Extrapolative Households and Strategic Firms: Evidence from China’s Land and Housing Market

Abstract

This paper examines households’ extrapolative behaviors and developers’ strategic responses in China’s land and housing markets. Our stylized model predicts that when households extrapolate in the housing market, developers with nearby land holdings strategically bid higher, anticipating rising housing prices to boost the value of their existing stock. Using the exogenous timing of land auctions, we show that higher land premiums increase transaction prices and volumes of nearby houses. Furthermore, developers with nearby land stocks consistently pay higher premiums in the land auctions. We exploit a policy reform and implement various tests to support the hypothesis that developers strategically influence homebuyers’ expectations.