Antitrust Implications of Home Seller Outcomes when using Flat-Fee

49 Pages·2008·0.44 MB·English

Antitrust Implications of Home Seller Outcomes when
*
using Flat-Fee Real Estate Agents

Steven D. Levitt
University of Chicago and NBER
[email protected]

and

Chad Syverson
University of Chicago and NBER
[email protected]

January 2008

* This paper was prepared for the Brookings-Wharton Conference on Urban Affairs, 2007, and will be published in
the Brookings-Wharton Papers on Urban Affairs 2008 by the Brookings Institution Press. We thank Gary Burtless,
Fernando Ferreira, Aviv Nevo, Janet Rothenberg Pack, and Canice Prendergast for helpful discussions. Marina
Niessner and Margaret Triyana provided excellent research assistance. Correspondence can be addressed to either
of the authors at Department of Economics, University of Chicago, 1126 E. 59th Street, Chicago, IL 60637.
Abstract

In stark contrast to other agency-based consumer service industries, real estate agents have been
remarkably effective at maintaining margins and market share. One possible explanation for the
success of real estate agents is collusion, and consequently the industry is facing regulator
scrutiny. In this paper we first consider the mechanisms through which collusion might be
sustained. Although the industry’s low concentration makes collusion harder to support, the
involvement of both a seller’s agent and a buyer’s agent on a given home sale helps facilitate
collusion. Selling agents need buyer’s agents to deliver customers. Not only can full-
commission agents collude against discount/flat-fee agents by steering their buyers away from
such listings, they also can use the same punishment on other full-commission agents who
cooperate with discount agents. Using data from three markets, we find that houses listed using
flat-fee agents have longer expected times-to-sale than observably similar houses sold by full-
commission agents, but ultimately sell for similar prices. These results are consistent with
allegations that traditional agents steer clients away from flat-fee-listed homes, although we
consider other possible explanations. We calculate that, even taking into account the longer
expected time to sale and the increased effort of the homeowner, sellers who use flat-fee agents
saved an average of over $5,000 compared to hiring a full-commission agent. This casts doubt
on the necessity of minimum-service laws that exist in several states and are being considered in
others.
I. Introduction
The last decade has not been kind to industries built on traditional models for providing
agent-driven services to consumers. Between 1997 and 2006, employment in travel agencies fell
by over 35 percent. As late as the mid-1990s, commissions to trade a 100-share block of equity
stock ranged from $75-150, but have now dropped below $25 even at full-service brokerages and
are lower still at online-only trade sites. The share of automobile insurance policies written
directly to customers (thus bypassing insurance agents) rose by almost 70 percent between 1997
and 2005. These changes were not driven by secular declines in demand for the underlying
services that the agents brokered. Domestic revenue-passenger enplanements rose 24 percent
over the past decade. Equities trading volume is at near-record levels. The total dollar value of
auto insurance policies written rose by almost 50 percent between 1997 and 2005.1
The diffusion of the internet and other associated information-technology-based
commerce platforms has been cited as a likely explanation for these contractions. Whether by
making it easier for consumers to find lower-cost agents, or allowing consumers to bypass agents
altogether by creating cheaper distribution mechanisms (aka disintermediation), these
technologies have been underlying drivers of difficulties for agents in these industries. In travel
agency, the internet allowed airlines a low-cost means of distributing tickets via their own online
sites or travel search engines, leading airlines to discontinue ticket commission payments.
Commission revenue fell from approximately $12 billion in 1997—60 percent of travel agency
revenues—to essentially zero by the end of 2002 (Global Aviation Associates, 2002). In
securities brokerage, e-commerce facilitated the entry of online trading centers like E*Trade and
the growth of discount brokerages with tech-heavy distribution platforms like Charles Schwab.
In insurance, the internet lowered consumers’ costs of obtaining multiple quotes and made the
direct-policy-writing business model (employed by GEICO, for example) easier. Whatever the
specific mechanism, agency industries saw their consumers become less reliant on them to
facilitate matches to the final service—airline tickets, stock trades, or insurance policies in the
examples above—presumably raising the utility of consumers of these services in the process.

