The streetlight effect, inertia and house prices

The streetlight effect or “drunk’s search” is a bias where people only look for things where it’s easiest to look for them. The old story goes something like, a drunk loses his key and is found by a policeman searching for it under the streetlight. He asks if he’s sure he lost them in the street, replies he’s not sure, but he’s looking for them on the street because that’s where the light is.

House prices in Auckland and complaints about their effect on young couples trying to form households are suffering from a similar observational bias. In 2015, it makes sense to think of a household’s life as a bundle of goods – you don’t just need shelter, you need a stable job and other amenities in order to justify taking the risk of forming a family.

I’m not convinced by arguments around agglomeration value of cities that the larger cities are necessarily the best “bundle of goods” on offer for young couples, particularly if they work in industries where work is less secure than days gone by or if they have any ability to use technology and the occasional flight to a main centre to assemble a reasonable household income.

Despite having one of the highest tertiary qualification rates in the OECD, we have one of the lowest earnings premiums. This makes sense – higher relative supply of graduates implies a lower premium for graduates. The college premium in the United States is far higher, particularly for professional school graduates able to obtain the sort of job they went to graduate school for soon after graduating.

But we have to look at revealed preference here – what do lots of young couples do? They want to buy houses! They want to travel! They want to have fun! They don’t want to look at what they see as “inferior” options in the provinces even if the raw cost savings could be sufficient to enable more international travel each year and even sending the kids to boarding school if they wanted to. Young people are leaving the provinces in droves and even if the provinces do have young populations, it’s not clear that they’re going to stick around forever and contribute to infrastructure costs for that province.

Relative house prices do in a sense reflect one component of the value of the bundle of goods on offer in the provinces. But there is little evidence of detailed investigation of what life is actually like in the provinces. It might not be as wonderful as in “the big smoke”, but the raw cost difference could give many families a higher standard of living if they left Auckland or Wellington or Christchurch.

There is a sense of inertia at play as well – if you grew up in Auckland but can’t afford to buy a house there, but many of your peer group has bought a house, then you will feel like a loser and because of that, your decision making will become far more emotional instead of rational and based on the facts at hand. Shamubeel Eaqub was getting at something when he wrote about how culturally, home ownership is seen as a mark of adulthood in New Zealand and renters are looked down on no matter what their household balance sheet actually looks like.

What many young couples are forgetting is that not everyone can be a winner and there are enormous costs involved if you do what everyone else is doing for the sake of everyone else doing it instead of what’s truly in your best economic interests. There is no guarantee that house prices will keep going up and up – and the very same people grabbing at any government assistance on offer to help them buy a house will be the same people bleating for a bailout when the inevitable tide of mortgagee sales comes. There is no such thing as a free lunch!

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