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Heterogeneity within Communities: A Stochastic Model with Tenure Choice

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Author Info
François Ortalo-Magné (Department of Real Estate and Urban Land Economics, University of Wisconsin-Madison, 975 University Avenue, Madison, WI 53706, USA)
Sven Rady (Department of Economics, University of Munich, Kaulbachstr. 45, D-80539 Munich, Germany)

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Abstract

Standard explanations for the income heterogeneity within neighborhoods rely on differences of preferences across households and heterogeneity of the housing stock. We propose an alternative and complementary explanation. We construct a stochastic equilibrium sorting model where (1) income is the sole dimension of household heterogeneity, (2) households form state-contingent housing location plans that may involve moves over their lifetimes, (3) households choose whether to own or rent depending on the housing expenditure risk associated with each tenure mode, and (4) there is a probability that newcomer households move in and compete for homes with native households. Income mixing within neighborhood arises for two reasons. First, allowing natives to form state-contingent housing location plans breaks the indivisibility of housing consumption implicit in the literature where households choose their location once and for all. Second, natives can insure themselves against rent fluctuations by buying their home prior to the realization of the population shock; newcomers cannot. As a result, poorer natives stay in the more desirable communities and only richer newcomers move in these communities. Evidence from U.S. metropolitan areas supports the effects predicted by the model.

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Publisher Info
Paper provided by SFB/TR 15 Governance and the Efficiency of Economic Systems, Free University of Berlin, Humboldt University of Berlin, University of Bonn, University of Mannheim, University of Munich in its series Discussion Papers with number 49.

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Date of creation: May 2005
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Handle: RePEc:trf:wpaper:49

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Related research
Keywords: Equilibrium Sorting; Income Mixing; Housing Demand; Tenure Choice;

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Find related papers by JEL classification:
D31 - Microeconomics - - Distribution - - - Personal Income and Wealth Distribution
R12 - Urban, Rural, and Regional Economics - - General Regional Economics - - - Size and Spatial Distributions of Regional Economic Activity; Interregional Trade (economic geography)
R21 - Urban, Rural, and Regional Economics - - Household Analysis - - - Housing Demand

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References listed on IDEAS
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Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Pablo Casas-Arce & Albert Saiz, 2006. "Owning versus leasing: do courts matter?," Working Papers 06-21, Federal Reserve Bank of Philadelphia. [Downloadable!]
  2. Haavio, Markus & Kauppi, Heikki, 2009. "House price fluctuations and residential sorting," Research Discussion Papers 14/2009, Bank of Finland. [Downloadable!]
  3. François Ortalo-Magné & Andrea Prat, 2005. "The Political Economy of Housing Supply," Levine's Bibliography 122247000000000954, UCLA Department of Economics. [Downloadable!]
  4. Joseph Gyourko & Christopher Mayer & Todd Sinai, 2006. "Superstar Cities," NBER Working Papers 12355, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  5. Markus Haavio & Heikki Kauppi, 2009. "House Price Fluctuations and Residential Sorting," Discussion Papers 48, Aboa Centre for Economics. [Downloadable!]
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