1 Travel agency employment is from the Bureau of Labor Statistics and enplanements from the Bureau of
Transportation Statistics. Stock trade commissions data are from Bakos et al. (2005). Direct insurance sales figures
are from Flannagan and Yates (2001) and Flannagan and Aartrijk (2007).
1
Residential real estate agents are a notable exception to this trend. Membership in the
National Association of Realtors (NAR) nearly doubled between 1997 and 2006. Bureau of
Labor Statistics data on employment of real estate agents (more broadly defined than NAR
membership) shows a similar increase. Annual new and existing home sales increased almost 50
percent from 1997 to 2006, and the median sales price rose 42 percent. Although commission
rates appear to have declined slightly in the past five years in some surveys, the median
commission fees (the rate multiplied by the sales price) rose 26 percent over 1997-2005 due to
rising sales prices.2
Why has the real estate agent industry been so much more successful in preserving its
position than many other agent-based consumer industries? One explanation is that the same
electronic commerce innovations that other sectors saw were not present in real estate. Yet this
is inconsistent with even casual observation. Consumers’ access to residential real estate
information has expanded greatly as those involved in the market have turned to the internet in
multiple ways. A large fraction of homes for sale have internet listing sites, complete with
detailed house specifications, virtual tours, and neighborhood profiles. Potential buyers can
easily peruse dozens or even hundreds of listings, eliminating less appealing possibilities without
ever taking the time to visit a house. Homeowners (selling, buying, or simply holding) are now
able to review public records on house sales transactions, ownership histories, and taxation
patterns, to name just a few. Indeed, a 2006 survey (National Association of Realtors, 2006)
indicated that 80 percent of recent buyers had used the internet in their home-buying process (up
from 2 percent in 1997), and 24 percent first found the home they eventually bought on the
internet.
A second possibility is that even though substantial electronic commerce innovations
have taken place in the industry, housing has attributes that keeps these innovations from having
as much of an impact as in the travel services, stock brokerage, and insurance markets. Namely,
housing is a big-ticket item and very heterogeneous; perhaps these features preserve an important
role for tightly-knit agent-client relationships. Yet Emre, Hortaçsu, and Syverson (2007) have
shown that e-commerce has impacted the structure of the new auto sales industry, and autos are
similarly big-ticket (though of course not as big as housing), heterogeneous goods. Thus while

2 Home sales are from the NAR and the Census Bureau. Sales price data from the Department of Housing and
Urban Development, and median commission from Federal Trade Commission and U.S. Department of Justice
(2007).
2
we cannot definitively rule out that this product attribute distinction explains the differences
between real estate brokerage and other agency industries, it is not an obvious explanation for
them either.3
A third explanation for the relative strength of real estate agency is that, compared to
other agency-based industries, real estate was initially more competitive. If a) commissions have
always reflected marginal costs, b) those costs have been stable or rising, and c) agents continue
to provide valuable services to customers, then there would be no reason for real estate agent
commissions to fall. Certainly entry into the industry is easy, given the low licensing barriers
and industry’s ability to accommodate part time agents. This satisfies one condition of a
competitive market. However, as Hsieh and Moretti (2003) document, the fact that commission
rates exhibit so little variation across homes within or across markets implies that the marginal
cost of selling a home must rise proportionately with the home’s market value. This strikes
many observers (see for example Federal Trade Commission and U.S. Department of Justice,
2007, and the citations therein) as implausible.4
A fourth possibility is collusion on the part of real estate agents. Such behavior has been
alleged in the recent suit brought by the Department of Justice (DoJ) against the National
Association of Realtors for their Virtual Office Website policy. It is also consistent with agents’
efforts to institute and preserve state laws that either outlaw commission rebates (effectively
making it illegal for agents to lower the price they charge for their services) or institute
minimum-service requirements (forcing clients who would prefer low-cost, low-service real
estate services to pay for more services than they wish). Finally, it is consistent with the alleged
retaliatory conduct of traditional agents toward agents who operate a discount (e.g., flat-fee or
rebate-based) agency model.

