America that had similar per capita GNP in 1990, the median proportion of urban dwellings estimated to be unauthorized was only 0.079 (with a mean of 0.136). Thus nearly a fifth more of the housing stock in Latin American cities is unauthorized compared to other parts of the world. Undoubtedly the incidence of unauthorized housing is far greater among the poor than among the better off in Latin America. It is a public responsibility to devise and implement the legal systems and policies required to bring housing into compliance with land and building regulations. Unless this is done, secure tenure will be underprovided relative to what is likely to be socially and economically optimal.

The costs of unauthorized, illegal housing to its occupants and overall society have been noted repeatedly, especially in Latin America (see, de Soto). In a crosscountry study of the determinants of property values, it was found that each percentage point increase in the proportion of unauthorized housing resulted in a decrease in median property values of about four-tenths of a percentage point (Angel and Mayo, forthcoming). Effects of insecure tenure on individual property values are even greater, reducing them by as much as twothirds. (Friedman, Jimenez and Mayo). Mitigating these costs by improving the security and transferability of private property rights should be seen as a major housing policy objective, and as one for which the ant.

It is interesting to note, moreover, that in some other areas of public goods provision, Latin American countries appear to be doing a better job. Table 2, for example, compares outcomes for health, education, and

Table 2: Under-Five Child Mortality, Children Per Classroom and Unauthorized Housing in Latin American Cities, by Income Quartile

Under-five child mortality (deaths per 1000)

Children per classroom

Unauthorized housing (percent)

7.30

47.0

56.0

6.20

40.6

1.4

4.55

38.0

19.3

3.00

32.2

37.9

Income quartile

Source: Unpublished data from UN Center for Human Settlements, Urban Indicators Program, 1996.

Market failures occur with regard to provision of housing and of particular housing attributes because of the existence of externalities (e.g. neighborhood conditions) which discourage socially optimal levels of provision, such as underinvestment in community upgrading or facilities or in upgrading of individual dwellings. Subsidies are required to overcome the effects of externalities by either directly providing the goods and services whose supply is suboptimal or creating incentives for private provision.

housing. Policies that impose minimum housing quality standards, for example, may raise both standards and housing costs for some households that can afford to pay. But it may leave others that are unable to pay for them living in marginal housing conditions and outside the law. Policies that create regulatory uncertainty regarding the land and housing development process may unnecessarily raise land and housing prices to a level affordable only by households in the uppermost tiers of the income distribution. Subsidies may be required to offset the additional costs imposed by many types of policies and regulations with objectives and mechanisms that largely disregard their effects on the supply of adequate affordable housing to the poor.

Slums and squatter settlements provide a classic example of the effects of neighborhood externalities, where incentives for individual property owners are depressed because of the negative influences of neighboring properties. On the other hand, collective action in the form of organized programs of slum upgrading can overcome individual disincentives. Evidence concerning the cost of market failures from neighborhood externalities is apparent on examination of the calculated rates of return to slum upgrading investments made as a result of loans by organizations such as the World Bank. A 1988 analysis (Malpezzi, 1988) of 23 completed urban projects financed by the World Bank found that the ex post economic rate of return in slum upgrading projects averaged 22 percent and ranged from 10 to 31 percent. Not only was the rate of return higher in slum upgrading projects than it was in sites and services projects (which averaged 19 percent), but the variance in rates of return was lower (likely reflecting the reduced risk of upgrading existing developments relative to that of undertaking new development). While this evidence indicates that it could well be possible to structure slum upgrading projects without subsidies by recovering the costs directly from beneficiaries of the projects, they also suggest that there are strong grounds for including at least some subsidy component in such projects. Otherwise the collective action required to overcome the effects of negative neighborhood externalities would simply not be forthcoming.

Research conducted as part of the Housing Indicators Program has illustrated some of the costs imposed by inappropriate policy choices, which often take the form of higher housing prices. The program devised quantitative measures of the extent to which housing polices could be characterized as Aenabling@ or Anon-enabling.@ In addition to an overall Enabling Index which assigned a numerical score to a country's housing policies, subindices were devised that rated housing policy elements regarding housing finance, property rights, taxes and subsidies, infrastructure provision, the regulatory framework, and the organization of the building industry. Indices for the last three elements were combined into a Ademand enabling index@ and for the latter three into a Asupply enabling index.@ Figure 3 illustrates the relationship between the calculated supply enabling index and a measure of housing prices among six Latin American/Caribbean countries in 1990.4 Higher values of the enabling index is associated with polices regarding infrastructure provision, regulation and organization of the building industry that are Afriendlier@ to housing supply. The figure, which mirrors general findings for countries throughout the world, indicates that a weighted average of housing prices for owner- and renter-occupied housing is strongly related to the degree to which housing policies

Non-market failures in the form of inappropriate policies, regulations and administrative arrangements concerning the provision of housing constrain either the demand for housing or its supply, producing market distortions that impose welfare losses on households from either overconsumption or underconsumption of

The housing price index is a weighted average of hedonic price indexes for renter- and owner-occupied housing with weights based on the fraction of each type of housing in a given market. Indexes were estimated for a sample of cities in the Housing Indicators Program. (See Angel and Mayo, forthcoming).

may be judged as Aenabling.@ Countries such as Ecuador, Jamaica and Mexico, which have polices judged to be less enabling, have housing prices with an index value of from 1.1 to 1.5, about twice the level of housing prices in Venezuela and Chile, where policies are more enabling and the price index value ranges between 0.6 to 0.8.

While the most direct approach to reducing housing costs and improving housing space and quality standards is undoubtedly to adopt enabling housing policies across the board, it is not possible to do so instantaneously. Consequently, housing subsidies have an important transitional role to play as other policy reforms are instituted.

The distortions in housing prices that are induced by housing policy choices, especially those affecting the supply of land and housing, impose direct costs on households in the form of higher prices, and indirect costs in the form of reduced housing consumption. Changes in enabling indexes have been found to have powerful associations with, for example, the amount of floor area per person. Enabling polices on both the supply and demand-side of the market contribute to greater space standards. Increases in the value of the

It should be noted, however, that the efficacy of subsidies is greatly diminished in the face of high and distorted housing prices. This is because the unit cost of a subsidy designed to provide a given level of housing to a beneficiary will be considerably higher in places with high housing prices than is the case in places with lower prices. Fewer households can be served in the face of high unit housing costs than can be served when prices are lower. Thus, subsidy and other enabling policies are complementary.

Figure 3: Supply Enabling Index and Housing Prices in Latin American Cities, 1990

supply enabling index of 10 percent were found to be statistically associated with increases in floor area per person of about 7 percent doubling the measured degree of Aenabling@ slightly less than doubles space standards (Mayo, 1998).

Welfare promotion. In addition to these traditional arguments it is sometimes argued that subsidies help to promote welfare by creating incentives for improved income generation or wealth creation, especially by the poor. For example, a significant proportion of the informal economy of 11

many cities is in the form of home-based businesses. To the degree that subsidies make it possible for households that would not otherwise be able to accommodate both living space and a business to do so, the incomes of subsidy beneficiaries could be directly increased by their ability to establish a home-based business. Other income related benefits are likely to accrue as a result of increased access to safe drinking water and adequate sanitation, by reducing work days lost due to illness. Electrification of dwellings may also be associated with better school performance and subsequent income improvements.

to former squatters from owners of illegally occupied land. Subsidies that increase tenure security by either formal mechanisms that grant de jure tenure (e.g. land registration and titling) or create de facto ownership rights by extending infrastructure to illegal settlements can immediately increasing property values as well as incentives to invest in further upgrading, which leads to additional increases in property values. If financial systems permit the collateralization of existing housing, homeowners can draw on this wealth to finance further housing improvements, business investments, or investments in education. Even if this is not the case, homeowner with secure tenure can sell their property when need be. Secure tenure is underprovided by markets because of its public good nature. This justifies the porvision of subsidies by either de jure or de facto enhancement of tenure security.

Secure and transferable private property rights, moreover, are an important pathway toward the accumulation of wealth, perhaps the single most important one. To the degree that subsidies enable households to become private property owners, with the right to freely sell their property to others or use it as collateral, they are able to increase their wealth as well as its liquidity. The importance of this not only for individual households but also for the broader economy can not be overemphasized. Ibbotson et al., for example, calculated during the 1980s that real estate was by far the dominant form of investable wealth throughout the world. It represented 56 percent, greater by far than the value of all equities, bonds, precious metals, consumer durables and other assets. Residential real estate comprised about 75 percent of the total value of real estate, with the remainder made up of commercial and farm real estate. This meant that residential real estate was then, and continues to be, the single most important form of wealth in the world comprising some 42 percent of the investable wealth. These aggregate figures are mirrored in the portfolios of households. Housing is the dominant form of wealth for most households in most countries. It is, therefore, the most important motivation for savings for a large portion of the population.

The increased values associated with secure tenure are not, by convention, treated as benefits in typical project economic analyses by international institutions. Instead, the increases in rental values associated with housing or infrastructure investments are treated as the benefits of housing projects.5 Increases in the rate at which rents are translated into property values that stem from increased tenure security are typically ignored in project economic analysis. This convention is wholly at variance with contemporary business practice, which is sometimes accused of being preoccupied with the maximization of net worth at the expense of attending to current cash flows. It is as though in housing project analysis the concept of the price/earnings ratio is irrelevant. Yet the relationship between values and rents in housing projects is critical to their success and, indeed, may be the most appropriate measure by which to account for the benefits associated with housing projects or the subsidies that they

A great deal of empirical research indicates that property values increase when secure tenure is granted. When squatter settlements are upgraded, and occupants given legal title and secure tenure, property values often increase by between 50 to 200 percent (see Jimenez; Friedman, Jimenez, and Mayo; Strassman; Struyk and Linn). As Hoy and Jimenez show, these increases in property values represent, for the most part, pure efficiency gains rather than transfers in value

Increases in rental values resulting from infrastructure and superstructure investments, which are typically used in housing project economic analyses as the basis for benefit calculations, are generally sufficient in and of themselves to justify housing project interventions by governments. Estimated ex post rates of return in World Bank shelter projects completed between 1972 and 1992 were reported to have averaged 18.8 percent . (Kessides, 1997, p.6) 12

medium-run inelastic with respect to income. A major cross-country study of housing demand conducted in the 1980s found that in eight developing countries, the estimated income elasticity of housing demand ranged from to 0.31 to 0.88 for renters and from 0.17 to 1.11 for owners with a median for renters and owners, respectively, of 0.49 and 0.46. In the Latin American/Caribbean cities studied, housing demand was similar to the overall average behavior. Estimated income elasticities of housing in Colombia, El Salvador and Jamaica ranged from 0.44 to 0.70 among renters and from 0.69 to 1.11 among owners, with respective medians for renters and owners of 0.50 and 0.77.

sometimes embody to provide the public component of the housing bundle. Subsidizing the public components of housing can dramatically increase housing values even if rents are not much affected, and this can often be the most important benefit of housing projects. Impact on Housing Costs A final justification for housing subsidies is based on the ability of certain kinds of subsidies to reduce the overall cost of housing rather than simply augmenting the ability to pay of low-income groups. Most housing subsidies focus on their ultimate beneficiaries, attempting to increase their effective demand for housing either by directly increasing the resources made available to them or those available through intermediaries such as housing developers, financial institutions, etc. Subsidies can, however, be structured not to increase directly the demand for housing by beneficiaries, but to do so indirectly by lowering the price at which housing is supplied, that is, by increasing incentives for housing suppliers or financiers to provide lower-cost alternatives. For example, subsidies can be used to provide the initial capital for funds to indemnify mortgage lenders against risks of default or to initiate secondary mortgage operations, each of which can increase the flow of funds available for mortgage lending and reduce lending rates. They can be used to support development of small-scale building materials producers that can increase competition in the housing supply industry. They can be used to provide incentives for local governments to reduce regulatory barriers, which restrict competition or raise the costs of land development and housing construction. They can be used to increase the capacity of agencies responsible for regulatory approvals for housing developments or for providing trunk infrastructure. In many of these cases, the need for subsidies may be only temporary, to smooth the transitions, new sustainable institutional and administrative arrangements for land and housing supply and financing.

