Photo by granite-charlotte on Flickr.

The rising supply of high-end apartments has slowed the rise in prices (at least outside the hottest areas). Will that make housing more affordable for people who can’t afford the fanciest apartments?

Real estate consultant Maeve Gallagher writes in Capital Business that vacancies have risen in the metro area, to 4.4% from 2.2% a year ago, though DC’s vacancy rate continues to fall.  That means rents in DC are still rising, but have declined in Northern Virginia.

Most people can’t afford the highest-end or “Class A” apartments in new apartment buildings, but one theory holds that if we build more Class A housing, other rents will also fall through a process called “filtering.”

If the top tier isn’t full, rents won’t go up there so fast. People who can afford those luxury units will want to buy in a new building, so the owners of an older building will have less incentive to renovate and less market upside from doing that. That will keep lower-tier rents more reasonable, and “filter” down to successively lower-price levels of the housing market.

However, that doesn’t happen if the Class B and C apartment building owners instead respond in something of a counter-intuitive yet psychologically sensible way. They could decide to renovate their buildings to Class A, with new granite countertops and other high-end finishes, so they can get Class A rent.

Gallagher writes,

As deliveries of Class A units increase in 2013, pressure on Class B market rents could mount if owners of the higher-end buildings offer concessions to lease their new projects quickly.


In other words, if a new building owner can’t get the building leased, they will offer specials like 2 months’ free rent. An apartment that’s a little cheaper, but not so nice or in a less desirable location, doesn’t now seem like a better deal. That could lead the Class B owner to decide now is a good time for a renovation.

Some Class B building owners have responded by refreshing their units. Nearly 32,000 units are under renovation at this writing, at an average renovation budget of $21,000 per unit.


If the market pressure is affecting the owner’s bottom line, they might look at the property and think about how they could turn it into more of a money-maker. Even if Class A rents are not extremely strong, they’re still considerably better, and there’s a good chance they will rise again in the future (and even if they won’t, some owners will decide to take the risk).

Gallagher points out that building owners will make more money if they’re renovating a building not when higher-tier rents are leveling off, but when they are sky-high, because there’s a bigger upside. But not everyone responds that way. I spoke to one developer who said that often as long as a property is bringing in a good return, the owner will just pay it little heed, but then take notice if the margins drop.

Another obstacle to filtering is that demand is rising at all tiers of the housing market. Gallagher says,

Low-wage jobs are expected to grow at a rapid pace, particularly in the retail trade and the construction sectors, increasing demand for Class B apartments. ... In sum, the Class B apartment market in the Washington area faces obstacles in the near-term because of the amount of new supply being added to the Class A market. However, Class B vacancy should remain low, driven by demand from newly created jobs in modest-wage industries.


Few people are building Class B anywhere in the region, least of all in popular areas like DC, Arlington, and downcounty Montgomery. Owners (perhaps rightly) feel they can get top dollar for their properties. Lenders most want to finance luxury projects. And even if the market doesn’t quite support Class A in an area now, people may (perhaps rightfully) think they can wait a little while.

Unfortunately, the effect is that almost all of the new supply is in the Class A tier. If we build enough, it might soak up demand for Class A, but as long as more and more people are coming into the market who want Class B, then those units will get more expensive as well.

This isn’t an argument not to add more housing. However bad this problem is, it’s worse if we aren’t adding housing. There’s even more profit in renovating a Class B building. The demand at many levels of the housing market will outstrip supply even more than it already does.

It’s great we are building housing at a rapid pace. If Gallagher’s research is right, we are still not doing enough to ensure that people can find a place to live, near transit if they wish to be, at a price they can afford.

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David Alpert is the founder of Greater Greater Washington and its board president. He worked as a Product Manager for Google for six years and has lived in the Boston, San Francisco, and New York metro areas in addition to Washington, DC. He lives with his wife and two children in Dupont Circle.