3 One piece of evidence against this explanation is the fact that in two of the three markets we examine in this paper
(Cook County and Sacramento), the share of home listings done using flat-fee agents is higher in zip codes in which
the housing stock is more heterogeneous. If heterogeneity increases the value of the agent, then the opposite pattern
would be expected. In the third market (Santa Cruz) no clear relationship emerges.
4 The Hsieh-Moretti point is actually more subtle. When commission rates are fixed (or nearly so) and there is free
entry of agents into the market, the cost to a given agent of selling a home necessarily rises with overall house prices
in the market, because more agents vie for each listing. However, this cost increase arises because agents have to
work harder to obtain each listing, not because it becomes harder to sell a home once a listing contract is signed. It
is this latter cost (what one might term the “technological cost” of selling a home) that seems unlikely to be
proportional to the sales price, even though that is what would be implied by the competitive-market model.
3
If collusion does explain the difference between residential real estate and the harder-hit
agency industries, this begs the question of which factors facilitate collusion in real estate that
are not present in the other agent-based business. An obvious difference is that most real estate
transactions require the cooperative efforts of two agents, not one as in travel agency, stock
brokerage, and insurance sales. The fact that a competitor’s cooperation is necessary to conduct
business opens an opportunity for punishment regimes that support collusion.
To see how, consider a travel agent who cuts her fees with the hope of gaining extra
business. If a larger potential clientele comes through the door as a result, she does not need her
competitor to sign off on the new business for their transactions to go through. This makes her
unilateral incentive to break from the collusive regime (tacit or explicit) all the more tempting.
Any drop in costs, then, is likely to be passed through to consumers, at the expense of the higher-
cost operations in the industry.
The necessity of cooperation in real estate makes things different in that industry. If an
agent deviates from a collusive regime, other agents seeking to preserve collusion can punish
that agent by withholding cooperation. This can make transacting as a deviator prohibitively
costly. If a buyer’s agent offers clients low-cost access to online home listings, for example,
other agents can refuse to make their own listings available through such channels. Or, if a
seller’s agent cuts her commission rate, other agents may be able to steer their potential buyers
away from her listed homes. These examples are more than theoretical possibilities; the former
scenario is essentially the key anti-competitive activity alleged in the DoJ lawsuit, and
allegations of the latter have also led to investigations, though evidence to this point has been
insufficient to lead to a formal complaint (Federal Trade Commission and U.S. DoJ, 2007).
The ability of agents in this industry to engage in such immediate and targeted
retaliations against discounting agents—and perhaps just as importantly, their ability to retaliate
in turn against any non-discount agents who fail themselves to punish discounters when the
opportunity arises—that can sustain a collusive equilibrium.
In this paper, we explore a range of issues related to allegations of anti-trust violations in
residential real estate, with a particular eye toward the performance of discount agents (we will
often refer to them as flat-fee agents), who have been the targets of the alleged illegal behavior.
We begin in Section II by reviewing the specific antitrust concerns that have arisen in public
policy debates. Section III considers what economic theory says about the successfulness of a
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collusive strategy in an industry where cooperation of other industry operators is required to
facilitate transactions (or at least greatly increases the probability of a transaction).
We then in Sections IV and V empirically evaluate the question of whether discount
agents provide a product to customers that matches the value of traditional full-service agents.
Using data from three real estate markets (Cook County, Santa Cruz County, and Sacramento),
we find evidence that houses sold by flat-fee agents fetch the same prices as observably similar
houses sold by full-commission agents. However, expected days-on-market are substantially
higher for flat-fee homes relative to those listed by full-commission agents, both because of a
lower probability of sale and a longer time-on-market conditional on a sale taking place. These
results are consistent with allegations of traditional agents “steering” their own clients away from
flat-fee-listed homes, though we consider other possible explanations. The results are also
notably similar to those in Hendel, Nevo, and Ortalo-Magné (2007), who find that homeowners
who use a for-sale-by-owner (FSBO) website—not unlike many discount-agent platforms—
obtain prices that are similar to (in fact slightly higher than) those using full-commission agents,
but that FSBO also involves a lower probability of selling and longer time-on-market. Using the
market outcome differences we estimate, we calculate that homeowners in our data are able to
sell their homes at a considerably lower cost using discount agents, even taking into account the
longer expected times-to-sale and the selling costs that they must bear themselves (marketing,
hosting showings, etc.) when using a flat-fee agent.