Inelastic housing demand implies that housing expenses consume a larger portion of household budgets among low-income households than among higher-income households. Given that food budgets are also disproportionately greater among the poor, high unit costs of housing can greatly restrict discretionary spending on health, education, transportation and other goods and services that are high priorities among the poor. Table 3, shows the expected ratios of rent-income distribution in various Latin American/Caribbean cities based on empirically estimated cross-country demand relationships. The table was constructed by estimating the expected relationship between the median rent-toincome ratio and household income and prices for a sample of market economies. The estimated relationship was used to calculate the expected rent-to-income ratio for median income households (assuming the price of housing equal to a normalized value of one). National income distribution data was used to calculate expected rent-to-income ratios at different points in the income distribution (assuming that within-country or within-city demand is characterized by an income elasticity of 0.6, which is consistent with empirical evidence). The table indicates that median expected rent-to-income ratios range from 0.142 in Nicaragua to 0.194 in Chile, Mexico, and Trinidad and Tobago; the overall expected median ratio for the 22 countries is 0.188. In general, ratios of rent to income increase with the level of economic development over a broad range of incomes, and this is reflected in the calculations presented here (See Malpezzi and Mayo for a discussion). In contrast

Any such actions to reduce the cost of housing are likely to be far more important for the poor than for better-off households, given the nature of housing demand. Empirical studies of housing demand have found, for example, that demands for housing is, in the short- to 13

to the tendency for rent-to-income ratios to increase with income across countries, within country rent-to-income ratios are higher among low-income groups than among higher-income groups. Based on empirical evidence, expected rent-to-income ratios at the 10th income percentile have a median value of 0.303, and range from 0.22 in Nicaragua to 0.383 in Panama. At the 30th income percentile the expected rent-to-income ratio has a median value of 0.229 and ranges from 0.17 in Nicaragua to 0.242 in Panama.

highest income countries, food expenditures average about 30 percent of family budgets. As in the case of housing, the share of income spent on food is higher among low-income households than among better-off households. In low-income countries, food in households in the lowest quartile of the income distribution can easily consume between 60 and 70 percent of family budgets. Once food and housing are accounted for, there is often little left for other items. For many lowincome households, the fraction of income left over for goods and services other than food and housing may be little more than 10 percent. By decreasing housing costs, therefore, large improvements can be made in the resources available for spending on important discretionary items such as clothing, transportation, medical care, and education. And because the price of housing is demonstrably related to policy choices, the ability through subsidies and other policies to influence the well-being of poor households is considerable.

Housing costs are second only to food costs in the budgets of low- and moderate-income households. Figure 4 illustrates the way that food costs vary in relation to household budgets in 19 Latin American/Caribbean countries. In the lowest income countries in the region, with monthly household incomes in the range of $100-300 (in 1990 US$), food costs average between 37 and 52 percent of family budgets. In the

Figure 4: Food Expenditures as a Proportion of Household Budgets in Latin American Cities

Food Consumption/Total Consumption

0.55

0.5

0.45

0.4

0.35

0.3

0.25

0.2 0

100

200

300

400

500

600

700

Household Income 1990 US$/Month

800

900

1000

Table 3: Estimated Household Incomes and Expected Rents, 1996

Argentina Bolivia Brazil Chile Colombia Costa Rica Dominican Republic Ecuador El Salvador Guatemala Guyana Haiti Honduras Jamaica México Nicaragua Panamá Paraguay Perú Trinidad and Tobago Uruguay Venezuela

1996 Median Annual HH Income (1990 $US) 10476.8 1861.3 4269.0 6297.3 3492.6 4818.5 2753.2 2939.9 2736.6 2750.5 1282.6 855.1 1202.4 2564.7 6581.1 758.9 4248.7 3018.8 4704.2 5824.0 7879.2 4823.6

1996 Median Monthly HH Income (median) 873.07 155.11 355.75 524.77 291.05 401.54 229.43 244.99 228.05 229.20 106.88 71.26 100.20 213.73 548.42 63.24 354.06 251.56 392.01 485.34 656.60 401.96

Monthly Expected Rent (1990 US$)

10%ile 84.79 15.28 29.83 51.41 25.84 36.94 21.99 26.61 19.68 16.09 10.30 5.33 7.63 22.18 54.42 4.64 23.98 18.63 40.00 47.86 64.62 38.46

30th%ile 126.49 21.25 48.91 75.22 41.40 59.29 32.12 35.92 31.95 29.60 14.16 7.95 11.87 31.12 80.04 6.83 47.73 32.78 58.37 71.40 96.40 59.10

50%ile 166.43 27.05 68.11 101.64 54.95 77.33 42.30 45.50 42.02 42.26 17.34 10.46 16.02 39.07 106.22 8.97 67.77 46.85 75.42 93.94 126.84 77.41

Median Expected Rent-to-Income Ratio

10th%ile 0.299 0.255 0.332 0.305 0.312 0.315 0.285 0.266 0.306 0.351 0.229 0.230 0.262 0.267 0.303 0.220 0.383 0.344 0.294 0.303 0.303 0.307

30%ile 0.229 0.205 0.239 0.237 0.228 0.230 0.222 0.217 0.221 0.234 0.186 0.176 0.195 0.213 0.234 0.170 0.242 0.236 0.228 0.232 0.232 0.231

50th%ile 0.191 0.174 0.191 0.194 0.189 .0.193 0.184 0.186 0.184 0.184 0.162 0.147 0.160 0.183 0.194 0.142 0.191 0.186 0.192 0.194 0.193 0.193

Source: Household incomes calculated based on figures on percapita NGP and ratios of personal consumption to GNP in World Bank, World Development Report, 1997, household size from UN Center for Human Settlements, Global Report on Human Settlements, 1996; income distribution from World Bank, ibid, and "expected rents" calculated from unpublished Housing Indicators Program data.

Limitations and Risks of Housing Subsidies the program standard, less the expected contribution of the beneficiaries. Beneficiary contributions are based on a fraction of their incomes, the contribution rate, B. The total cost of the program is equal to the unit cost, C, multiplied by the number of beneficiaries, N.

While the rationale for housing subsidies is strong based on traditional arguments or on the need to complement other Aenabling policies@ design and implementation of housing subsidies is not without risk. Among the questions asked concerning housing subsidy programs are the following: •

Can governments affort them? Are they affordable by governments? Can they be sustained?

•

Do they displace private housing activity?

•

Do they cause market distortions which offset their benefits (e.g in areas such as prices, housing consumption of nonbeneficiaries, financial development and the spatial efficiency of cities)?

To examine the questions of program affordability and sustainability, consider the following example. Suppose that housing standards in a subsidy program in the Dominican Republic are equal to those of the Atypical@ house occupied by the median household in 1990. As illustrated in Table 3, the standard, S*, would be the monthly cost of housing for the median household, $42.30 (in 1990 $US). If the program aimed to provide housing of this quality to households in the 10th income percentile and to charge them a monthly amount equal to 20 percent of their income (B in the formula above), they would be paying $15.40 (20% of $77). This compares to an expected monthly payment, of $21.99 in the absence of subsidies. The unit cost of the subsidy is thus $42.30 - 15.40 = $26.90 per month.6 Were the housing standard for the program set based on housing occupied by households at the 30th percentile, ($32.12 per month), the unit cost of the subsidy would be reduced to $16.72 per month. On an annual basis, therefore, the cost of providing

These questions must be addressed to know if there are inherent limitations to housing subsidies and, if so, whether they can be addressed through appropriate design. AFFORDABILITY AND SUSTAINABILITY OF HOUSING SUBSIDIES The cost of a housing subsidy program reflects the program's objectives, the number of participants and the unit costs of achieving each beneficiary's objectives. For many types of housing subsidy, it is possible to represent the unit cost of the subsidy through the following formula:

The calculation of subsidies in the example is cast in terms of a recurrent subsidy, which in actual practice could take the form of a housing allowance. In Latin America, demand-side subsidies are typically lump-sum subsidies in the form of initial capital grants for housing. The two types of subsidies are functionally equivalent if it is assumed that lump-sum subsidies are financed by the sale of government bonds with recurrent costs in terms of interest and repayment of principal. Administrative costs for housing allowances and lump-sum subsidies would be different, and could well be higher for the former. On the other hand, targeting of subsidies is better for recurrent subsidies, since subsidy eligibility can be continuously reassessed whereas with lump-sum subsidies, only initial period incomes and other conditions of eligibility are assessed.

C=S* - BY where, C = unit cost of the subsidy S* = the level of housing standards Y = household income B = the contribution of households the housing solution The formula indicates that the unit subsidy cost is equal to the cost of the so-called Aguarantee level,@ S*, 15

generous (median household standard) or less generous (30th percentile household standard) subsidies would be (12* *$26.90=) $322.80 and (12*$16.72 =) $200.64, respectively for each household receiving a subsidy.

gested in the previous section, subsidies on the order of 5 percent of government budgets do not appear unwarranted. Other information on the allocation of government resources to housing subsidies is available. One such source is the Housing Indicators Program, which also collected data on the degree to which the benefits of subsidy programs reached the poor. Figure 5 indicates the share of government budgets reported to have been allocated housing subsidies in nonsocialist countries, in relation to countries= level of economic development, as measured by household income. The relationship between reported fiscal effort in relation to housing subsidies is highly variable among countries with similar income levels, although there is a general tendency for shares to rise with the level of income. Reported shares of government budgets allocated to housing subsidies were 1.1, 1.4, 5.6, and 7.5 percent, respectively, for quartiles of countries in ascending order of GNP per capita in 1990 (median levels of GNP per capita were $370, $1260, $4040, and $20470, respectively, for the four groups). Of the five Latin American countries reporting to this program, Colombia reported no housing subsidies in 1990 and Brazil reported subsidies equal to 9.1 percent of the budget. Questions exist about the reliability of these figures in light of the lack of standardized definitions of what constitutes a housing subsidy and protocols for calculating them. Notwithstanding these problems, it appears that many countries at the approximate level of development of Latin America typically allocate between 1 and 5 percent of their government budgets to housing subsidies.

