Pandemic causes urban migration: flattening of the bid-rent curve of residential real estate in U.S metropolitan areas
A recent article published on Journal of Financial Economics (JFE) shows that pandemic have flattening the bid-rent curve of residential real estate in most U.S metropolitan areas. Guptaa et al. (2021) indicates that from December 2019 to December 2020, housing prices far away from the city center have risen faster than those in the city center, rents in the suburbs are rising strongly while rents in the center of metropolitan areas are falling. Since these results are so relevant and timely in the ongoing pandemic, I will discuss and explain how the paper came to their conclusion.
How does this migration pattern affect the trend of urban agglomerations? This article studied this problem by estimating the bid-rent function. The bid-rent function, or land price gradient, is the function relates house prices and rents to the distance from the city center. Prices and rents in the city center are often higher than that in the suburbs, the premium reflects the scarcity of land available for development (due to regulatory barriers), closer proximity to workplaces, urban amenities, and agglomeration effects. Therefore, the bid-rent function is usually downward sloping (a negative gradient): the farther from the center, the lower the price or rent.
What has the Pandemic done to the slope of bid-rent curve?
The slope of bid-rent function has changed significantly since the beginning of the COVID-19 pandemic. Figure 1 shows the slope of the bid-rent function for each month from 2018 to 2020.
The estimation of the rent gradient in December 2020 is close to zero, which shows that the city center premium has been eliminated. The change in the slope for rents function during 2019 to 2020 corresponds to the increase of rents in suburban areas 12.1 percentage points higher than that of city center in metropolitan areas. The evolution of the price gradient is qualitatively similar but quantitatively weaker. The change in the slope for price means that during 2019 to 2020 house prices 50 kilometers away from the city center grew by 6.5 percentage points higher than that close to the city center.
A flattening bid-rent function implies that rent or price changes are higher in the suburbs than in the center. Figure 2 shows an alternative way of seeing this pattern. Houses close to the city center experience a strong decrease in rents, while those in the suburbs have a strong rise. The changing pattern of housing price is similar to that of rents but quantitatively smaller: housing prices in the city center have decreased slightly, while housing prices in the suburbs have experienced a strong rise.
Figure 1: Rent and Price Gradients across top 30 MSAs
Note: The bid-rent slope coefficients are estimated by pooled panel regression on a sample of all ZIP codes in the largest 30 metropolitan areas in the U.S., distance is measured as the log of one plus the distance in kilometers of the ZIP code’s centroid from the city hall of the main city of the metropolitan area. Graphs adopted from: https://www.sciencedirect.com/...
The factor strongest related to the flattening bid-rent function is the presence of remote workers: a 10-percentage-point increase in the number of workers working from home led to a decline of between 0.7 and 1.4 percentage points to urban home price growth. This result suggests two important economic forces: Firstly, workers with jobs that can be done remotely are able to relocate their home location in the context of changing remote work policies. Secondly, these—largely high-skilled—workers may also change their preferences for urban amenities.
Another important factor is the elasticity of housing supply, especially in the suburbs. In cities like Charlotte, Austin and San Antonio, the relatively flexible housing supply offset the impact of the shift to remote working.“In these areas, the relative ease of building means that greater real estate demand results in higher quantities, rather than higher prices. While the observed quantity adjustments are arguably limited over the short period since the pandemic took hold, we expect them to be larger in the medium run.” the researchers wrote.
Figure 2: Pandemic Induced Changes in Prices and Rents
Note: Figures 2 show changes in rents (Panels C) and prices (Panels D) against distance in the largest 30 metropolitan areas in the U.S., distance is measured as the log of one plus the distance in kilometers of the ZIP code’s centroid from the city hall of the main city of the metropolitan area. Lighter points indicate ZIP codes, while darker points indicate averages by 5% distance bins (binscatter). Graphs adopted from: https://www.sciencedirect.com/...
How to predict the future of rents in major cities?
Given the phenomenon that the use of office buildings in the city center hit historic lows in 2020 and remains low well into 2021, it begs the question of whether urban housing markets will snap back to their pre-pandemic states or be permanently changed by the health crisis.
By comparing the changes in house prices(which are forward looking) versus rents, (which is affected by short-term relationship between housing supply and demand) in city centers and the suburbs, we can make early predictions of what the future holds. In theory, property prices factor in both the short-term and long-term factors that affect the value of property. This is because owning a property is like owning any other asset, one can collect income streams by renting out the property to perpetuity. And with record-low interest rates, this forward-looking nature is greater than ever. The evolution of the price gradient is much weaker than that of the rents, means “Housing markets paint an optimistic picture of urban revival”.
How do the rents in major cities change in the future? Researchers predicted that urban rent growth will exceed suburban rent growth by between 1.6% and 3.4% in 2021, based on experts’ prevailing expectations for whether workers will return to offices or working remotely indefinitely. If everything returns to its pre-pandemic state, urban rents would be even more explosive, with a 7.5% increase in the average city. And even if the pandemic represents a new normal and a permanent shift in people’s working lives, the researchers still expect urban rents to increase 0.5% faster than that of the suburban.
What are the implications of the change of bid-rent curve’s slope?
Population shifting to areas with higher supply elasticity will have important implications for housing affordability. A key benefit to workers of this economic geography change is access to large and more elastic housing stock at the periphery of cities, thereby alleviating the rent burden. Cities may also benefit from more balanced real estate prices across different regions. A best-case scenario is a more affordable city center with more enjoyable work environments rather than pricy living spaces that are dominated by the rich.
However, this shifting pattern also reveals some potential problems that local governments may encounter after the pandemic. Firstly, though people will commute to work on less days per week, more people flock to areas further from city centers will increases the need for spread out public transportation networks. Secondly, urban centers may confront dwindling populations and lower tax revenue from property and sales in the short and medium run.
To sum up, more dispersed economic activity may offer greater opportunities for areas previously left behind, but potentially at the cost of agglomeration economies built in urban areas.