Abstract

How were there large house price bubbles in cities with historically elastic housing supply? High raw land prices capitalizing optimistic beliefs about future housing demand curtailed supply in these cities. In cities with excess land relative to the current population, optimistic land speculators are the marginal buyers of real estate, making these cities more prone to housing bubbles than fully developed cities. In the latter, the marginal buyers are homeowners, who derive flow benefits from holding land in addition to prospective capital gains and so need not be especially optimistic. This theory matches the joint cross section of house and land prices during the recent U.S. housing bubble. Home builders, who were in the position to arbitrage high home prices by selling more houses, acted like land speculators by taking large, unhedged positions many years in advance of plans to build and sell. Less developed neighborhoods within fully built cities also show larger boom-bust cycles.

Keywords: Housing; Price Bubble; Price; Investment; Real Estate Industry; Construction Industry; United States;