In 1990, there were approximately 860,000 urban households in the Dominican Republic. The GNP was approximately $7 billion, and the government budget was about 9.5 percent of GNP or $675 million (only about half the Atypical@ government budget relative to GDP in Latin America). Were a housing subsidy program to have focused on delivering housing of the two standards discussed above to all households in the first decile of the income distribution (86,000 urban households) the annual subsidy costs would have been approximately $17 million and $28 million for the less and more generous standards respectively, assuming that housing at each level of standards could be delivered at the cost actually being incurred by households in the 30th and 50th percentiles, respectively. These figures represent, respectively, about 0.24 and 0.40 percent of GNP and about 2.5 and 4.1 percent of the government budget in a country with a comparatively modest government budget relative to the overall level of economic activity. Could the government afford such a program? Would it be sustainable? The answers to these questions are, in a sense, straightforward. Programs that benefit ten percent of the population, materially improving their standard of living, and cost as little as two to four percent of government budgets are easily affordable. Typically, developing country governments report allocating between two and four percent of central government expenditures Ahousing and community development.@

What is reasonable, affordable, or sustainable depends ultimately on the merits of a particular subsidy program in relation to competing budgetary priorities. In practice, the APublic Investment Reviews@ of international assistance organizations have had great difficulty in evaluating the comparative merits of investment programs across social and economic sectors. Short of identifying clear Awhite elephants@ that can be easily sacrificed in the face of the need for budgetary stringency, there have been few transparent and rigorous principles established to guide cross-sectoral budget allocations. Consequently, subsidy budgets need to be determined largely on the basis of the internal logic and

In most Latin American countries, government budgets relative to GDP typically account for between 12 and 20 percent of GDP; among the 22 countries in Table 3, the mean government budget in 1990 was 17.3 percent of GDP. If 5 percent of the government budget were allocated to housing subsidies, it would amount to an average of 0.9 percent of GDP. Since the share of GDP originating in the housing sector is likely to be between 15 and 20 percent, this is roughly proportional to the share of GNP originating in the sector. Given the strong rationale for subsidies to the sector sug16

rationale of particular programs. Are they justifiable on the basis of not one but many of the rationales set out above? What evidence of economic merit, e.g. economic rates of return, impacts on property values, impacts on reducing the cost of housing, etc. exists? Do they reach a broad or narrow portion of eligible beneficiaries? Are their benefits equitably distributed? Do they avoid distortions that affect either beneficiaries or nonbeneficiaries that reduce their impact and effectiveness? The latter question, which is of particular importance, is addressed in the next two sections.

finding, it is almost certain that, in general, publicly subsidized units are close substitutes for private dwellings and that when output of publicly subsidized housing increases, sooner or later private construction declines to maintain the overall balance between households and dwellings. Over periods of time shorter than a decade, the degree to which subsidy programs are able to add to the stock of housing is less clear. Housing markets are frequently characterized by considerable lags in adjustment of prices, output, and stocks in relation to stimuli. Consequently, it is possible to accelerate both output and the rate at which the housing stock expands by subsidizing housing over modest periods of time. Indeed, it is just this possibility that justifies the claim that housing can be a Aleading sector@ or a major element in government programs to stimulate the economy. That is, if private housing output is depressed because of a decline in economic activity, it is apparent that both the sector and the economy as a whole can be Ajump started@ by infusions of resources that take the form of housing subsidies. Chile, which was suffering from a serious recession in 1982, initiated a housing subsidy program that had the effect of boosting hous-

THE SUBSTITUTION EFFECT IN HOUSING SUBSIDIES Do housing subsidies add to the stock of housing or substitute for housing that would have been built anyway? This question has a simple answer. Over periods of a decade or more, research indicates that the stock of housing in most countries increases at a rate that is virtually indistinguishable from the rate of household formation, allowing for rising space standards, reckoned in terms of households per dwelling unit (Angel and Mayo, forthcoming). In light of this

Figure 5: Housing Subsidies as a Proportion of Government Budgets, 1990

ing output from about 10,000 dwellings per year to more than 30,000 units within a short time, and which eventually led to housing completions of some 80,000 dwellings annually (the result both of subsidies and unsubsidized housing that was produced as a response to a largely successful pump priming exercise).7 The cost of the Chilean program was estimated to be on the order of two percent of GNP at the time.

do mortgages, producing less crowding out than was the case with interest subsidized housing. Murray=s original paper, nevertheless, concluded that there were offsets to publicly subsidized public housing on the order of 2 to 3; e.g., it took building three units of public housing to add one unit to the stock because of crowding out. In his later paper, Murray examines the crowding out issue over a longer time period and concludes, as before, that conventionally financed subsidized housing substitutes exactly for private housing. Despite some qualifications, however, he concludes that there is no convincing evidence that conventional public housing crowds out private housing, even in the long run. In interpreting this finding, he argues that the demand for public housing is more that of Asociety@ than of the tenants of public housing, and that the tenants of public housing do not respond to society=s offer by reducing their demand for private housing one-for-one, but rather by using the public housing program to reduce their effective household sizes, undoubling as it were from the private to the public housing stock. This conclusion is consistent with that of other analysts of the U.S. social welfare system (e.g. Bain and Elwood) who have observed that welfare payments to single parents induce them to form separate households more often than they otherwise would.

During times when the housing sector is producing at close to its capacity, it is far more likely that increases in subsidized housing construction will result in decreased levels of private housing output. Murray (1983 and 1997) has investigated the connection between subsidized and unsubsidized housing starts in the United States, where data permit more careful economic analysis than in developing countries. In his initial analysis, he found that housing produced under a program that relied principally on an interest rate subsidy to private developers and was to a considerable degree demand-driven in terms of the cities in which subsidies were allocated (Section 236 housing), depressed construction of private unsubsidized housing at a one-for-one rate. The reasons for this had to do with the fact that subsidy participants had private market alternatives to subsidized housing and thus, by electing to participate in a subsidy program, gave up the possibility of participating in a private alternative. Another reason was that the source of finance for subsidized and unsubsidized housing programs was essentially the same; namely, private capital markets. Thus, when public sector demand for housing finance rose, the price of private sector financing also rose, depressing demand for private mortgages and private housing starts. On the other hand, conventional public housing, is targeted at lower-income households who are typically unable to participate in the market for new construction. It is also financed through the sale of tax-free local housing authority bonds that appeal to different investors than

This latter explanation appears likely to have potential bearing on the issue of whether or not crowding out will be an issue in Latin America. Many Latin American cities, for example, have considerable amounts of Adoubling up@ among households, with more than one household sharing a dwelling. This phenomenon is, in many cases, a product of high and distorted housing prices. Figure 6, illustrates the relationship in 1990 of the number of households per dwelling and weighted housing prices in seven Latin American/Caribbean cities. Cities in Venezuela, Chile and Brazil, which have the lowest weighted housing prices, have by far the lowest crowding as measured by households per dwelling (between 0.8 and 1.08 households per dwelling). In cities in Ecuador, Colombia and Mexico, where housing prices are twice as high, crowding is commensurately higher (between 1.27 and 1.36 households per dwelling). In the former cities, supply and demand for housing appear to be roughly in balance, at

The long-term effects of the Chilean subsidy program on the annual level of housing production and investment are unclear. No complete econometric analysis of the dynamics of housing production and investment in Chile which would allow estimating the short- and long-run effects of the Chilean subsidy program has, to the author=s knowledge, been published, 18

Figure 6: Crowding (Households per Dwelling) and H ousing Prices in Latin American Cities, 1990

least as far as the numbers of households and the number of dwellings. In the latter, there is considerable excess supply of households, and hence latent demand for additional housing units. It appears likely that housing subsidy programs in the former countries would be far more likely to displace private construction than in the latter countries. In the latter, it is likely that additional housing would largely be filled by undoubling rather than displacement of new construction. Unfortunately, data in most developing countries has fallen well short of standards of quality and coverage to permit detailed testing of the crowding out hypothesis, so that this conclusion remains speculative.

INTENDED AND UNINTENDED CONSEQUENCES AND EXTERNALITIES ASSOCIATED WITH SUBSIDIZED HOUSING Publicly subsidized housing is generally undertaken on the assumption that it will improve the welfare of its beneficiaries, do so in a way that is equitable, provide external benefits, or at least impose no major costs, on nonbeneficiaries, and do so in a transparent costeffective manner. These principles are set out in the IDB=s Operational Guidelines for Housing. Whether or not housing subsidy programs actually live up to their promise is a matter of considerable controversy. Do they improve welfare? If so, by how much? How equitable are they according to different criteria? Do they impose external costs on nonbeneficiaries, and if so, what are the principal costs and how large are they? Are they cost-effective, or are there better ways to achieve the same objectives? Are they transparent, permitting ready evaluation of their magnitude, distribution, and impacts? Answers to all of these questions have a bearing on the appropriate size of subsidies in Latin America and elsewhere, as well as on whether subsidies have a role to play as an element of housing policy or their role should be limited to highly specific circumstances. That is, based on what we know about the way that housing subsidies work in practice, should their existence be taken for granted as an element of

Notwithstanding the possibility that prospects may be brighter, for subsidized housing to actually add to the stock, in some Latin American cities than in American cities, the decision of whether or not to go forward with newly constructed housing is a more complicated one than simply deciding whether subsidies add to the housing stock or not. Publicly built housing has a poor track record in terms of its benefits and costs regardless of whether or not it adds to the stock. Consequently it is important to evaluate the benefits and costs of new subsidized housing based on a fuller set of criteria, including its impact on both beneficiaries and nonbeneficiaries.

housing policy or should they be evaluated anew in light of the changing housing conditions? Should they play a major role or a minor role? To what degree can alternative policy instruments accomplish the same goals?

program is often designed and produced in the absence of market signals about consumer preferences or willingness to pay for certain housing features. As a result, subsidized housing may be produced at considerable cost relative to the price it might command in the marketplace. That is, it might be designed to be too small, less finished, or in the wrong place relative to the needs and willingness to pay of consumers. The difference between the cost of production of subsidized housing and its market value can be expressed in terms of a measure of Aproduction efficiency.@ Combining producer and consumer efficiency gives an overall measure of Aprogram efficiency.@ This is a measure of the effectiveness of translating society=s resources into improvements in the welfare of program beneficiaries.

Effectiveness and Efficiency of Housing Subsidy Programs The first principle of housing subsidies is that they should improve the well-being of beneficiaries. If they fail to do so, or if they do so only at a great cost relative to the benefits they confer, then they should not be implemented. In evaluating the benefits or subsidized housing, economists typically look at the quality of housing and the price that paid relative to the quality of housing in the absence of the program. Qualitatively, there are four possible outcomes associated with participating in a subsidy program depending on whether or not housing quality increases or decreases and whether or not housing costs increase or decrease. All subsidy programs confer benefits in two forms: increases (or decreases) in housing consumption and increases (or decreases) in the amount of income households have available after paying for housing. The latter may be interpreted as having both a monetary and a non-monetary component; e.g., commuting times may increase as a result of entering a subsidy program. The improvement in welfare for a program participant is equal to the sum of the value placed by the participant on the housing improvement and the value placed on the reduction (or increase) in monetary and non-monetary income associated with program participation. A comparison of the cost of providing a subsidy and the value placed on it by a program participant can produce a measure of Aconsumption efficiency.@

Consumption Efficiency For households living in desperate housing conditions, modest improvements may be highly valued, but more generous improvements comparatively less highly valued. Rather than having more housing, such households would rather have an equivalent amount of cash to spend as they please. For such households, subsidy programs that increase housing quality modestly and reduce housing costs a great deal would be preferred to those with the reverse mixture of benefits. Somewhat better off households might, alternatively, prefer to have greater benefits in the form of housing and less in the form of extra cash. In the case of the hypothetical housing subsidy program in the Dominican Republic discussed above, households at the 10th income percentile were to receive housing valued at the cost of either that of households in the 30th percentile or at the median of the income distribution. They were to pay 20 percent of their incomes for housing regardless of the program standard. The market value of housing under the each standards was $32.12 and $42.30, and the payment was to be $15.40 per month. The value of housing received in the absence of the program was $21.99 per

Another measure of program efficiency comes from a comparison of the market value of subsidized housing and the total cost to society. Housing, which is produced in response to market signals by the private sector, is produced in such a way that its market value is just equal to the cost of production allowing for a normal profit.8 Housing produced under a subsidy

structure, higher than normal profits may be earned by monopoly suppliers. To the extent that governments are able to circumvent monopolistic sources of supply, government-sponsored housing could, in principle be produced more efficiently than private housing, although this possibility has rarely, if ever, been documented.

