Market Power in Housing Markets

This paper develops a novel method for identifying and estimating market power in new housing markets that leverages kinks in tax rates on construction density. Intuitively, the method herein departs from the observation that kinks break down the affine relation between prices and marginal costs that holds when taxes vary smoothly, thus enabling one to distinguish between the role of market power and cost structure in driving price heterogeneity. This method is then applied in the context of the Outorga Onerosa sobre o Direito de Construir, a construction density tax effective in São Paulo, Brazil. Our results indicate substantial heterogeneity in market power across the city, with an average mark-up over marginal costs of 45 percent. Consistent with models of a radial city, mark-ups are higher in central regions of São Paulo, and closer to competitive markets in the outskirts. Finally, these estimates are used to illustrate the effects on housing market entry and welfare of alternative density tax policies by specifying and estimating a parsimonious general equilibrium model of construction markets with endogenous and exogenous amenities.