Heterogeneous housing markets: structural implications for pricing and risk

Abstract

Purpose – The purpose of this paper is to compare the structure of risk and the structure of pricing in housing markets where the interaction between segments is taken into account with the structures that come about in a housing market approach that ignores this interplay. Knowing how most empirical assessments of whether housing markets are in or out of equilibrium is related to macroeconomic variables and is ignoring the interplay between segments our aim is to highlight the extent to which a homogeneous market framework underestimates pricing and risk in real housing markets. Design/methodology/approach – Framed in terms of a linearized housing market with two segments, the author derives expressions for house prices and house price risk in three scenarios. The author compares the structure of pricing and the structure of risk in a homogeneous housing market with those of two distinct heterogeneous housing markets where segments are linked as well analyzing as how prices and risk responds to shocks. Findings – The author derives expressions for market segment prices and for the house price index in three distinct housing market scenarios and shows how heterogeneous housing market frameworks produce both expressions for house prices and for house price risk, as well as a response in both risk and prices to shocks to demand, that deviate from those of a homogeneous housing market framework. While significantly underestimating house price risk a homogeneous framework might also be taken by surprise of the price response accompanying shocks to demand. Originality/value – The authors' simplistic expressions for house prices and house price risk provides a framework for bringing two distinct theoretical housing market camps onto the same playing field. The approach shows the value added of taking the interplay between market segments into account when analyzing housing market developments.