In the presence of monopolistic elements affecting housing inputs such as building materials, land, and infra20

month. Thus by participating in a subsidy program households would receive a cash benefit equal to $21.99 - $15.40 = $6.59 (the difference in their housing expenditures with and without the program), and a housing benefit with a market value of either $16.72 or $26.90 per month (the difference in the value of the housing with and without the program).

additional amounts. Normal goods have higher elasticities of demand, such that price changes lead to sizable changes in the amount of the good that is purchased. The value placed on the subsidy relative to its cost is referred to as the Aconsumption efficiency@ of a program. Consumption efficiency depends on two factors: the consumer=s price elasticity of demand for the good and the extra amount of the good provided. Other things being equal, the smaller the price elasticity and the larger the amount of extra housing provided, the lower will be the value placed on the subsidy relative to its cost by the participant and hence the lower its consumption efficiency. Figure 7 illustrates how the consumption efficiency varies in a hypothetical housing subsidy program depending on the price elasticity of demand by program participants and the amount of extra housing relative to the amount consumed in the absence of the program. The figure illustrates Asubsidy efficiency@ for elasticities of housing demand that range from -0.1 (consistent with housing that is close to an absolute necessity) to -1.0 (consistent with hous-

The value of the extra housing received by program participants is, according to both economic theory and common sense, worth less than an unrestricted cash grant equal to the market value of the extra housing. That is, because they have to accept more housing than they would freely have chosen had they been given the cash value of the subsidy, households value the extra housing at less than its cost, that is, they discount it at some rate. The size of the discount depends on whether or not they view housing as a necessity. If it is a necessity, extra amounts of housing may be heavily discounted relative to what it costs to provide it, while if it is a normal good, extra amounts may be worth close to what it costs to provide. The degree to which a good is considered a necessity depends on its Aprice

Subsidy (Consumption Efficiency

Figure 7. Subsidy Efficiency, Subsidy Size and Demand Elasticity

Housing Consumption Change (percent)

ing that is a Anormal good@).9 The literature suggests

elasticity of demand.@ Necessities have low elasticities of demand, meaning that even if the price of a good changes a lot, households will purchase only modest

Subsidy efficiency is calculated as the Marshallian con-

that the price elasticity of demand typically falls somewhere in this range, with the most probable values for a wide range of the population being from -0.2 to -0.8. A recent cross-country analysis indicated values for the long-run price elasticity of demand of about -0.6 to -0.8 (Angel and Mayo, forthcoming).

undifferentiated bundle of housing but choices of a variety of housing attributes including interior and exterior space, physical quality, durability, property rights, infrastructure access and location. The latter may be particularly important in Latin American (see DiPasquale). It is possible to generalize the techniques used to calculate indicators of consumer welfare loss based on a disaggregated view of housing (see De Borger and Quigley), in effect creating weights for the value to consumers of each important housing attribute provided in a program. In practice, however, this is not only difficult to do, but somewhat arbitrary. An alternative is to examine programs on the basis of consumer surveys of housing preferences in which program elements are ranked, assigned weights by interviewed households, and outcomes compared to existing housing alternatives

In evaluating the likely consumption efficiency of the hypothetical program in the Dominican Republic, the two program standards represent, respectively, increases in housing consumption relative to the preprogram position of about 50 percent and 100 percent. For assumed price elasticities consistent with the literature=s Aconsensus@ (-0.6 to -0.8), consumption efficiency would range from 80 to 85 percent for the modest standard program and from 67 to 73 percent for the generous program. If the price elasticity of demand is assumed to be as low as -0.1, the estimated subsidy efficiency would be only 55 percent in the modest program and 33 percent in the generous program.

Production Efficiency When public agencies are engaged in the direct production of housing or contracting for it under a housing subsidy scheme, inefficiencies may arise because the characteristics of housing being produced may not match market demanded, production techniques may be used that are not up to current standards, limited competition in procurements may result in higher than necessary costs, or administrative costs may be higher than those typically incurred by the private sector. Many studies have been done of the Aproduction efficiency@ of government-subsidized housing, most of them focusing on housing in the United States. Of these estimated production efficiency, measured as the ratio of the estimated market value of subsidized housing in relation to the true resource cost of producing it, ranged from 49 percent to 86 percent in new construction programs, from 85 to 100 percent in rehabilitation programs, and from 71 to 93 percent in demand-side programs such as housing allowances (see Malpezzi, 1997 for a review). Another study, which evaluated German housing programs (Mayo, 1986), estimated production efficiency in German Social Housing (a new construction program) to be 62 percent compared to 94% in the German housing allowance program. In almost all cases, studies that have compared the production efficiency of subsidy programs oriented toward new construction and those oriented toward subsidizing existing housing through some

Empirical evidence on the consumption efficiency of housing programs in Latin America is largely unknown. Estimates based on data for U.S. housing programs have calculated consumption efficiencies ranging from 58 to 86 percent for supply-side programs that provide newly built housing but little freedom of choice, and between 91 and 100 percent for programs that provide housing allowances, permitting consumers wide latitude in the choice of housing. (See Clemmer; Cronin; Kraft and Olsen, Mayo (1986), and Schwab). Consumption efficiency for German subsidy programs has been estimated to range from 85 to 96 percent for production-oriented programs and housing allowances respectively (Mayo, 1986). Despite their routine use by policy analysts in evaluating the efficiency and equity of housing programs, and despite their utility in providing insights into overall program effectiveness, calculations of the losses in welfare associated with distortions in housing consumption are a considerable simplification of reality. Subsidy programs distort not just choices of some sumer=s surplus associated with a loglinear demand function for housing. For details of the calculation, see Malpezzi (1996). 22

Table 4: Program Efficiency in U.S. and German Housing Subsidy Programs

Program Consumption efficiency

Production efficiency

Program efficiency

Public Housing (Mayo)

0.86

0.50

0.43

Public Housing (Olsen/Barton)

0.58

0.86

0.50

Section 236 (Mayo)

0.74

0.61

0.45

Section 8, New Construction (Mayo)

0.63

0.71

0.45

Social Housing, Germany (Mayo)

0.85

0.62

0.53

Section 23 (Mayo)

0.88

0.74

0.65

Housing allowances (Mayo)

0.93

0.88

0.82

Section 8, existing housing (Mayo)

0.82

0.74

0.61

Wohngeld -- German housing allowance (Mayo)

0.96

0.94

0.90

Producer-oriented programs (Source)

Consumer -oriented programs

form of housing allowances have found the latter to be significantly more efficient. Program Efficiency

low and a wide range of housing alternatives were available to program participants. Administrative costs were higher and choices were more limited in the other demand-side programs.

A number of studies examined the consumption and production efficiency of different types of subsidy programs and estimated their combined Aprogram efficiency.@ Table 4 summarizes estimates from studies by Olsen and Barton (1983) and Mayo (1986). The table illustrates clearly the comparative inefficiency of the supply-oriented programs, which are estimated to deliver benefits to program participants worth on average only about half of the resource costs of the housing being produced. These findings hold across programs, countries and studies. Demand-oriented programs are more efficient in all cases than the best competing supply-oriented alternative, with estimated program efficiency ranging from 61 to 90 percent. In the case of the two demand-side programs with the highest efficiency, administrative costs were extremely

Although these findings have yet to be replicated in developing countries, they send a powerful message about the potential inefficiencies involved in any supply-oriented subsidy program. Supply-oriented programs in both the United States and Germany appear, no matter how well designed and implemented, to have been able to deliver no more than about 50 cents worth of benefits for each dollar of resources. Even the demand-oriented programs have been shown to be potentially wasteful, depending on the efficiency with which they are administered and the range of choices they offer to consumers. On the other hand, when demand-side subsidies are well administered and offer wide choices to consumers, they can be extremely efficient in delivering benefits to participating households. 23

addition, poor government loan performance discourages private intermediaries from considering loans to low- and moderate-income households because of wellfounded concerns that they may experience the same loan repayment performance as the government.

Program Spillovers and Externalities The effects of subsidy programs do not stop with the benefits they confer on beneficiaries and the costs they impose directly on society. Programs often impose additional costs on society as a result of a variety of design features. Among the most important of these are the terms, conditions and circuits provided for financing of subsidies and the location of subsidized housing.

In some cases financing of subsidy program loans has a more direct negative effect on private intermediaries, as when governments mandate lending to low-income households at negative real rates of interest. Sometimes governments mandate special, below-market rates of interest for low-income borrowers financing subsidized housing, and sometimes they fail to permit adequate indexing of deposit and lending rates for political reasons. When this occurs, not only is a bank subjected to greater uncompensated risk because of the loan repayment risk of low-income households, but it is less profitable than would otherwise be the case. This limits the degree to which it is capable of mobilizing deposits, and may be reflected in lower rates of saving or reduced financial depth throughout the economy. While measurement of such negative spillovers is problematic, there is ample anecdotal evidence that they exist and that they can be large. Colombia, for example, led Latin America for many years in mobilizing resources in its banking system as a result of creating a system of indexed deposits and loans that kept ahead of inflation. When government intervened in the indexation process, limiting the rate at which loan repayments could be adjusted, banks became less profitable and there was a significant decline in the financial depth of the Colombian economy, which had negative repercussions throughout the economy.

Financing of subsidized housing usually comes from a variety of sources. Costs of program administration are usually financed through the operating budgets of agencies responsible for the programs. In the case of demand-side subsidy programs such as housing allowances or rental vouchers, nearly all program costs will be financed through agency operating budgets. This source of finance is largely noncontroversial in terms of adverse spillovers. In the case of supply-oriented programs, finance is provided through a mix of household savings for downpayments, subsidies (often paid up front), and loans from government agencies or financial intermediaries. The first of these sources are relatively noncontroversial concerning spillovers as well. Program features regarding loan finance, however, may generate a number of negative externalities that offset program benefits. Interest rate subsidies are frequently a feature of government loan programs for home purchases. When the government provides such subsidies, it competes with private financial intermediaries that might be capable of profitably providing finance to low- and moderate-income households. The competition is, however, inherently unfair because government rates are subsidized and cannot usually be matched by private financial institutions. As a result, governments become the primary or even the sole lender to lowincome households. This has the effect, for the government, of creating a pool of highly risky assets which cannot easily be sold to financial institutions, and one that is frequently characterized by extremely high rates of arrears and defaults, many of them as much political as economic in nature. Poor loan performance on government loans directly raise housing subsidy costs and lower the effectiveness of subsidy programs. In

Another type of negative spillover associated with housing subsidy programs relates to the locational distortions introduced by the siting of subsidized housing. Often, in an attempt to keep land and housing costs low and affordable, governments either direct or encourage developers to build on land that is far from existing concentrations of economic activity. This has the effect of producing lower density cities than might otherwise evolve, with the effect that commuting times and costs are raised both for subsidy beneficiaries and for others. This further isolates workers from potential jobs and contributes to reduced rates of labor force participation and higher unemployment rates. More careful attention to the locational preferences of poten24

tial subsidy beneficiaries can mitigate many of the negative spillovers associated with spatial distortions

caused by inappropriate siting decisions of subsidized housing programs.

Assessing the Need for Housing Subsidies needs and wishes would emerge again and again, across time and place. Among these might be:10

A strategy for housing subsidies is an important, even critical, part of an overall housing strategy. Assessing the need for housing subsidies and the role that they can and should play depends on first identifying goals for the sector and problems and constraints that stand in the way of achieving them. Having done so, the role of subsidies as one of a number of instruments of housing policy that can facilitate attainment of sectoral objectives can be assessed.

Housing Consumers: Everyone is housed, with a separate unit for every household. Housing does not take up an undue portion of household income. House prices are not subject to undue variability. Living space is adequate. Structures are safe and provide adequate protection from the elements, fire and natural disasters. Services and amenities are available and reliable. Location provides good access to employment. Tenure is secure and protected by due process of law. Households may freely choose among different housing options and tenures (owning vs. renting). Finance is available to smooth expenses over time and allow households to save and invest. Adequate information is available to ensure efficient choice.

This implicitly suggests two complementary approaches to identifying the need for subsidies, one based on an evaluation of their role as part of an enabling strategy for housing, and the other based on an evaluation of elements of the traditional rationale for subsidies; (e.g. housing as a merit good, housing as a public or quasi-public good, market failures, etc). In the case of the latter, the focus is largely on identifying particular shortcomings that characterize the housing of potential target groups (e.g., lack of basic services, lack of tenure security, dangerously sited housing, toocostly housing, etc), and then identifying the potential of subsidies to redress specific shortcomings for particular groups. In the case of the former, the focus is broader, taking into account the needs of all of the principal stakeholders in the housing sector; namely, different groups of consumers, producers, financiers and governments. To the extent that the specific goals of each group are not being met, particularly if they are being frustrated by identifiable constraints, subsidies may be considered as one of an array of policy instruments to remove constraints and allow stakeholders to attain their goals. These two approaches to identifying the need for subsidies are complementary and by combining the two, subsidy systems can be designed in ways that both address the needs of groups such as the poor and provide a framework for establishing a wellfunctioning housing sector that serves the broad needs of society.

