Can liquidity explain spatial dependence in real estate prices?

Spatial dependence is often seen as a problem in econometrics rather than economics. This study seeks to find an economic explanation for spatially correlated real estate prices. We posit spatial dependence as a process to discover price information from nearby property transactions. Weaker spatial dependence is expected when price information in the immediate vicinity is abundant. In the context of apartment buildings, in addition to the more commonly known horizontal dependence, there is also spatial dependence in the vertical dimension within the same building. Based on more than 18,000 transactions of highly homogeneous apartment units in Hong Kong, we find that liquidity (trading volume) of a building depresses horizontal spatial dependence but raises vertical spatial dependence. This does not only confirm the role of liquidity in the real estate price discovery process, but also questions the validity of constant spatial auto-correlation assumption adopted in many studies.link_to_OA_fulltex