II. Antitrust Considerations in the Residential Real Estate Industry
The DoJ lawsuit has brought antitrust concerns to the forefront of economic debate about
the industry. Even so, the specific allegations in the complaint comprise only part of the
potentially collusive activities that have concerned policymakers. We provide a brief overview
of these concerns in this section.5
The central issue in the DoJ antitrust suit against the National Association of Realtors is
the Association’s Virtual Office Website (VOW) policy. According to the NAR website, VOWs
are “Internet sites operated by MLS participants through which they...work with clients and
customers in cyberspace in ways similar to how real estate professionals interact with clients and

5 Much of what we cover here is discussed in greater detail in Federal Trade Commission and U.S. DoJ (2007).
5
customers in a ‘brick and mortar’ environment.”6 Essentially, VOWs are designed to allow
customers MLS access without having to come to the agent’s office. One discount brokerage
model charges customers a flat fee for access to the VOW, allowing them to search MLS listings
without the direct intercession of the agent. This saves the agent time and expense, allowing
them to provide the service at a relatively low price, and offers more flexibility in the search
process to those consumers willing to forgo extra help from an agent. Some internet-based
agents also sell their VOW-searching clients as “leads” to sellers’ agents for a fee paid
contingent on the client buying a selling agent’s listing.
The NAR adopted a policy that would let agents choose to withhold their listings from
particular agents’ VOWs (a “selective opt-out”) or all VOWs (a “blanket opt-out”). The DoJ’s
concern centers on the potential for traditional agents to withhold opportunities for trade from
lower-cost VOW-based discount agency models. Agents could, especially if coordination is
possible, withhold a large fraction of the houses listed for sale on the MLS from flat-fee agents’
VOWs. This would render their low-cost option essentially valueless to potential home buyers.
While the selective opt-out might seem to be the most powerful tool for achieving this goal,
since it would allow traditional agents to target discount agents specifically, the blanket opt-out
essentially fills the same role. Because agents themselves have direct access to the full MLS
(including those listings other agents have withheld from VOWs), traditional agents can still
transmit these listings to their clients along their traditional, largely in-person transmission lines.
Discount agents, on the other hand, suffer because their model is built on cost reductions gained
through using the VOW to limit intensive in-office interactions with clients. This is not possible
with a VOW that is only a faint shadow of the local MLS.7
Aside from those actions that led to the federal case, real estate industry groups have also
been encouraging state-level policies that have plausibly anticompetitive effects. (State
legislation is typically immune from federal antitrust enforcement.) Ten states have bans on
agents offering rebates to their clients. These are essentially out-and-out bans on price cutting.

