Urban Economics (a) Consider the following information on condominium units used
ID: 2454959 • Letter: U
Question
Urban Economics
(a) Consider the following information on condominium units used as rental property:
-The interest rate is 6 percent
-The market value of a typical units is $100,000
-The cost of maintaining a unit is 1 percent of the market value
-An unmaintained unit depreciates at a rate of 3 percent per year
-The city levies property taxes at a rate of 1 percent of the market value
-Public schools cost $1000 per student
-The cap rate is expected to fall from 10 percent to 8 percent during the year.
Ignore income taxes.
i) What is the user cost of owning a unit?
ii) If the government decided to impose a 50 percent “speculation tax” on capital gains, what would be the effect on the user cost for one year?
(b) It is common to hear real estate agents claim “Buy now because interest rates are so low that the monthly mortgage payment is equal to the monthly rent payment (and paying rent does not add to the owner’s equity). Is this claim consistent with equilibrium in the ownership and rental markets?
(c) Suppose that an increase in the quality of a house increases its market price in equilibrium. If the prices of all types of houses increased by 20 percent, would spending on maintenance increase, decrease or stay the same?
Explanation / Answer
Market value of a unit
$100,000
Interest rate 6%
$6,000
Cost of maintenance per unit 1%
$1,000
Unmaintained unit depreciates
3%
Property tax
$1,000
Public school cost/student
$1,000
Cap rate is expected to fall from
10 to 8 % per year
Ignore taxes
= Market value of a unit + interest rate 6% + Maintenance cost 1% + Property tax + School cost
= $100,000 + $ 6,000 + $1,000 + $ 1,000 + $ 1,000
= $109,000
= $109,000 + $ 5,000
= $ 114,000
Market value of a unit
$100,000
Interest rate 6%
$6,000
Cost of maintenance per unit 1%
$1,000
Unmaintained unit depreciates
3%
Property tax
$1,000
Public school cost/student
$1,000
Cap rate is expected to fall from
10 to 8 % per year
Ignore taxes
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