The Mortensen-Pissarides Model and the empirical facts of housing markets

Purpose – This paper aims to explain the main empirical facts of housing markets, notably the trade-off between housing price and time-on-the-market, the positive correlation between housing price and the number of contracts traded during a given period (i.e. the trading volume), and the existence of price dispersion.

Design/methodology/approach – This theoretical paper makes use of a search and matching model. Search and matching, indeed, are two fundamental characteristics of the trading process in the housing market and, thus, the search-and-matching models have become the new economic approach to the analysis of real estate markets.

Findings – This paper shows that a slightly modified version of the baseline search and matching model à la Mortensen-Pissarides can explain the main empirical facts of housing markets. Two are the key mechanisms that allow to achieve this notable goal: 1) a simple formalisation of the (reasonable) assumption that buyers today are potential sellers
tomorrow (and vice versa); 2) the direct relationship between market tightness and house price, derived by the standard matching model and underestimated by the related literature.

Practical implications – The explanation of the main empirical facts of housing markets is embodied in the same and relatively simple theoretical model.

Originality/value – In addition to the explanation of the main empirical facts of housing markets, the developed theoretical model can generate an upward sloping Beveridge Curve in the housing market (the positive relation between home-seekers and vacant houses). Instead, according to a recent criticism in the related literature, a model à la
Mortensen-Pissarides inherently generates a (empirically unrealistic) downward sloping Beveridge curve.

Research limitations – The developed theoretical model only studies the equilibrium conditions. Indeed, it would be interesting to also study the disequilibrium in housing markets.