Tuesday, February 5, 2008

Housing Markets

Housing markets are interesting to consider as a contrast to retail markets because there are so many economic factors where the two are different; yet in spite of these differences we believe the model of supply and demand applies to both. Let's begin by listing a few of these factors and contrast them to the retail market case. Then we will get into each of these a little deeper. After that we'll consider some other factors and repeat the process.

First, let's note that homes are expensive items and for most people the decision to buy a home is a major purchase that involves much planning and effort, a lot of investigation of what housing is available, and perhaps also a lot of soul searching before a decision is made. As a fraction of total income the price of most retail items is small, so many of these are purchased without near the amount of forethought.

Second, in many respects each home is unique and buyers and sellers respect that uniqueness. We say that housing is a differentiated product market. Retail items, in contrast, are much closer to the ideal of a homogenous product market. One 18 box of Wheaties is viewed the same as another, one package of Pampers for a toddler between 20 and 25 pounds is viewed the same as another, etc. In other words, if you narrow the category enough for retail then beyond that you have homogeneity. With housing, the heterogeneity can survive down to the individual unit.

Third, and this is really a consequence of the first two, with housing you have to be careful to distinguish between list prices (the price mentioned in an advertisement or other listing), and transaction prices (what the house actually sells for). The two are usually not the same. In retail, the list price and the transaction price are usually the same.

Census FAQ on Housing
American Housing Survey
House Price Data

According to the U.S. Bureau of the Census, the median home price in the U.S. is not quite $124,000 (see the first link above) and there is substantial variation in pricing around that (take the House Price Data link and then scroll down to the table Value@12). To get a feeling for what explains that variation let's look at a few individual "list prices." Go to the realtor.com site, choose a location and a price range, and look at a few listings. What factors that are overt in these ads differentiate one house from another?

No comments: