SEEMS Seminar – Climate optimism in the market for coastal housing

Taco Prins (ASE, UvA) & Sezin Ekinci (ABS, UvA) will present their research in sustainability in the SEEMS seminar on March 24th, 2025.

‘Home equity is a significant part of homeowners’ wealth, so that flooding can cause homeowners to suffer large wealth losses. This risk is expected to rise due to climate change, including through sea level rise. However, neither future climate change nor its effect on the sea level are known precisely. Together with behavioural frictions, such as climate scepticism and inattention, this can cause anticipated and realised flood risk to diverge, even over a horizon of a few decades. Accordingly, many empirical studies have found coastal housing in certain locations to be overvalued, implying that possibly abrupt price corrections will have to occur.

This paper studies the economic implications of coastal house price overvaluation. In an established model of the housing market, we incorporate belief heterogeneity in the simplest possible way, by positing two types of households: one type which holds rational beliefs over future flood risk, consistent with the best available information, and another type which holds optimistic beliefs. In keeping with the empirical literature on the subject, we propose that repeated flood events eventually cause the disappearance of optimistic beliefs, and the alignment of both types’ beliefs in the long run.

In our framework, optimistic beliefs inefficiently delay migration away from flood-prone areas. Further, flood events wipe out relatively more home equity, because the correction in coastal house values must be added to the physical destruction of capital. The channels are mutually reinforcing in their effect on the economic cost of sea level rise.