Sorting Over Wildfire Risk Information

• In Event: Climate Shocks and the Reallocation of Households and Housing

Abstract

We study how climate risk information affects housing market outcomes through its impact on household risk perceptions and residential sorting decisions. We study the impact of wildfire risk information in the California residential real estate market, where wildfire risk and its consequences on the homeowners insurance market have become key factors driving households’ housing market decisions. We develop and estimate a structural model of neighborhood choice in which households have heterogeneous preferences over housing prices and wildfire risk and may hold biased perceptions of their risk exposure. We use the introduction of a wildfire risk disclosure policy in California as an information shock that increases the salience of wildfire risk to homebuyers without changing underlying risk exposure to identify how information updates beliefs and alters location choices in equilibrium. We find that, prior to disclosure, households substantially underestimate wildfire risk, discounting true risk levels by about 60%. Correcting these misperceptions leads to declines in demand and prices in high-risk areas and induces systematic re-sorting. More risk averse, mortgage-financed buyers shift away, while more price sensitive and less risk averse buyers-particularly cash financed buyers and second home purchasers-move in. As a result, disclosure reallocates wildfire exposure across households rather than reducing it overall. Our results highlight the impact that a purely informational intervention can have on both the efficiency and distributional consequences of wildfire risk exposure. In terms of efficiency, the risk disclosure policy results in a re-allocation of wildfire risk exposure towards households that are less risk averse, which is desirable from an efficiency standpoint. Additionally, the households that sort into the higher risk areas after the risk disclosure policy is introduced tend to be less disadvantaged, which stands in contrast to previous results in the literature that find more disadvantaged households sort into areas with higher levels of flood risk.

Author

• Michael Fogarty, University of Wisconsin-Madison
  Presenting Author