Do sales prices overstate underlying house prices in market downturns? Evidence from the Canadian house price crash of 1991

Canadian Journal of Administrative Sciences, Dec 2002 by Marion Steele, Richard Goy

Basic room variables are bedrooms and other rooms (total rooms minus bedrooms). Linear splines are used. This allows, for example, the "price" of the fourth other room to be different from the price of the third. We specify effects as beta^sub 1^*OR beta^sub 2^*OR4P beta^sub 3^*OR6P, where OR = number of other rooms; OR4P = number of other rooms minus 3, for houses with 4 or more other rooms, otherwise zero; OR6P = number of other rooms minus 5, for houses with 6 or more other rooms, otherwise zero; and beta^sub 1^, beta^sub 2^, beta^sub 3^ are unknown parameters. Thus the marginal shadow price of the fourth other room is beta^sub 1^ beta^sub 2^ and that of the sixth is beta^sub 1^ beta^sub 2^ beta^sub 3^.

For bedrooms, we specify effects as beta^sub 1^*BEDS beta^sub 2^ *BD3P beta^sub 3^*BD4P, where BEDS = number of bedrooms; BD3P = number of bedrooms minus 2, for houses with 3 or more bedrooms, otherwise zero; and BD4P = number of bedrooms minus 3, for houses with 4 or more bedrooms, otherwise zero.

We capture bathroom effects with dummy variables: for one full bathroom and one washroom, for two full baths, for one bath and two or more washrooms, and for at least two full bathrooms and one or more washrooms.14 Bathrooms add value directly and also are an indicator of whether substantial renovation has occurred. If a house is old (i.e., built before 1941) the existence of two bathrooms and a washroom suggests that major renovation has occurred.

HIFE contains no variable indicating how recently the kitchen was renovated, or its quality. For this reason, we include a dummy variable for an installed dishwasher (installed dishw) on the assumption that a built-in dishwasher is a good proxy for the modernity and quality of a kitchen.

We also include a dummy variable for a semidetached structure, "semi-detached". Two climate control variables included are "central air" for central air conditioning, and "hot w heating" for hot water heating. As a proxy for the existence and size of garage, "no. of cars" indicates the number of automobiles owned by the household. "Major rep need" and "minor rep need" are dummy variables for major and minor repairs needed.

No variable is available in HIFE for the condition of the neighbourhood, but we expect the incidence of poverty to have a negative impact on price. As a proxy for the poverty level of the neighbourhood, we include a dummy variable taking the value one if the household has income below the poverty line and has a head less than 65 years of age. Heads over 65 are excluded from this category because their current poverty status may be associated with retirement.

Table 1 shows mean homeowner valuations in the trimmed sample by year for Canada's three largest cities. Reflected there is the marked stability, if not stagnation, of prices in Montreal at a level about a half the Toronto level. Toronto values show the sharp drop in 1991 with values in 1993 at about the same level as 1991, and Vancouver values show a sharp drop followed by a booming recovery. In Table 2 are shown mean values in the trimmed sample for selected characteristics. It can be seen that Montreal houses are distinctly newer than those elsewhere. This is, at first, surprising until it is recalled that the characteristics are for owner-occupied houses only, owner-occupancy is less prevalent in Montreal than elsewhere, and new owner-occupied housing has been the target of Quebec government subsidy programs in recent decades. Vancouver houses are the largest in terms of number of rooms-especially larger than Montreal houses-and are much less likely to be semi-detached than in Toronto. Toronto houses, as reported, are the most likely to be centrally air conditioned, although the high incidence for Toronto may reflect some misunderstanding on the part of respondents in the distinction between window air conditioners and central air conditioning.