Question

Article 1

Hong Kong public housing: increased land supply and reduced demand to cause drop in shortfall, but government still lagging behind targets (SCMP, 18 Dec 2019)1
Hong Kong’s public housing shortfall is expected to ease in the next 10 years because of increased land availability and reduced demand, but the government is still expected to miss its supply target. Secretary for Transport and Housing Frank Chan Fan, who is in charge of reviewing and updating a rolling 10-year housing strategy annually, admitted the long wait for public housing would probably not improve soon as “demand pressure for flats remains very high”. “The queue for public housing with more than 250,000 applicants may increase in the future, and there is still a shortfall in supply,” he said on Wednesday....... As for public flats, supply is still expected to fall behind the government’s new target because of limited available land.......... Given the smaller demand and additional supply, the shortfall would be narrowed down to about 29,000 flats in the coming decade, compared to 67,000 last year....... The Lantau reclamation project, which was mentioned in last year’s report as one of the long-term measures for land supply, was omitted from this year’s report........ Demand for public sector homes has always been keen in the city. Families for public rental housing face an average waiting time of five years and four months for a subsidized flat.

Question 1:
With reference to Article 1, given that the supply of housing is perfectly inelastic, with the aid of diagram(s), illustrate the following situation in Hong Kong public housing market: “Given the smaller demand and additional supply, the shortfall would be narrowed down”.

Answer 1

The housing market

The demand for houses

According to the law of demand as the price of houses increase the demand for houses reduces and vice versa – as the price of houses decrease the demand for houses increases. So the demand curve is downward sloping as shown in the figure below.

The supply for houses

We expect the supply curve for housing to be upward sloping since as price of houses increase, home builders and home owners are willing to sell more houses. However, it is given to us that the supply curve for houses is perfectly inelastic. So the supply curve for houses would be vertical.

In Mathematical terms, Elasticity of supply is percentage change in supply of houses due to 1 percent increase in price of houses. That is the elasticity of supply measures the responsiveness of supply to prices. If the supply of houses is inelastic i.e. it is not very responsive to increase in prices. In the figure below - When prices rise from P₁ to P₂, the quantity supplied of houses increases from Q₁ to Q₂. The quantity increases by less than the rise in prices. So an inelastic supply curve is very steep and nearly vertical.

A perfectly inelastic supply curve would be completely vertical i.e. the price changes have no impact on the supply. The reason the supply curve for houses is inelastic is that increasing the supply houses takes time. New homes take time to get build and enter the supply market and. So at a particular time the supply of houses in the market is nearly constant irrespective of price changes.

Equilibrium for last year

We plot the demand and supply curves together for the equilibrium. In the free market the equilibrium price and quantity would be determined by intersection of demand curve (D₁) and supply curve (S₁) . It is shown in the figure as – P^* and Q^* respectively.

However in this case we have a public housing market – wherein the government steps in to control (reduce) the price of houses to make them more affordable and houses are sold at a subsidized price P_S which is less than the free market price P^* . Now as we can see from the figure - at the subsidized price P_S, the quantity supplied of house is Q^* and the quantity demanded for houses is Q^D₁. So there is a shortage in the number of house supplied by amount PR (in figure) or Q^D₁- Q^* = 67,000 houses as given in the article.

Equilibrium for coming decade

In the coming decade the supply of land is expected to increase in Hong Kong (because of, for example Land reclamation project mentioned in the article) . So, the amount of land on which houses can be built will increase and hence at any given price the supply for houses would increase i.e. the supply curve for houses would shift to the right from S₁ to S₂.

Similarly the demand is expected to reduce in the coming decade because of for example population decrease. So at any given price the demand for houses decreases i.e. the demand curve shifts to the left from D₁ to D₂.

The free market equilibrium is where S₂ and D₂ meet i.e. at price - P^*₂ and quantity - Q^*₂.

And it is given in the article that the there is still a shortage in houses at the subsidized price P_S. So it means that the subsidized price P_S is still lower than that the new free market equilibrium price P^*₂. At the subsidized price P_S, the quantity supplied of house is Q^*₂and the quantity demanded for houses is Q^D₂. So there is a shortage in the number of house supplied by amount MN (in figure) or Q^D₂- Q^*₂= 29,000 houses as given in the article. As we can see from the figure, the earlier shortage of PR = 67,000 is more than the shortage in the coming decade of amount MN = 29,000.