Hedonic price-rent ratios, user cost, and departures from equilibrium in the housing market

Disequilibrium in the housing market can be detected by comparing the actual price-rent ratio with its equilibrium counterpart obtained from the user-cost condition. Empirical implementation of this idea, however, is problematic because of quality differences between sold and rented dwellings. We develop a hedonic method that resolves this problem even in the presence of omitted variables. Applying this method to a data set consisting of 730,000 individual price and rent transactions we find that quality adjusting significantly reduces the actual price-rent ratio. We then insert these quality adjusted price-rent ratios into the user cost condition to check for departures from equilibrium.