For decades, policy makers and private-sector leaders have tried to solve the affordable housing problem, yet it has only grown more severe and is on track to expand dramatically as urbanization plays out in developing economies. We believe that there is a plausible alternative, because there are clear solutions that—under proper management—can narrow the affordable housing gap substantially by 2025, writes Jonathan Woetzel, Jan Mischke, and Sangeeth Ram on Harvard Business Review.
From Lagos to London, people are stuck in inadequate homes or pay so much of their incomes for housing that they forego other necessities. Lack of access to decent affordable housing is an issue in rich and poor economies. Even in rich countries, low-income families in inadequate housing have higher levels of unemployment and their children are more likely to do poorly in school and quit sooner than other students. High housing costs squeeze middle-income families, and in the costliest cities, even households earning far more than the median income can be financially stretched by rent of mortgage payments, limiting the growth of the local economy.
For decades, policy makers and private-sector leaders have tried to solve the affordable housing problem, yet it has only grown more severe and is on track to expand dramatically as urbanization plays out in developing economies. Today, about 330 million households worldwide are stuck in slums or inadequate housing or are paying too much of their incomes for housing; by 2025, this number could rise to 440 million households and about 1.6 billion people — or one-third of the entire urban population. Simply to replace or refurbish the world’s substandard housing and build the homes needed to accommodate new low-income urban households by 2025 could cost $9 trillion to $11 trillion, not including land, which could raise the cost to $16 trillion.
However, we believe that there is a plausible alternative, because there are clear solutions that — under proper management — can narrow the affordable housing gap substantially by 2025. In our research, we identify four “levers” to manage affordable housing delivery: finding land at the right cost, reducing operations and management costs, adopting more efficient construction processes, and improving access to financing for home buyers and builders. Together, these approaches can reduce the cost of a finished housing unit by 20% to 50%. They can be applied anywhere in the world and can make housing affordable (without subsidies) for households earning 50% to 80% or more of local median income.
Achieving such results depends on new management approaches. Affordable housing programs must be designed and implemented as part of a comprehensive housing plan that considers the needs of citizens up and down the housing ladder, not just the lowest-income segments (new luxury and middle-income homes can free up older stock for affordable housing). Affordable housing should also be viewed as an important component of a broad effort to integrate low-income groups into the economy. So new affordable housing must be in places from which residents can commute to centers of employment and reach vital services such as schools and healthcare facilities.
Housing programs must also be designed with clear goals, based on detailed local data and criteria and supported by the public, government, and the private sector. Finally, delivery of affordable housing — whether it is new construction built by the private sector or subsidized by government or rehabilitation or older buildings — must be managed professionally, with measurable goals, timelines, and careful performance management and capability building.
Fortunately, our four levers do not require any breakthroughs in technology or policy. Nor would they require a massive increase in public spending. Putting the world’s poorest citizens into decent housing will still require subsidies and other government measures, but we estimate that 80% of the funding needed to close the affordable housing gap could come from private investment. Indeed, an important take-away from our research is that affordable housing is a significant opportunity for the global construction industry — about $200 billion per year in new construction would be needed through 2025 to close the gap. And, if the cost-saving approaches are used effectively, affordable housing can be a far more attractive investment than it has been.
How do these levers work? The two most powerful ones are getting land at the right cost (and in appropriate locations) and reducing construction costs. It turns out that even in major cities such as New York, there are large amounts of land that can be unlocked for development. Often land goes undeveloped because of use restriction, such as limitations on density. If there is appropriate infrastructure to support higher densities, upzoning to allow more floor space to be built on a parcel can lead to very low cost land for affordable housing. In return for giving landowners a “density bonus”—the opportunity to make more money off a parcel by building more housing — the city requires that the owner provides land for affordable housing or sets aside a certain number of units for affordable housing. In either case, land for affordable housing is reduced dramatically, in effect to zero in some cases.
Many cities have used similar strategies to fund infrastructure and housing by tapping the increase in land value that occurs when new transit infrastructure is built. There are examples in which property values rise by 30% to 60% when a new transit stop is added. By selling public property in the area or levying “betterment” assessments, the city can capture some of the increased value to pay for infrastructure and affordable housing.
On the development side, there is a great deal of room for improvement in how efficiently housing can be built. In many countries — not just in developing economies — the housing construction industry is highly fragmented, with many small, poorly capitalized players. Typically, these players have not invested in mechanization or modern methods and many work the same way they have for decades. Developers can reduce the cost of delivering housing by 30% and cut completion timelines by 40% by using standardized designs and other value-engineering tricks, streamlining purchasing and other operations to match the efficiency of other industries, and adopting industrial production methods — using more components, such as floor and wall slabs, that are manufactured off-site.
Efficiency in operations and maintenance and improved access to finance are also important ways to make housing more affordable. O&M is 20% to 30% of the cost of housing and can be cut substantially through energy efficiency measures and by professionalizing the maintenance business. Cities can certify repair and maintenance suppliers and purchasers can band together to increase buying power. By forming buying consortia, UK social housing owners have cut costs on some items by 30%. Improving access to finance for low-income households can reduce housing costs, particularly in the developing world, where many individuals are unbanked. By developing professional property appraisal systems, refining underwriting methods, and establishing credit bureaus, developing economies can reduce the cost of loans for low-income borrowers. Cities can cut financing costs for developers in several ways, including by taking the risk out of projects — fast-tracking permitting and other processes to shorten timelines or guaranteeing that there will be tenants or buyers for housing units.
None of these levers is revolutionary, but they have not been applied systematically in the past. Cities need to define very carefully what will constitute a decent, affordable housing unit in their communities (which may vary by income group), what incentives can be used to encourage private investment (what land might be released for development, for example), and which kinds of households will benefit from the city’s housing efforts. Next, they need to put in place the “delivery platform” to turn these aspirations into reality. Then the full benefits of these cost-saving approaches can be realized and the affordable housing gap can start to narrow.
This article originally ran in Harvard Business Review.