Housing Producers: Adequate supply of residential land is available at reasonable prices. Infrastructure networks are adequate and do not hold back residential development. Building materials and equipment and sufficient skilled manpower are available at reasonable prices. Entry of new firms into the residential construction sector is not impeded. The residential construction sector is not discriminated against by special tariffs or controls. Adequate financing is available. Housing production and investment can respond to changes in demand without undue delay. Contracts are enforceable. Regulations concerning land development, land use, building, land tenure, taxation, or special programs are well-defined and predictable, and government application of these is efficient, timely, and uniform. Adequate information exists to enable producers to forecast housing demand with reasonable certainty. Rates of return on all types of housing investment, including rental housing, are sufficient to maintain incentives for investment. Housing Finance Institutions: Housing finance institutions are permitted to compete for deposits on equal

WHAT ARE THE GOALS OF DIFFERENT STAKEHOLDER GROUPS?

This enumeration of stakeholder goals is based on the World Bank=s Housing Policy Paper, Housing: Enabling Markets to Work.

Was one to imagine a dialogue with representatives of each stakeholder group, certain themes concerning their 26

terms with other financial institutions; the role of directed credit is minimized. Housing finance institutions are not forced to compete unfairly with subsidized finance. Lending is at positive real interest rates with a sufficient margin to maintain institutional health. There are sufficient deposits of an appropriate term structure for long-term mortgage lending. Mortgage lending instruments are permitted which are in demand by households, and which provide adequate protection for the institution. Systems of property rights, tenure security, and foreclosure are such that the financial interests of lenders can be protected. Appropriate institutions exist that protect financial institutions against undue mortgage lending risk.

rough statement of their principal goals. Moreover, it provides a framework for assessing the need for subsidies both from the traditional perspective, largely that of low-income consumers or those with special problems of gaining access to decent and affordable housing, and the perspective provided by an enabling framework, which takes into account the needs of all stakeholders. In the discussion that follows, both the traditional and enabling approaches to housing subsidies are described. Traditional approaches are discussed first, not because they are better or even particularly welljustified, but because they are more prevalent. Any assessment of the need for housing subsidies and the form they should take must go beyond the traditional approach, as is discussed below.

Local Governments: Housing and associated infrastructure are of adequate quality to maintain public health, safety standard and environmental quality. Infrastructure networks and services are extended in a timely fashion to all communities. The location of new communities is in close proximity to existing main networks. Land use is productive and efficient. Sufficient land can be obtained for laying infrastructure networks and providing local amenities and public services. Housing provides a major source of municipal revenues for building and maintaining infrastructure services and neighborhood amenities.

THE TRADITIONAL APPROACH TO HOUSING SUBSIDIES All traditional approaches to the housing subsidies are based on some assessment of the housing needs of target groups. These needs are the outcome of translating the goals of housing consumers, as stated above, into quantitative terms. This requires, first, choosing a set of quantifiable indicators such as the number of households per dwelling, the ratio of rent or other housing expenses to income, housing values, durability and structural integrity of the dwelling, the number of persons per room, the fraction of different groups that have access to safe water and adequate sanitation and secure property rights, the fraction with access to formal housing finance, etc. Some of these indicators are associated with housing=s status as a merit good or public good such as access to infrastructure services and secure property rights; others relate to more private aspects of housing, such as access to housing finance. Based on those indicators, surveys of the population can be conducted to establish the number of households with particular characteristics and also the characteristics of the households themselves (income, assets, household size, location, etc.).

Central Governments: Adequate, affordable housing is available to all. Targeted subsidies are available to assist households that cannot afford minimum housing. Housing sector policy is integrated into national social and economic planning. Housing sector performance is monitored regularly. The housing sector contributes toward broad social and economic objectives: (1) alleviating poverty; (2) controlling inflation; (3) generating household savings and mobilizing household productive resources; (4) generating employment and income growth; (5) enabling social and spatial mobility; (6) increasing productivity; (7) generating investment growth; (8) accumulating national wealth; (9) reducing the balance of payments deficit; (10) reducing the government budget deficit; (11) developing the financial system; and (12) protecting the environment.

Assessing the need for subsidies then requires establishing a standard considered to be adequate for groups falling below the standard and defensible to groups other than the beneficiaries, particularly groups that

While the above list may be incomplete, it does provide a broad normative view of a well-functioning housing sector from the perspectives of its key actors, and a 27

will be expected to pay for the costs of programs that benefit the needy. Choosing a standard requires balancing what society feels is a Aminimal acceptable standard@ with the preferences and willingness-to-pay of the potential beneficiary group. For example, society may feel that having a completed permanent structure is called for, while potential beneficiaries may be more interested in having a well-located unit, even if that means having a unit of somewhat lower initial quality. Similarly, potential beneficiaries may be more interested in having their rights to a particular place affirmed by government=s willingness to supply infrastructure than by having a formal, legal cadaster and accompanying property registration.

to households or through various intermediaries such as financial institutions and housing developers; does it provide benefits in cash or in-kind; does it require only initial verification of eligibility or periodic reexamination?). Alternative assumptions about program design features can be used to calculate costs, which can be compared to resources until a solution is found that is both reasonable and affordable. It goes without saying that a Areasonable@ subsidy program is one that not only addresses the goals of its beneficiaries and broader society but does so in a way that makes the subsidies transparent, preferably on-budget rather than offbudget or hidden, and that provides benefits in a way that is perceived to be equitable (treating households in equal need equally and providing benefits progressively, so that those in greater need receive greater benefits).11

Having established a standard, the numbers and characteristics of households falling below the standard can be ascertained. Based on the traditional approach to subsidies, the job of designing a subsidy system to address the needs of households falling below the standard then consists of (1) establishing the cost associated with the standard (e.g. the cost of a Aminimally adequate@ dwelling with access to basic services, secure tenure, adequately located, and meeting other criteria that are part of the standard), (2) determining the cost of administering a subsidy program (e.g. identifying eligible households, verifying incomes or other eligibility criteria, contracting for solutions to be delivered, monitoring projects, etc.), and (3) determining a contribution rate for beneficiary households to the cost of solutions that are to be provided.

Ideally, designing a traditional subsidy program also involves some formal consideration of the efficiency of the program as represented by the measures discussed (consumption efficiency, production efficiency, and program efficiency). Assessing these aspects of a subsidy requires having information on consumer demand for housing, particularly information on the ways that households of different types allocate resources toward housing and other goods depending on their incomes, household characteristics, and the unit price of housing; on market values of particular Asolutions@ proposed within a program, and the costs of producing them. In addition, designers of subsidy programs should formally assess the incentives and the distortions created by subsidies for the broader market, and for stakeholders other than low-income consumers.

Based on this information and information on the numbers and characteristics of potential beneficiaries, the total cost of a subsidy program can be calculated and its cost compared to the level of resources available for its implementation. If costs are within budgetary and other resources (e.g. adequate numbers of trained program administrators), details of the program can be worked out and it can be implemented. If costs associated with the prospective design exceed resources, alternative program designs can be examined that differ based on assumptions concerning the program standard, the costs of attaining the standard, the contribution rate of participants, administrative procedures and costs, and the time phasing of the program. Program features that affect costs can also be examined (e.g., does the program provide resources directly

Traditional subsidy programs often involve an unacknowledged tradeoff between equity and efficiency in that, as shown above, larger proportional subsidies to lowincome groups, which are consistent with principles of vertical equity, are less efficient (less highly valued relative to their costs) than are less-progressive subsidies. Such considerations have been explicitly incorporated into the latest IDB housing loans (e.g. in Panama) where the degree of progressivity is less than might otherwise have been chosen because of concerns for efficiency, sustainability, and market effects of subsidies (see below).

In practice, these latter considerations are almost never taken into account by agencies involved in design and administration of housing subsidy programs. Nor do agencies involved in traditional approaches to housing subsidies consider alternative mechanisms for accomplishing the same objectives (e.g. regulatory reform or reform of property rights regimes). Enabling approaches to housing subsidies view subsidies as only one of a potential array of instruments for accomplishing a given housing sector objective. Indeed, the presumption is that housing subsidies should be considered only as a last resort, after having considered a full range of alternatives.

themselves with worse housing conditions than those of program participants with lower incomes. The situation would be further aggravated if the subsidy program led to demands on land development and housing production beyond the capacity of the market to deliver. In that case, land and housing prices might be driven up for large parts of the market and many households would see housing costs rise. Such situations, which have sometimes characterized housing subsidy programs, lead to resentment of nonbeneficiaries, political pressures for curtailing subsidy programs, downward Araiding@ of subsidized housing by better off groups and, because unit costs of delivering subsidized housing solutions are driven up (often considerably), to an inability within budgets to attain program goals in terms of beneficiary participation. Other spillovers could occur having to do with bottlenecks created in infrastructure supply, property registration and titling, and finance. To the degree that subsidy programs create bottlenecks in any of these areas, costs for beneficiaries and nonbeneficiaries alike may be increased, program efficiency may be eroded, and political support for the program may evaporate.

THE ENABLING APPROACH TO HOUSING SUBSIDIES In short, designing a subsidy program within the context of an enabling strategy for housing requires a broader focus than that provided by the traditional approach described above. In particular it requires paying attention to the concerns of groups other than Aneedy@ groups (e.g. other households and other stakeholder groups such as housing developers, finance institutions, local governments, etc), and it requires looking at alternative instruments of housing policy that could achieve the same goals as housing subsidies.

The possibility, or even the likelihood, of such spillover effects requires consideration of the interdependencies of different groups (different groups of consumers and different groups of stakeholders). The process of identifying potential spillovers should be a part of designing any subsidy program, and should begin by looking at the possibility of any effects of a program on groups whose incomes and other characteristics are close to those of the most likely program beneficiaries. A principle that is often designed into any sort of income transfer program is that the program=s benefit structure avoid the creation of so-called Anotch effects@ whereby households just eligible for the program are made better off by participating in a program than are households that are just beyond eligibility limits. This situation, which characterizes the hypothetical Dominican Republic subsidy, is one that can be avoided by having a smooth transition of benefits which decrease to zero with increasing income rather than having an income cutoff that confers substantial benefits to Ajust eligible@ households that are substantially above zero.

Paying attention to the concerns of groups other than program participants means, first, taking account of any spillover effects of programs on incentives or costs of nonparticipants. Second, it means examining whether or not polices and programs directed primarily toward other groups can have beneficial effects both for other stakeholders and for groups initially targeted for housing subsidies. Consider first the issue of spillovers to nonbeneficiary groups. In the example of a hypothetical subsidy program in the Dominican Republic, two alternative program standards were discussed: the housing typical of households in the 30th income percentile and that of households having median incomes. Even were the lower standard adopted, households in the lowest decile would see their housing conditions and welfare improve considerably, while households beyond the range of eligibility would not. Indeed, after the subsidy program households in the 20th percentile would, find 29

The need for gradually decreasing benefits and for ensuring the political support of better-off households often means, in practice, that subsidy programs are designed that extend benefits well into the income distribution. Frequently this implies that subsidy programs are either less well targeted or less progressive than might otherwise be the case. Yet without such a structured they would have little chance of political acceptance and sustainability. In any case, the possibility of spillovers to nonbeneficiary groups must be considered in designing subsidy programs, and if there are possibilities of significant spillovers, program designs should be adjusted to ensure that their effectiveness is not limited.

straightforwardly, and if the building industry is competitive and responsive. To the extent that these conditions do not exist, the needs of various stakeholders will not be met. Were one to devise a set of indicators for stakeholders other than Atarget group@ households analogous to those used in setting housing standards in the traditional approach to subsidy design, it would also be possible to create a set of standards representing housing outcomes indicative of a well-functioning market from the standpoint of key stakeholders. For example, among financial institutions, indicators such as the interest rate spread of mortgage over deposit rates and over prime lending rates; the share of lending portfolios allocated to mortgages; rates of arrears, default and foreclosure; the fraction of loans sold to secondary market institutions, etc. can all be indicative of the health of the housing finance system. For infrastructure providers, coverage ratios for the entire population, cost recovery rates, unit costs of service provision, and the ratio of the cost of fully serviced land to raw unserviced land (an indicator in part of infrastructure scarcity) can, similarly, indicate how well the infrastructure delivery system is working. In short, for each stakeholder it is possible to devise performance indicators that permit quantification of how well or badly the housing sector is working.

