Urban economic base as a catalyst for movements in real estate prices

• Home prices are driven by local economic growth variables.
• From an investment perspective, home prices do follow anticipated growth prospects of an urban economy.
• A well-diversified source of labor income in an economic base helps reduce volatility in housing prices.

We examine the relation between housing prices in an MSA and its urban economic base. We create and employ new forward-looking employment growth indices that measure the urban economic strength of an MSA and find that it accounts for a significant and sizeable portion of the house price movements in that MSA. We argue that the forward looking measure is an indicator of future agglomeration growth for the MSAs. We further partition the urban economic growth into growth by various industries and track the attribution of their growth to housing prices over time. We find that for some MSAs, home prices are driven by the same set of industries over time, whereas for others, home prices are driven by a totally new set of industries in the later quarters, due to the birth of new industries. We also analyze the impact of the diversification of an urban economic base on home price volatility and observe that diversification decreases home price volatility. The result has larger implications for urban policymakers in selecting the appropriate type of industries relative to their existing mix of industries.