Via Mark Thoma, I find this piece by Robert Shiller on how it’s incorrect to think that long-term housing price appreciation in superstar cities should be greater than that seen elsewhere. I believe he’s missing some important ideas. He writes:
Why should home values in glamour cities increase forever? Gyourko, Mayer, and Sinai justify their claim by arguing that these cities really are unique.They have only limited land, and if one assumes ever-increasing GDP and rising income inequality, there will always be more and more wealthy people to bid up prices in these scarce areas. …
But what do these arguments really mean for the outlook for investments in homes in superstar cities? Let us consider the fixity of land. While there is only so much land in any one of the existing superstar cities, in every case, there are vast amounts of land where a new city could be started. …
Private developers … tend to be ingenious at developing glamorous new areas from little towns within an hour’s commute from major cities. It happens in so many places and so regularly that we take it for granted and rarely even notice it.
Indeed, since the industrial revolution, the development of such new urban areas is a central theme in the history of the world. New cities are constantly ripening like so many cherries on a tree, drawing people away from older, original cities.
And the new cities have a way of looking brighter and fresher than the old urban areas, which are often seen as jumbled and decaying.
I especially like the last two paragraphs there. That’s some rigorous argumentation.
What I think Shiller misses is that cities aren’t perfect substitutes for each other; they aren’t interchangeable. The return to one’s skills isn’t the same in a “new city” with only a few thousand people as it is in New York, but it’s also not the same in places like Raleigh or Phoenix. New York City has advantages in production and consumption that no other city can duplicate, and it seems likely that new entrants to New York increase those advantages rather than reducing them. Since New York is unique and access to New York is limited, it does seem sensible that home prices there should also follow a unique path.
Of course, as prices rise, individuals who expect to achieve smaller returns to their skill sets will not find it advantageous to locate in New York, due to housing costs. They’ll go elsewhere. But that also suggests that New York filters for individuals who expect the highest returns to their education and skills. This filtering action seems likely to increase the gap between New York’s advantages and those in other cities.
If the advantages of superstar cities are built in part on their stocks of human capital (or, more generally but slightly less accurately, their populations), then there is built in scarcity in the stock of these cities. Returns to individual skills sets will result in a large set of city locations, sizes, and housing costs, but disparities will persist, and might increase.
It’s worth noting, also, that cities are structured in different ways and are therefore affected differently by rising costs. If New Yorkers use more mass transit per person than gasoline relative to residents of Houston, then rising gas costs will mean a relative decline in the price of New York. Without a change in the housing stock, this should translate into rising home prices in New York relative to Houston.