Demand-side subsidies

Demand-side subsidies are typically aimed at increasing the purchasing power of renters, or potential buyers. When targeted at renters, these typically take the form of a percentage contribution to rent, or a simple rent voucher. Either way, the subsidy can be altered with income levels to make the policy more or less progressive.

When demand-side subsidies are targeted at buyers, these typically subsidise either the mortgage down payment, or mortgage interest rate. Upfront subsidies for down payments are typically more useful for households who struggle to make large one-off payments, despite reasonably reliable income flows. They are also a relatively transparent and easily calculable subsidy. Interest rate subsidies tend to be more useful for households who are able to make large down payments through savings or access to social networks, but who struggle to afford mortgage payments over time. They are more difficult to calculate as the market real interest rate varies over time, so the extent of the subsidy varies with the real interest rate and the rate of inflation.

Aside from these more conventional subsidies, policymakers can also subsidise innovative rent-to-own schemes where tenants use a portion of their rent payments to contribute to the purchase price of the house they are currently renting. These schemes provide a more flexible purchasing option for households who struggle to save whilst at the same time paying rent. However, rent-to-own schemes are only likely to shift the decisions of households on the margin of being able to afford a home purchase; they are therefore unlikely to have a transformative impact on housing markets where the affordability gap is very large.

Demand-side subsidies are usually more efficient than supply-side ones as they do not create distortions in the market where housing is provided, who provides it, when it is built, and what type of housing is produced. They have been increasingly popular in more developed economies with better-functioning housing markets and higher-incomes; subsidies can therefore be targeted towards particular low-income households where purchasing power is their main barrier to affordable housing.

In many cities, however, the level of demand-side subsidies required to make up the affordability gap is too large and too widespread across the population for governments to finance. Subsidies cannot make up for the fact that incomes are not high enough to afford the type of housing currently being delivered. Delivering a fundamental increase in incomes is less within the scope of short-term housing subsidies, and more within the scope of longer-term infrastructural and educational investments. Furthermore, demand-side subsidies tend to be ineffective in cities where housing supply is constrained by stringent planning restrictions and limited land availability. When these restrictions prevent increases in the quantity of housing provided, demand-side subsidies simply translate into a rise in house prices.