Renting Versus Owning And The Role Of Income Risk: The Case Of Germany

For most households, choosing whether to rent or buy a home is a difficult, multifaceted problem. It is well-established that relative cost and affordability aspects are important for the household's tenure decision, such as the tax treatment of owner-occupied homes, the cost of moving home, and credit constraints. But risk aspects might also play a role. Not only do households have to grapple with the uncertainties of future movements of rents and house prices, but also with the exposure to labor income risk, which varies across professions and regions. Correlation between these risks may influence the rent or buy decision, because fluctuating rents may allow diversification. In this study, we empirically investigate the impact of regional rent risk, its co-movement with profession specific labor income risk, mobility needs, and wealth constraints on the tenure mode decision of German households. We use the SocioEconomic Panel Study to construct constant-quality regional rent indices and constant-quality income indices for homogenous professions. We find that factors such as rent risk, mobility needs, and wealth constraints have the expected impact on households' tenure mode decisions. We also obtain some evidence that households also use the tenure choice to diversify risk. In the aggregate, the correlation between average rental shares and income-rent correlation in a profession-region panel is positive, though small. Pooled probit estimates and dynamic panel probit estimates, that control for unobserved heterogeneity, provide further support for the positive impact of the correlation between labor income risk and rent risk on tenure mode decisions.