Subsidy programs may also be more broadly conceived than is the case with traditional programs that focus only on narrowly defined target groups and rely on a limited range of subsidy instruments to deliver program benefits. Instead they can be designed to address the needs of all possible stakeholder groups. In some cases this might mean delivering benefits directly to groups other than traditional low-income households. In other cases it might mean changing incentive structures, risks or costs in ways that facilitate the workings of land and housing markets that benefit a broader portion of society. At the heart of an enabling strategy for housing is the goal that both housing demand and housing supply be made responsive to market signals. On the demandside, this means, that when household incomes increase the increase in potential demand for more or better housing is translated into an increase in effective demand. Well-functioning systems of housing finance allow households to translate increases in income into greater loan amounts for housing mortgages; wellfunctioning systems of property rights provide households with the assurance that the investments they make in housing improvements will be secure, and that they can expect to enjoy the physical and financial benefits of those improvements in the future. On the supply-side, when the market signals that effective demand for housing is rising, demand will be translated into better housing if infrastructure provision is responsive to demand, if the regulatory framework allows land and housing development to proceed

It is possible to choose a Atarget@ if not a standard for many such indicators that is analogous to the standard used in setting subsidy program parameters. Having chosen such a target, it is then possible to ask what role, if any, may be played by subsidies in moving toward the target indicator level. That is, in many cases it will be possible to move toward the target simply by a change in policy, administrative rules, or enforcement of existing rules. In other cases however, it may be possible to facilitate movement toward the target by devising either transitional or permanent subsidy mechanisms. For example, suppose that it is found that land and housing prices are being kept high in part because the regulatory approvals process for new housing developments is cumbersome and slow, raising risk and costs for land and housing developers. One approach to dealing with this problem is to streamline the ap30

proval process. Another might be to increase the capacity of the agencies involved in the approval process by increasing their staff through normal budgets. Another might be to charge housing developers a user fee for expedited service, which would permit the hiring of extra staff to speed up approvals. Another might be to provide subsidies to the agencies in question to permit them to immediately hire the staff necessary to facilitate the approvals process during the time it takes to review procedures in order to streamline them rationally, to justify and receive approval for higher staffing levels, or to put in place the necessary rules and procedures to charge user fees to developers.

private institution (in the form of a subsidy), or by providing regular payments based in part on general economic conditions into a Mortgage Indemnity Fund. In each of these latter cases, government payments are subsidies which are intended to provide private institutions with insurance against risks that the government has it in its power to control but which are neither controllable nor capable of being forecast by private insurance organizations. While in practice, there is inevitably an element of moral hazard involved in any government sharing of mortgage risk, it would appear, in principle, that mechanisms and institutions can be designed whereby the three parties to risk sharing in financial transactions (households, financial institutions, and governments) each bear an appropriate share of the risk. For any of the three to escape liability for behavior that increases risk is inappropriate; similarly, for any one party to bear an inordinate share of the risk is also inappropriate.

Similarly, suppose that financial institutions are reluctant to lend to low- and moderate-income households because of legitimate concerns that they are more likely to default on loans.12 One approach to mitigating such concerns is to institute a program of private mortgage insurance, which requires borrowers to pay into a fund that indemnifies lenders in case of mortgage defaults. In countries like the United States, where such an arrangement is common, private insurance costs are a modest premium above mortgage payments because general economic conditions are relatively stable and risks associated with insuring a given type of borrower can be predicted with relative certainty. In developing countries, on the other hand, risks of default are heavily influenced by general economic performance rather than by the behavior of borrowers. Ups and downs in economic performance are likely to be more extreme, with higher likelihoods that wage earners become unemployed or suffer real wage declines. Such events make lending not only riskier for banks but more difficult to insure by private institutions. The government could, however, provide insurance against such risks by partially sharing it. It could accomplish this by either establishing its own institution to indemnify mortgage lenders or by providing initial capital for a

Other subsidies might be contemplated to (1) accelerate the pace of performing cadastral surveys and property registration; (2) provide for efficient and speedy adjudication of property disputes; (3) compensate local governments for additional costs associated with providing services to low- and moderate-income housing developments; (4) accelerate the provision of trunk infrastructure; (5) increase the capacity of infrastructure systems to permit more rapid infill and densification of already built-up area; (6) increase competition in the building industry by providing incentives to new firms to enter the business of land development, housing construction, or production of building materials; (7) accelerate the pace of conversion of surplus government-owned land from nonurban uses to residential and associated commercial uses. All of these activities can be undertaken by interventions other than by the provision of subsidies by changing rules, regulations, operating budgets, fees for services, etc. On the other hand, bureaucratic inertia and the often significant transactions costs associated with undertaking such changes may deter them from happening quickly or from happening at all. The best policies will generally be those that integrate interventions other than subsidies with permanent or transitional subsidies to smooth transitions to new more enabling environments.

Whether or not low-income households are more or less likely than higher income households to default on private mortgage loans is unclear in places where wellfunctioning systems of mortgage underwriting and risk assessment together with efficient systems of foreclosure exist. Perceptions of higher likelihood of default among low-income households is reinforced by the experience of government housing loans which are poorly designed and administered. 31

Information Requirements for an Enabling Strategy By examining a large number of possible interventions that can improve the functioning of markets from the standpoint of different stakeholders, the whole of policy can become greater than the sum of its parts. Bringing this about, however, requires a systematic framework for collecting and analyzing data on the state of the housing sector, its stakeholders, and the policies, institutions, and other factors that shape its performance.

Housing Indicator Data The housing sector requires a broad diagnosis in order to see whether or not its performance is consistent with a society=s level of resources and with the needs of different stakeholder groups. The Housing Indicators Program was devised by the United Nations Center for Human Settlements to provide a framework within which to evaluate the performance of the housing sector as a whole and to examine the key factors responsible for its performance. The program was designed and implemented in the wake of the adoption in 1988 by the General Assembly of the United Nations of the Global Shelter Strategy for the Year 2000, and was seen as providing a framework for governments to evaluate their performance and take corrective action to remedy sectoral shortfalls. Performance is defined in terms of a number of indicators that represent the concerns of key stakeholders in the housing sector. Some 55 key indicators of performance were collected in 53 cities in as many countries in 1990. Among these were data on house price levels, rent levels, land prices and construction costs, housing production and investment, various measures of crowding (floor area per person, households per dwelling unit, etc.), access to infrastructure and commuting times, unauthorized and squatter housing, type and permanence of structure, housing credit, taxes and subsidies, and a number of other performance measures. In addition to these data several hundred measures of the legal, regulatory, and institutional framework within which the sector operated were collected as part of a Regulatory Audit.14

Among the key categories of data and analysis required to design subsidy systems and comprehensive enabling policies are housing indicators, household interview surveys, housing supply studies, land market analyses, a housing finance review, and subsidy incentive analyses. Each of these is discussed in turn.13 It is clearly not worthwhile to conceive of a housing subsidy study in isolation from a more general study to inform broad housing policies, of which subsidy policies are an important part. Subsidy policies made in the absence of an examination of spillovers, interdependencies among stakeholders and different parts of the market, complementarities among different policies, and without consideration of the comparative efficacy of interventions other than subsidies are rightly regarded with suspicion. Indeed, it is crucially important first to understand the market for housing, and why housing is not being produced, occupied or maintained in adequate ways, or why it is priced too high before beginning to examine the role of housing subsidies and other policies in addressing problems within the sector. The data and analyses described below comprise a relatively thorough set of components of a broad housing sector study that can provide the necessary context for an examination of the potential role for subsidies and other policies.

Data on sector performance have been used to establish behavioral benchmarks that indicate typical outcomes for cities and countries at different levels of development. In addition data from the regulatory audit have been used to estimate measures of the degree to which

The discussion that follows is adapted from Malpezzi and Mayo, A Model Design for a Developing Country Housing Market Study, University of Wisconsin and World Bank, 1994.

See UNCHS and World Bank (1993a,b,c,d) for a four volume set of basic documents on the Program including data collection protocols and instruments, reports on the Program structure and objectives, preliminary findings, and data tabulations.

policies and institutions in a city/country enable housing markets both overall and in six specific policy areas: finance, property rights, taxes and subsidies, infrastructure provision, regulation, and building industry organization. The Housing Indicators data have been used in several countries such as Egypt, Gaza and the West Bank, Korea, Russia and South Africa15 to diagnose key sectoral problems and to suggest specific remedial policy actions.

Housing Supply Studies Based on interviews with key stakeholders involved in the development of land, construction the building materials industry, and real estate can provide important insights into the structure of land and housing costs, constraints that limit the performance of land and housing suppliers, and the competitiveness of the building industry. This information can be used to examine possible interventions to relieve bottlenecks and enhance the land and housing supply response, possibly indicating areas where transitory subsidies can be used to speed policy and institutional adjustments.

Housing Indicators data can often be collected in a month or less in countries with good data resources such as Latin American countries, and can be assembled at modest cost. They can be used to produce a useful initial overview of how the housing sector is performing, key areas for policy concern, and a framework for collecting additional data and examining remedial actions.

Land Market Analyses That focus on the operation of urban land markets, perhaps the most critical part of the housing supply system, can give rich insights into questions such as:16

Household Interview Surveys (1) Is the supply of serviced urban land expanding to meet growing population and employment needs?

These are essential parts of any careful study designed to formulate subsidy policy or more general housing policy. Such surveys are required to determine in detail the housing conditions of potential groups that might become the target of government interventions including but not limited to subsidies, the ability and willingness to pay of households for different kinds of housing, the extent of distortions in housing outcomes induced by different types of market interventions such as rent control, etc. The procedure described above for analyzing the need for subsidies and establishing key parameters of subsidy design depends critically on having good data on household, housing and neighborhood characteristics.

(2) Which land uses are growing fastest? (3) Where is urban land conversion taking place? (4) Where is urban land conversion outstripping the supply of serviced land? (5) What environmental threats are posed by land conversion? Where are these most severe? (6) How fast are land prices increasing? Where are they increasing most rapidly?

Relatively standardized protocols exist for both data collection and analysis of household interview data. (See Malpezzi, Bamberger, and Mayo; Malpezzi and Loux, and Malpezzi (1984)) Such studies can be done in comparatively short order by competent statistical agencies or research institutions.

(7) How much land is being provided with minimum services relative to population growth?

The basic approach to conducting ALand Market Assessments@ is described in David Dowall, The Land Market Assessment: A New Tool for Urban Management,@ jointly published by the United Nations Development Program, the World Bank, and the United Nations Center for Human Settlements, 1991.

See Mayo (1993, 1994, 1996a, 1996b) for examples of country applications of the Housing Indicators data. 33

(8) Is there enough land being provided to accommodate urban growth?

Information from household interview surveys concerning household access to formal and informal finance can be complemented by borrower surveys that reveal information about the types of loans available to different types of borrowers, their repayment experience, etc. Surveys of bank officials to ascertain different types of risk, e.g., credit, interest rate, political, exchange rate, term and denomination intermediation risks can be helpful in identifying policy and regulatory changes as well as potential opportunities for government intervention to facilitate transition to new lending regimes that could address greater parts of the market, especially low- and moderate-income households.

(9) Which segments of the population do not have access to housing from the formal private sector? Answers to these and other questions about land market operations can make important differences in housing policy and program choices. Assessments are conducted using a combination of data collected on property transactions and property characteristics and a series of interviews with participants in land and property markets. Land Market Assessments have been conducted in more than 30 countries and have served as input to housing policy debates in many of those countries. For a review of the experience with Land Market Assessments, see Dowall (1997).

