Distributional Consequences of Surging Housing Costs under Schwabe’s Law

Abstract

Housing costs have been increasing in most industrialized economies since WW2. The burden of rising housing cost is distributed unequally across income groups because the poor spend a larger fraction of their total consumption expenditures on housing than the rich. This negative relation of housing expenditure shares and income is called Schwabe’s law. We study how rising housing cost affect the dynamics of wealth inequality and welfare under the explicit consideration of Schwabe’s law. We set up a frictionless two-sectoral macroeconomic model with a housing sector. It is shown that in partial equilibrium (i) rising housing cost may reduce wealth inequality, (ii) this is unaffected by Schwabe’s law, and (iii) capturing Schwabe’s law amplifies welfare effects. We then study in general equilibrium how the abolishment of zoning regulations affects wealth inequality and welfare through housing costs and other prices. Although the effect on wealth inequality is small, the consequence for welfare is pronounced and asymmetric across the wealth distribution. Wealth poor households benefit from the abolishment of zoning regulations while wealth rich households are worse off. These results are amplified by Schwabe’s law.

Publication
R&R at the Journal of Economic Theory