We set up and solve a spatial, dynamic equilibrium model of the housing market based on two main assumptions: households with heterogenous abilities flow in and out metropolitan areas in response to local wage shocks, and the housing supply cannot adjust instantly because of regulatory constraints. In our equilibrium, house prices compensate for cross-sectional productivity differences. We increase productivity dispersion in the calibrated model in order to match the 30-year increase in cross-sectional wage dispersion that we document based on metropolitan-level data. We show that the model quantitatively matches the observed 30-year increase in dispersion of house prices across U.S. metropolitan areas. It is consistent with several other features of the cross-sectional distribution of house prices and wages.
The Review of Economic Studiesvol.
77, (October 01, 2010):