Subsidy Incentive Analyses These are studies of the costs and benefits created for various stakeholders of different government interventions, particularly regulations, taxes and subsidies. Other interventions include direct public provision of housing or the assignment and enforcement of property rights. Each has costs and benefits, most of which are not made explicit and not taken fully into consideration before being initiated. Often a program such as a housing subsidy will be instituted in a way that changes incentives for consumers, producers, financiers, and society as a whole in complex ways that may either cancel it out or lead to behaviors and outcomes opposite of those intended. By examining how interventions change incentives for key stakeholders in an explicit cost-benefit framework, contradictions and conflicts can be identified, and information produced that is valuable for modifying program designs. Subsidy incentives analyses have been conducted in Korea, Malaysia and Turkey based on an approach developed by Stephen Malpezzi (Malpezzi, 1988; Hannah et al., 1989). They require information on program features such as costs, benefits, and their incidence among different groups of stakeholders. Taken together these types of analysis and data collection can provide a framework for evaluating individual subsidy programs and broader housing policy options as well. Malpezzi and Mayo (1994) describe how these can be combined to produce a housing sector report that can become key for creating an overall housing strategy.

Housing Finance Reviews That reviews are informed by data on the performance of the formal and informal housing finance markets such as the growth of bank assets and liabilities, the term structure of lending, institutional characteristics, and key rules and regulations that influence institutional performance can provide useful detail on who has access to finance at what price, the operating efficiency of financial institutions, the role of housing lending relative to other lending, and constraints that limit the ability of banks to extend finance to low- and moderate-income groups. Analysis also needs to be conducted concerning the role that high and unpredictable inflation rates have on the ability of financial intermediaries to expand deposits and maintain profitability, and also on the term structure and type of lending they are inclined to make. Connections between the system of property rights, titling and security of tenure, and laws and practices regarding foreclosure and eviction and the willingness of lenders to make housing loans should also be considered. Ways of relieving financing bottlenecks can be suggested, and opportunities to use subsidies as either transitional or permanent features of the financial system to facilitate lending to target groups can be identified.17 17

See Buckley and Renaud (1987) and Renaud (1984) for useful overviews of housing finance sector issues and for a framework for analysis and policy implementation re-

garding housing finance. 34

IDB Experience with Housing Subsidy Programs The IDB=s experience with housing loans involving subsidy elements has evolved considerably over the years. In the 1960s, IDB lending for housing focused on financing construction of finished houses that were generally built by governments and allocated to program beneficiaries. Housing solutions were of comparatively high standards, putting them out of reach of low-income households, despite being offered with Asoft repayment conditions@ and large subsidies (Rojas, 1995). When subsidies were increased to make housing more affordable to the poor, Athe market value of the houses prompted the original beneficiaries to transfer them to higher income households@ (Ibid.). As a result, targeting of benefits within the programs was generally poor, with most benefits accruing to betteroff households.

sources could be spread farther (allowing subsidy programs to reach a greater fraction of potential beneficiaries). Upgrading projects, moreover, produced significant benefits because they concentrated resources within limited areas, permitting positive externalities created within the programs to replace the negative externalities associated with the concentrated and unhealthy living conditions of slums. Notwithstanding the improvements represented by sites and services and upgrading projects, the experience of the IDB appears to have paralleled that of organizations such as the World Bank, which found that subsidies in such projects were unacceptably high and unsustainable. Mayo and Gross, for example, found that in the first seven World Bank funded sites and services projects of the 1970s, subsidies averaged about 65 percent of the real resource cost of the programs, even before accounting for the costs of arrears and defaults. Issues of targeting, equity, and even program efficiency were being addressed by sites and services projects in ways that they were never addressed by programs that provided finished housing. Nevertheless, major issues were being raised concerning their ability to be sustained by developing country governments, once funding from donor organizations was withdrawn. Other limitations on sustainability and replicability were apparent. These had to do with the unwillingness, in most instances, of the private sector, and especially the private financial sector, to participate vigorously in subsidized housing schemes. Such schemes were largely created and implemented by governments, which failed to leverage public resources to a significant degree.

Other systemic problems characterized these first generation projects: cost recovery was poor; defaults on loans were high, negative lending rates prevented executing agencies from recovering seed capital, necessitating continual infusions of outside resources to sustain the programs. These negative experiences, which paralleled those of other donor agencies such as the World Bank (see Mayo and Gross), led to a sense that alternative means had to be found to provide support to the housing sector, if indeed such support was necessary or possible. From making a total of five housing-related loans per year in the 1960s, the IDB almost completely retrenched from lending for the sector during the next decade. During the 1970s only three loans were made, two of them integrated urban development projects within which housing was one of a number of components. Within this approach, however, the focus of the physical solutions financed by the Bank shifted toward financing sites and services and upgrading rather than completed housing. This was to set the tone for expanded lending in the 1980s, during which twelve loans were made for the latter types of projects.

Reflecting on the shortcomings of various approaches to housing subsidies revealed by its own lending program, and in part based on the evolution of alternative Amodels@ for housing subsidy schemes, the IDB further shifted the focus of its lending programs from the mid1980s to the 1990s. In particular, the focus of its lending shifted from supply-oriented to demandoriented subsidy programs such as that pioneered by Chile in the late 1970s. Under these programs the private sector is the principal developer and supplier of

Within such projects, targeting improved and, because unit costs of housing solutions were smaller than had been the case with finished housing, budgetary re35

housing and mortgage financing is provided by private financial intermediaries. In the Chilean program, subsidies are provided in the form of vouchers that households can Aspent@ on qualified housing, which initially, meant that provided by private developers that meet very general government standards in terms of habitability and cost. In addition to the voucher, the purchase of dwellings was financed by household savings (a down payment), and an unsubsidized loan bearing a positive rate of interest. The voucher provided in the Chilean program was thus a capital grant and was to be used to finance the purchase of owneroccupied housing.

tance by beneficiaries of housing solutions, (2) poor cost recovery, (3) higher than necessary subsidies to induce program participation, (4) inflated housing costs in reaction to increases in program scale, (5) spread-out, low density locations that have increased commuting times and created land scarcity for next generation beneficiaries, and (6) lack of private funds mobilization, particularly intermediation by private financial institution. In addition, these programs have sometimes been criticized because they fail to examine interdependencies in housing markets, especially the submarkets of households above and below target groups. Another criticism is the lack of focus on possibilities of extending benefits to renters.

Demand-side subsidy programs such as Chile=s was a fixture of housing policy in a number of industrialized countries since as early as the 1930s, although most such subsidies focused on renters rather than owners (See Conway et al. for a discussion). Among 22 industrialized countries whose subsidy policies included some form of demand-side subsidy examined by Conway et al., only one had an ownership-oriented demand-side subsidy program, six had a mixture of owner- and renter-oriented programs, and 15 had programs catering only to renters. Latin America by contrast decided entirely to follow the Chilean model, with five countries initiating owner-oriented capital subsidies without a corresponding renter-oriented demand-side subsidy. This took place in Costa Rica in 1986 and Colombia, El Salvador, Paraguay and Uruguay in 1991.

A more serious criticism stems from enabling strategies for housing. That is, neither government programs, nor the support programs of outside agencies such as the IDB, the World Bank, and USAID have yet paid enough attention to the problems of taking a sector approach to project design, particularly one that aims to rationalize the role of subsidies within the context of an enabling strategy designed both to address the needs of the poor and bring about a wellfunctioning housing sector. This is not to say that government programs and IDB lending programs have not explicitly recognized the need for a broader sectorwide enabling framework, only that this approach has yet to reach fruition in most countries in the Region. (See, however the box below, which describes the innovative features of a recent loan made to Panama).

During the 1990s, the IDBÂ´s lending program supported the shift from supply-oriented subsidies to those emphasizing demand-oriented capital grants through loans to support programs in Chile, Paraguay and Uruguay. Similar loans were proposed for Guatemala, Panama and Venezuela in 1997. In addition to these programs the bank has also supported a number of other housing and municipal development loans involving components that focused on land servicing for residential development and provision of basic services.

One major contextual factor has had, and continues to have a major influence on the ability of governments to put in place appropriate housing policies, namely the high and volatile inflation rates that have been typical of the region. High inflation rates have limited the expansion of financial depth in Latin American countries, and this has, in part, been reflected in less aggregate lending activity through the formal financial system. As a result, lending for housing, along with other types of lending, has been periodically depressed. During the period of high inflation in the 1970s and early 1980s, many of the financial systems in Latin America virtually imploded, with significant contractions in financial depth and, correspondingly, reduced rates of housing investment relative to GDP (see Buckley and Mayo). In more recent years, macroeco-

While demand-side subsidy programs have many advantages, the Latin American experience has been mixed, as has that of the IDB. Among the problems that have been experienced are (1) lukewarm accep36

nomic stabilization has reduced inflation rates and created a far more favorable context within which to design and implement appropriate housing policies. Increased financial depth, lower inflation rates, and the dollarization of some economies (Panama formally and Argentina with respect to many financial transactions) have all contributed to a tendency on the part of financial institutions to increase loan portfolios and shift the term structure of loans toward longer maturities such as those needed for mortgage loans. Greater availability of private finance helps to obviate the need for subsidies. On the other hand, continued structural problems associated with the riskiness of housing loans, such as undeveloped systems of cadastral registration, ill-defined property rights, and cumbersome foreclosure procedures, continue to limit the expansion of housing finance.

Assessing the need for subsidies and complementary policies within an enabling framework remains a challenge despite considerable progress made by the IDB and its borrowers to design and implement large-scale of housing and municipal development programs. Countries that have come closest to putting in place enabling frameworks, such as Chile, have indicators of housing sector performance that are well above those of other countries with interventions that limit either demand or supply (see Gilbert, Angel and Mayo). Nevertheless, even Chile=s vaunted subsidy program has its weak points (see Rojas, DiPasquale, and Conway et al.). Thus there is a need for the rigorous and thorough diagnostic approach to sector performance that is described above, followed by a detailed examination of which types of interventions are most appropriate in addressing them.

Innovation in Housing Lending and Subsidies: The Panama Housing Loan A recent loan made to Panama (for about $60 million) incorporates a number of innovative features that qualify it as one of the first IDB loans that fully embodies the Aenabling approach@ to housing policy development and implementation. Prior to making the loan, the Bank=s assessment of the government=s role in the housing sector was that AThe inefficiency of the public sector=s investments in housing and apartments stands out as the single most flagrant problem in Panama=s housing sector.@ (IDB,1996,p.9) Specifically, overhead costs of government-sponsored housing production programs were estimated to have been about 60 percent of construction costs, costs of land in the government program were systematically understated, mortgage loans with arrears in excess of 180 days were about 50 percent of the total, and delinquency rates on apartments owned by the government housing bank were more than 90 percent. Altogether, such public sector laxity in program administration resulted in program costs that were well in excess of the benefits, provided disincentives for household saving, and discouraged private sector participation in housing finance. Because of past shortcomings of government policies and programs, a key objective of the loan (PR1532) was to Aget government out of the business of housing supply and into the business of supporting demand (Ibid, p. 2, Executive summary).@ It did this by providing transparent direct subsidies in the form of capital grants (modeled on a Costa Rican program) that were to be matched by private saving (down payments) and private sector loans. In addition, important objectives were to reduce government administrative costs in program administration from 60 to 10 percent of program costs, to leverage public sector subsidies by targeting groups able to mobilize significant savings for down payments, to open the range of products capable of being supported within government programs from just new construction to upgrading and rehabilitation, to provide support for group projects as well as individual housing, and to provide incentives for both individuals and community groups to put in place minimal residential infrastructure and to improve tenure security. Incentives for private sector participation in housing lending were to be provided in part by establishing a credit insurance scheme and a term deposit scheme to reduce default risk by mortgage borrowers. Other significant aspects of the loan include a major institutional reform component encompassing the government agencies engaged in housing, including support for development of management expertise, reorganization and reductions of redundant staff, and help in moving the government housing bank (BHN) from its previous role as a primary lender to that of a secondary lender for housing. Taken together, the objectives of the loan and its specific features constitute a wide-reaching support program for an enabling housing policy in Panama. It is not unreasonable to believe the contention of the designers of the loan who claimed that A...it is clear that the IDB loans will [be] used to support the design and execution of substantive policy and institutional reforms, and that without these additional resources the likelihood that the reforms would be introduced and implemented would be significantly reduced.@ (Ibid. p. 12)

