Housing Careers, House Price Dispersion and the Housing Market Multiplier

Abstract

AbstractHousing markets reflect our housing consumption profile over the life cycle. As we age, marry and have kids, we seek larger dwellings and to a greater extent owner-occupied housing. The up-trading process has two key characteristics: first, it is equity induced. Second, it impacts both the supply and demand sides of housing markets. This is our point of departure. The paper combines a housing ladder with a house price index to show how up-trading amplifies shocks and introduces a multiplier into the housing market. The interplay between market segments results in up-trading induced price dispersion and a price response in the segments on top of the ladder that exceeds those of segments further down, even when shocks are equal across market segments. Finally, as up-trading impacts both housing supply and housing demand, even balanced shocks to net demand might impact house prices. Focusing on different market segments, shocks to demand might have both direct (the size effect) and indirect (the up-trading effect) effects on the house price index. This paper highlights policy options at a finer level when in need of stimulating or dampening house price cycles.Key Words: Housing careersHousing market multiplierHouse price dispersion AcknowledgementThe author would like to thank two anonymous reviewers for their useful suggestions.Notes1. A number of papers analyse the wealth effects arising from housing markets, amongst others, Benjamin, Chinloy and Jud (Citation2004), Case, Quigley and Shiller (Citation2005), IMF (Citation2002), Yamashita (2007) and Larsen (Citation2010).2. See Bourassa, Hoesli, Peng (Citation2003) or Goodman and Thibodeau (2003) for a discussion of submarkets.3. A household that, while using equity gains to trade up the ladder, is assumed to substitute down the ladder will carry with it a substitution effect that is symmetric to the up-trading effect highlighted in the model. See for instance Borgersen and Sommervoll (Citation2011) for an approach where the indirect effect includes both substitution and equity induced up-trading.4. In real housing markets, both price and income elasticities in demand differ and are important features for differences in expected wealth effects between housing market segments (Edelstein and Lum Citation2004). To highlight the indirect effects these are suppressed. See Borgersen (Citation2013) for the role of housing market structure.5. Borgersen and Sommervoll (Citation2011) show the same reasoning for the price-to-rent ratio in a model including substitution.6. Allowing for depreciation of the existing housing stock, either due to social or physical reasons, might dampen the supply side effects of up-trading highlighted in this section. On the other hand, upgrading or decoration of the existing stock might counteract the impact of depreciation. For the relation between house prices and upgrading, see for instance, Bajari, Benkard and Krainer (Citation2005). To highlight the supply side feature of up-trading, we abstract away from depreciation altogether. However, a straightforward interpretation of the model including depreciation is to assume the exogenous supply component as net of depreciation.7. The Haavelmo theorem refers to the income effect (concerning the primary impulse) of budget-balance-neutral fiscal policy, where increased public expenditures, fully financed by higher taxes, still induces positive impacts on domestic production (see for instance, Haavelmo Citation1945, Citation1946).8. The price effect of changes in the number of newly built houses in each segment will be parallel to the effect of changes in housing supply in section 3.9. See Appendix 2 for description of parameters and the partial observations from the flexible supply side version of the model.10. When trading up the ladder the household simultaneously puts its existing home out for sale and stimulates supply. This increased supply will impact negatively on house prices in the segment where the household currently is an owner, irrespective of whether the households decides to start renting or to climb further on the housing ladder and buy a home in another segment (as the model assumes). If the household decides to start renting a home, the positive impact on prices further up the ladder which our models highlights, would disappear. In this case, the probability of market segment prices being positively correlated would increase. Incorporating renters more extensively, will of course provide us with a fuller picture for housing markets respond to shocks as argued by Ayuso and Restoy (Citation2006). However, as shown by Borgersen and Sommervoll (Citation2011), using a similar linearized multimarket housing structure, as ours, the increased demand for rentals might increase rents which again most likely will be passed through to house prices and indirectly impact positively on house prices. In fact, prices in the segments on top of the housing ladder might increase more than those in segments further down. This broader approach taking both rental housing and owner-occupied housing into account could result in a situation similar to ours, which apart from in the first segment, abstracts away from rental possibilities to highlight the dual role of demand in housing markets with owner-occupied housing.11. When using Definition 4 and Observations 4, 7 and 10 in Appendix 2 we may state the first half of Result 4 - the endogenous supply side analogue to Result 1. The latter half of Result 4 – where price dispersion is expressed in absolute terms – comes about when using Definition 5 and Observations 5, 8 and 11 in Appendix 2.12. The lack of outlet for built up equity impacts the result for family homes. Allowing for bequests, and an outlet for equity gains, could modify this result. In fact, bequests could impact the up-trading induced price dispersion as equity gains originating in the family home segment in part would be fed back into the starter home segment, generating additional indirect effects. On the other hand, bequests could strengthen the multiplier as the indirect effects would spread through the housing ladder in second- and third-round effects.13. See Appendix 3 for a supply side driven ladder effect.14. See also Angel (Citation2000) for a broad analysis of housing market policy in a global context.