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It's election time in my country. The government boasts a decrease of 5% in consumption prices thanks to removing regulations, while the opposition blames the government for an increase of 5% in housing prices. I am wondering if there is any economic relation between the two facts. Consider the following model:

There are two nearby towns, A and B. Initially, each town has a single grocery store. In the housing market, there is a competitive equilibrium between the two towns, with $r_A$ the rent in A and $r_B$ the rent in B.

Now, the mayor of A decides to remove regulations and allow new discount stores to operate. This immediately decreases the price of consumption goods in A. People living in B hear about this and go shopping in A. Some of them, when their rent period terminates, decide to move to A in order to live near the discount stores. House owners in A notice the increased demand and decide to raise the rent. Finally, the housing market achieves a new competitive equilibrium, with the rent in A increasing to $r_A'>r_A$. In effect, the house owners have pocketed the gain from the removal of regulations.

MY QUESTIONS:

  • Is this description economically correct?
  • Is there an empirical evidence showing that a decrease in consumption prices causes an increase in housing prices?
  • If there is a relation, what is its magnitude? I.e, how much of the gain from decreased consumption prices is pocketed by the house owners?
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  • $\begingroup$ Yes, this is exactly correct. In the long run, all gains have to be pocketed by the owners of fixed factors. If all renters are identical, the only fixed factors are the houses, and all gains go to the house owners. If renters differ in their preferences, then you should think of an unusual preference for one town or the other as a "fixed factor", and such renters can either gain or lose (with a corresponding offset to the gains and losses accruing to the house owners). $\endgroup$ – Steven Landsburg Mar 15 '15 at 15:25

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