Summary and Recommendations This paper provides a framework for addressing issues relating to housing subsidies within the context of IDB lending for housing and urban development. Subsidies are an important element of governments' strategic arsenals for shaping the performance of one of the most important sectors of the economy. The housing sector in Latin America is important not only in its own right, but because of critical linkages to other parts of the economy through real, financial and fiscal circuits. If housing policy is ill-conceived, the failure of the housing sector to live up to its potential has adverse consequences not just for housing but also for the performance of the broader economy.

subsidies. Subsidies are best seen then not as a necessary way of helping the poor or other Atarget groups,@ but as one of a number of policy instruments from which policymakers can choose. They may be the most efficient and equitable way to benefit target groups, but there should be no automatic presumption that they are either necessary or the best way to achieve a given set of housing objectives. Subsidies should be seen, instead, as part of an enabling approach to housing, in which the primary policy goal is to create a Awell-functioning housing sector@ that serves the needs of all key stakeholder groups. These include not only the traditional beneficiaries of housing subsidy programs, but also other groups of housing consumers, developers and producers of housing, financiers, and local and central governments. By designing subsidies within the context of an enabling strategy, it is more likely that the goals of all stakeholders will be met and that subsidies will be better able to address their traditional concerns with low- and moderate-income groups. Moreover, subsidies will be more broadly conceived than is the case with typical subsidy programs. In particular, subsidies designed as part of a comprehensive enabling strategy for the housing sector will involve not only the traditional Acompensatory@ programs that support groups that are left behind by the marketplace or frustrated by governments= non-market failures, but also transitional or permanent subsidies designed to accelerate the transition of different parts of the housing delivery system toward a more responsive demand- or supplyside of the housing market. Subsidies can be designed to complement the role of other policy instruments in areas such as housing finance, property rights development, infrastructure provision, regulation of land and housing, and the competitiveness and organization of the building industry.

Subsidies have traditional as well as newer motivations. Just as subsidies may be justified in health care, primary education and law enforcement subsidies may be justified on the basis of their status as merit or public goods, or because of market or Anon-market@ failures, or because of their capacity to increase the ability to generate income and wealth. Housing subsidies may also be justified on those premises. This is especially the case regarding Apublic features@ of housing such as basic infrastructure services and property rights associated with secure tenure and transferable rights. Improving basic services and the status of property rights improves the flow of current Ahousing services,@ enhances the future flow of those services, increases property values and hence household wealth, and generates actual or potential income. Yet, despite the traditional justifications for housing subsidies, they have been in the past poorly designed and poorly implemented. Often they have been badly targeted and have provided housing perceived as having benefits to its occupants valued at considerably less than the cost of the housing provided. What is worse, however, is that subsidies are often structured in ways that distort housing prices and create incentives that ensure that groups other than direct beneficiaries bear significant costs (such as higher housing prices and reduced access to housing finance). Negative spillovers to stakeholder groups other than direct subsidy beneficiaries may offset considerably the societal benefits of

Subsidies should be designed and evaluated according to rigorous principles involving measurable criteria. The paper presented an example of a simple, archetypical subsidy program designed to help fill the gap between a well-defined housing Astandard@ and the ability 39

to pay for it by low-income or otherwise needy groups. The cost of a subsidy program is established on the basis of the housing standard associated with a program, the incomes of beneficiary groups, the contribution rate of beneficiaries toward their housing in the program, and administrative costs. Within this traditional approach to subsidies, program designs that enable a large fraction if not all of a target group to participate in a program and achieve design housing standards, provide progressive benefits depending on income or need, and do so in efficient ways, while meeting a specified budget constraint are acceptable.18 Efficiency should be measured in terms of consumer efficiency (the rate at which the market value of subsidies is translated into the perceived Aincome equivalent@ by beneficiaries), Aproduction efficiency@ (the rate at which resources expended on a program are translated into the market value of housing), and Aprogram efficiency@ (the product of consumer and producer efficiency).

grants provided by governments in Chile, Costa Rica, Paraguay and Uruguay or rent/housing allowances such as those provided in many industrialized countries. Such subsidies are generally far more efficient and are more equitably distributed than supply-side subsidies. Some caution should, however, be exercised in instituting even well-designed demand-side subsidies in countries where there is a rough overall balance in the demand and supply of housing, where housing prices are low, and where the supply of land and housing are relatively responsive to demand. In such countries, it is likely that newly built subsidized housing will, to a considerable degree, displace housing that would have been built privately -- especially if one considers effects over an intermediate to long run of from 5 to 10 years. On the other hand, in countries with considerable amounts of Adoubling up@ of households, high housing prices, and comparatively unresponsive private housing supply systems, well-designed demand-side subsidy programs appear much less likely to displace private construction. Demand-side subsidies, however, have the potential to drive up housing prices to a greater degree in markets with unresponsive supply. Such considerations suggest that understanding the role and functioning of housing markets in a particular context is critical to being able to assess both the need for and likely impacts of housing subsidies.

Mechanisms other than subsidies for achieving the same ends should also be evaluated according to the same criteria. For example, programs to provide infrastructure or secure tenure which are designed to fully recover costs, or regulatory reform programs or building industry reorganization designed to lower the cost of land or housing or to improve supply responsiveness can be evaluated according to unit costs and consumer, producer and program efficiency as well.

Information and analysis required to assess the need for subsidies, design housing subsidy programs as part of an enabling strategy for housing, or evaluate the impact of subsidies in achieving sectoral goals go beyond what is typically collected and analyzed for such purposes. It is in part because of information and analytical failures that subsidy systems are often badly designed, counterproductive, or even subversive of housing and broader economic and social goals. Protocols for collecting and analyzing data needed for designing, building, implementing, and monitoring subsidy programs have evolved considerably within the last decade and have been put into place in varying degrees in a number of countries. In order to design comprehensive enabling strategies and appropriate subsidy policies, data need to be collected and analyzed in the following areas: housing indicators, household interview surveys, housing supply studies, land market analysis, housing finance reviews and subsidy incentive analyses. Such compre-

When such criteria are applied to conventional subsidy programs, based on overwhelming empirical evidence, subsidy programs that provide housing directly to beneficiaries as a result of either direct government construction or government-contracted construction are extremely inefficient -- converting only half or less of resources expended into benefits to end-users. Thus socalled supply-side programs are usually best avoided as part of an overall housing strategy. The alternative is demand-side subsidies such as the one-time capital 18

AAcceptable@ or typical housing subsidy budgets are somewhat nebulous based on empirical evidence, but it appears that countries at the level of economic development in Latin America allocate from one to five percent of government budgets for housing subsidies. 40

hensive data collection and associated analysis has the potential to reveal critical information about the status and potential of all key stakeholder groups involved in the housing sector and, consequently, to provide the basis for a more thorough and comprehensive set of policies and institutional arrangements. Great progress has been made in designing efficient ways of collecting and analyzing most of these data, and the potential usefulness of each area of data collection and analysis has become evident. Policies that are informed by good data collection and analysis are likely to more than justify data collection and analysis costs.

cant degree. Financial intermediaries, in particular, often participated only reluctantly, if at all, in lending to beneficiaries of sites-and-services and upgrading projects. Concern with sustainability of housing programs, with their basic economics, and with scale (the ability to address sectoral issues through lending rather than just the needs of a narrowly defined target group), has led all donor agencies, including the IDB, to shift the focus of their lending once again during the 1990s. This time the shift has been toward adopting a sectoral focus in defining goals for lending, lending for demand-side subsidies, and an explicit concern with mobilizing the private sector, especially the financial sector (see the Box above). Often this has as well involved a significant ratcheting up of the scale of lending. These changes in approach and in scale should be commended; there are considerable grounds for believing that current approaches toward the housing sector will be far more successful than past approaches. The early returns on such changes are only beginning to come in, however, and it will be some time before it will be possible to characterize the lending activity of either IDB or any of the other donor agencies as having been helpful, let alone instrumental, in moving governments toward the goal of creating well-functioning housing sectors based on enabling strategies.

The experience of the IDB in lending for housing and urban development activities involving housing has evolved greatly since the 1960s. Most of its early loans would not have met the criteria applied to contemporary loans in terms of efficiency, equity, or sectoral impact. They would certainly not have measured up well in terms of helping to create a Awell-functioning housing sector@ -- the goal of modern enabling strategies for housing. They were small in scale, largely unaffordable by the poor, poorly targeted, and largely inefficient. Moreover they followed the typical paradigm of government housing programs at the time -- relying on government to design, produce, and allocate the housing Asolutions@ which contributed little to addressing the needs either of the poor or of the broader economy. Over time, lending shifted to focus on sites and services programs and slum upgrading, which were better targeted, had lower unit costs, had relatively high economic rates of return, and were comparatively efficient. These shifts in the focus of IDB lending paralleled those of other donor agencies such as the World Bank and USAID. Their experiences, similarly, paralleled the experiences of other donors and were not, as each agency respectively concluded, altogether favorable. Specifically, it was concluded that after more than a decade of lending for such projects, and despite many successes Ain the small,@ goals of cost recovery and replicability, two watchwords of sites and services and slum upgrading projects, had largely not been achieved. Subsidies were often on the order of two-thirds or more of resource costs in typical projects, making large-scale implementation unimaginable for most governments, and private resources were not leveraged to any signifi-

What is certain, however, is that enough is known concerning the critical role that must be played by good and sufficient data and good and thorough analysis to suggest that more needs to be done to create a standard approach toward the collection and analysis of housing sector data by governments and by the IDB and other donors. The costs of policy errors are immense relative to the costs of data collection and analysis. The potential benefits of good diagnosis and appropriate prescription are correspondingly impressive. Shifts in the philosophy behind housing policies and behind lending in support of those policy shifts should be matched by a corresponding shift in resources and institutional support for data collection and analysis activities such as those proposed above.

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Annex 1 The Do's and Don'ts in Enabling Housing Markets to Work INSTRUMENTS

DON'T

Developing Property Rights

v v v v

Regularize land tenure Expand land registration Privatize public housing stock Establish property taxation

x Engage in mass evictions x Institute costly titling systems x Nationalize land x Discourage land transactions

Developing Mortgage Finance

v v v v v

Allow private sector to lend Lend at positive/market rates Enforce foreclosure laws Ensure prudential regulation Introduce better loan instruments

x Allow interest-rate subsidies x Discriminate against rental housing investment x Neglect resource mobilization x Allow high default rates

Rationalizing Subsidies

v v v v

Make subsidies transparent Target subsidies to the poor Subsidize people, not houses Subject subsidies to review

x Build subsidized public housing x Allow for hidden subsidies x Let subsidies distort prices x Use rent control as a subsidy

Providing Infrastructure

v v v v

Coordinate land development Emphasize cost recovery Base provision on demand Improve slum infrastructure

x Allow bias against infrastructure investments x Use environmental concerns as reason for slum clearance

Regulating Land & Housing Development

v v v v

Reduce regulatory complexity Assess costs of regulation Remove price distortions Remove artificial shortages

x Impose unaffordable standards x Maintain unenforceable rules x Design project without link to regulatory/institutional reform

Organizing the Building Industry

v v v v

Eliminate monopoly practices Encourage small-firm entry Reduce import controls Support building research

x Allow long permit delays x Institute regulations inhibiting competition x Continue public monopolies

Developing a Policy & Institutional Framework

v Balance public/private sector v Create a forum for managing housing sector as a whole v Develop enabling strategies v Monitor sector performance

roles the

x Engage in direct public housing delivery x Neglect local government role x Retain financially unsustainable institutions