6 http://www.realtor.org/mempolweb.nsf/pages/VOWQandA
7 On the day the DoJ filed the initial complaint, the NAR modified its VOW policy to remove the selective opt-out
option, claiming that they had removed the provision of the policy that was at issue in the antitrust action. Some
months later, the NAR filed a motion to dismiss the DoJ’s complaint. The DoJ, which had in the meantime
responded with an amended complaint responding to the NAR’s modified policy, argued in both the amended
complaint and the response to the motion that the blanket opt-out was anti-competitive in a similar manner to the
selective opt-out. The NAR motion was denied in November 2006.
6
Furthermore, laws outlining minimum service requirements are currently in force in eight states
and being considered in others. These statutes enumerate a set of services that all real estate
agents must provide to clients. While their proponents argue these provisions protect consumers,
the FTC, the DoJ, and consumer groups like the Consumer Federation of America have all
opposed their passage. Minimum service requirements make low-cost agency models more
difficult, or even impossible, to sustain. For example, the common discount agency model where
the agent simply lists the client’s home on the MLS for a flat fee and offers no further service
could easily be interpreted as illegal under the new requirements. Outlawing low-cost, low-
service models both reduces options available to consumers (the low end of the vertical product
space distribution is essentially shut down) and reduces the competition traditional brokers face
by raising the costs of their low-cost rivals.
In addition to these codified sources of antitrust concern, the industry has had a history of
allegations of discount agents being targeted for reprisals from other agents, ranging from petty
harassment or slander to “steering” buyers away from discount seller agents’ listings. While
such allegations have led to antitrust investigations—they were a major impetus for the 1983
FTC examination of the industry (FTC, 1983) as well as ones more recently—evidence of
sufficient coordination has not yet been found (a single firm’s refusal to work with another
particular firm is typically not under the purview of competition regulation). Nonetheless,
allegations of such activities are not uncommon (see, for example, Birger and Caplin, 2004), and
these possibilities remain a concern for antitrust authorities.
One issue that has puzzled observers (e.g., Levitt and Syverson, forthcoming) is how a
collusive equilibrium, if it exists, could be maintained in the industry. Legal barriers to
competition can certainly facilitate collusion in areas where they are in force. Given the relative
uniformity across markets of outcomes like commission rates, though, it seems that other
collusion-supporting forces would also have to be at play. The puzzle arises because the industry
has many firms, even within (most) metropolitan areas. Economic theory suggests that the
difficulty of sustaining collusion grows with the number of actors (e.g., Tirole, 1987). While this
is not a universal prediction (Brock and Sheinkman, 1985), it has been borne out in experimental
studies (e.g., Isaac, Ramey, and Williams, 1984; and List, 2007).
Again, the answer here may lie in the fact that competitors’ cooperation is needed in
facilitating most transactions in the industry. In typical models of collusion, firms interact in the
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market in the standard way—their choices affect the payouts and therefore the decisions of their
competitors. Given a competitor’s decision, however, exchange takes place at the set terms
without requiring the imprimatur of other firms in the industry. They can take retaliatory actions
in the future, of course, but these too only affect the environment in which the deviating
competitor operates and do not directly impact its transactions. In real estate, however, the fact
that collusive firms may have to cooperate with any deviating firm for it to even engage in a
transaction can be a powerful tool for preserving collusive behavior. As opposed to the
traditional tradeoff of a collusive firm considering deviating—i.e., pricing low to enjoy a gain
today at the expense of likely punishment in the future—a world were competitors must
cooperate in transactions can keep a price cut from leading to any extra sales.

III. Collusion and Cooperating Competitors: Theoretical Framework
In this section, we consider in more detail what economic theory suggests are the most
important factors in supporting a collusive outcome in residential real estate agency.
Sustaining collusion is, by its nature, a dynamic process. In a static world, individual
colluders typically have an incentive to deviate from collusive action, since they can generally
raise short-term revenues and profits by charging a lower price than their competitors. To make
collusion possible, dynamic incentives must counteract this short-term gain. These typically
involve the threat of the loss of future rents from preserving collusion for firms that deviate to
earn short-term gains. Future losses are caused either because colluding firms passively revert to
a more competitive equilibrium, or because colluders actively retaliate against the deviator.
Whether or not collusion can be sustained in equilibrium depends on the size of the short-term
gain from deviating relative to the long-term loss from the breakdown in collusion.
An extra complication is involved when firms have different costs (Vives, 1999). In this
case, firms will have different preferences over what the collusive price should be. Firms with
lower costs will want a lower price. If cost asymmetries are large enough, low-cost firms may
prefer to eschew collusion altogether, since in the competitive regime they may be able to drive
out higher-cost firms from the market, or because the costs of administering collusive payouts
among asymmetric firms outweigh any rents earned.
We assume in our analysis here that the cost differences between flat-fee and traditional
agents are large enough that the discount agents would prefer the competitive-market outcome.
8