economic perspective that includes the full spectrum of housing, irrespective of quality or adequacy (i.e., formal and informal), and all households across the income distribution _._ But then, such a housing affordability analysis will need to be supplemented with a housing needs assessment – that captures the qualitative aspects – as part of any comprehensive housing sector evaluation.

# 2.6 Definition of Housing Cost and Expenditure

To reach a consensus regarding a definition of housing affordability, it is necessary to define which expenses can be bundled into housing costs and expenditures.<sup>6</sup> Like affordability, housing cost has multiple meanings: economists measure the user cost (which incorporates the opportunity cost of capital and depreciation) in economic modelling of the housing market, while policy makers are more interested in the out-of-pocket cash flows (Haffner and Heylen 2011). Financial institutions typically limit their measurement of housing costs to upfront down-payment and transaction costs related to the purchase of a property, and the recurrent sum of money needed to make all the necessary payments.

For renters, housing costs typically include rent and utility fees. For example, under the Section 8 Program<sup>7</sup> in the United States, the Department of Housing and Urban Development (HUD) calculates the tenant’s contribution based on a rent that includes utility costs (e.g., natural gas, electricity, other heat sources, water, sewer, and garbage). When utilities are not included in the rent, utility costs are estimated based on a utility allowance schedule developed by the local public housing authority. In many countries, renters must also pay a security deposit or key money, which may or may not be refundable upon termination of the lease. For example, in the Arab Republic of Egypt, the universal key money phenomenon to overcome rent control restrictions resulted in major distortions in the housing market. The large lump-sum payment is roughly equivalent to the net present value of the difference between market rent and the frozen rent level over the duration of a long-term tenancy contract (World Bank 2007). These types of upfront capital outlays can have a direct impact on the affordability of a housing unit and can present a significant obstacle to access housing for low-income households.

Homeowners incur costs of maintaining the home (utilities, repairs, homeowner association fees, etc.), property taxes and insurance, the costs associated with buying and selling the home, and servicing debt net of any tax benefits (Belsky, Retsina, and Duda 2005). For homeowners in informal settlements, the cashflow structure may be quite different from a household purchasing a unit in the formal market. The building of houses in informal settlements, where access to housing finance is typically non-existent, is invariably an incremental process in which households start with basic shelters. They then invest in the extension and improvement of their dwellings as their circumstances allow and in accordance with their priorities for the investment of their time, energy, and resources as well as their assessment of the risk of eviction (Wakely and Reilly 2011). This process of incremental construction can span decades. As such, the homeowners’ housing costs are lumpy and variable over time.

For the purposes of this paper, ‘housing costs’ are defined as the recurrent out-of-pocket cashflows necessary for occupying and operating the housing unit. However, in practice, measuring the affordability

> 6 One such effort is the International Comparison Program (ICP) under which participating economies collect prices for a selection of the goods and services that make up final consumption expenditure and gross capital formation. There are four main surveys: household consumption, government consumption, machinery and equipment, and construction and civil engineering.

> 7 Section 8 is a rental voucher program funded by the U.S. federal government to assist very low-income families, the elderly, and the disabled to afford decent, safe, and sanitary housing in the private market.

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