The US housing market bust after 2006 drove a historic collapse in the employment share of young companies, according to research by Chicago Booth’s Steven J. Davis and University of Maryland’s John Haltiwanger. The share of private-sector workers employed by young companies (defined as less than 60 months old) dropped from 18 percent in 1987 to just 9 percent in 2014. It fell especially fast from 2006 to 2011.
To study the effects of housing markets on young companies and local economies, the researchers tracked data back to the early 1980s on young-company employment, housing prices, population growth, and cyclical conditions in US metropolitan statistical areas.
Housing cycles do not affect all MSAs equally. Consider two cities, differing only in that one is landlocked or otherwise restricts housing supply through regulation, while the other has a housing supply that’s elastic. An increase in demand for housing generates a larger run-up in housing prices and housing wealth in the landlocked city than in the less-constrained one.
The researchers use this idea in various ways to isolate shifts in local housing prices due to external forces. They then estimate and quantify the effects of housing price swings on young companies and local economies. Aggregating their estimates to the national level, they conclude that drops in housing prices largely drove the collapse of young companies during and after the Great Recession. While housing drops were the main factor behind the collapse, a pullback in bank lending played a secondary role, according to their analysis.
Housing prices affect local economies in part through what economists call consumption demand. When home prices fall, local homeowners feel less wealthy and spend less on locally supplied goods and services. This consumption-demand channel suggests that all companies, regardless of age, are affected similarly when there’s less demand for what they produce. And according to this view, the age of companies in a local industry does not affect the industry’s response to a local housing bust.
When Davis and Haltiwanger test whether this consumption-demand channel is the only channel in play, they find overwhelming statistical evidence that it’s not. Wealth and liquidity effects on business owners also play a part. Newer companies often tap into an owner’s personal housing wealth directly or as collateral for credit. When local housing prices fall, it becomes harder for young businesses to expand or stay afloat—and for new ones to start up.
The researchers also find that younger companies tend to hire younger and less-educated workers. Thus, the housing bust and 2008–09 financial crisis, by affecting not just the broader economy but in particular the fortunes of young companies, hurt these workers more.
Steven J. Davis and John Haltiwanger, “Dynamism Diminished: The Role of Housing Markets and Credit Conditions,” Working paper, January 2019.
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