Bringing Real Estate Brokerage into the 21st Century

Robert Hahn and
Robert Hahn
Robert Hahn Director of Economics - Smith School of Enterprise and the Environment at the University of Oxford, Former Brookings Expert
Robert E. Litan

October 15, 2005

For most Americans, a house is the largest single purchase they will ever make. To manage the transaction, three-quarters of these buyers will engage the services of a licensed real estate professional. It should be no surprise, then, that residential real estate brokerage is a very big business: one oft-cited estimate puts the industry’s annual revenues around $60 billion.

Nor, with that much money at stake, should it be surprising that the organization of the industry is being challenged by new sources of competition or that antitrust regulators are zeroing in on what they view as anti-competitive practices. Discount brokers, operating on and off the Internet, have begun to offer cheaper alternatives to the traditional commission of 5 or 6 percent.

To understand the economics underlying this controversy, it’s critical to understand what services a typical agent provides. Real estate agents are really information brokers. They are hired by those who want to sell their house to get the best price because sellers believe that agents know the market and can get them a better deal.

The Internet has dramatically reduced the advantages of all information brokers – travel agents, stock brokers, retailers, and yes real estate agents. In every other market, the Net has led to lower prices and fees precisely for this reason. Because consumers have instantaneous and essentially costless access to the best information, the value added by brokers has largely disappeared. This is good for consumers. It gives them better choices and lower prices.

Real estate organizations are using a variety of means to prevent this from happening in their market, claiming all the while that they are doing the very opposite – protecting the consumer from unscrupulous agents. Who are these shady types – discount brokers who offer the same services, but at lower prices; brokers who offer “a la carte” services, which allow consumers to pick the ones they want, again at lower prices; and new businesses that give consumers rebates for referrals to cheaper agents.

Notice the themes here: Lower prices and more consumer choice. Understandably, higher cost and higher priced agents don’t want to compete against cheaper agents or a-la-carte services. And they are doing their best to act on this intention. They have gone to state legislatures to get them ban a la carte brokerage and to ban consumer rebates. They have effectively stopped, for now, attempts by federal banking agencies to allow banks to own separate affiliates to sell real estate, as they have already been allowed to do with insurance. And realtors also have tried to stop Internet based brokers from gaining access to multiple listing services – actions that recently led to the Department of Justice filing a lawsuit against the National Association of Realtors.

Still, in some ways, the market appears to be working as it should be. In the last few years, more people have been buying and selling their homes on the Internet, using the likes of ZipRealty, Yahoo! or Craigslist. Other new bricks-and-mortar competitors, such as Foxtons and Help-U-Sell, have shown that good service can be provided at lower prices.

But healthy innovation, whatever form it takes, cannot follow its natural course when politically powerful real estate bodies are able to get state legislatures to pass rules restricting competition. The Department of Justice has taken note, filing one antitrust suit aimed at getting rid of Kentucky’s anti-rebate provision, and a second aimed at preventing the National Association of Realtors from using its power to prevent Internet-based competitors from gaining access to the Multiple Listing Services.

Congress may also want to consider preempting these anti-consumer laws. Realtors no doubt would claim that this violates “states’ rights.” But in a country where millions of people move across state lines every year, and where the Internet itself is proof that real estate markets attract buyers from everywhere, Congress would appear to have the authority under the Interstate Commerce clause to overturn these anti-competitive state laws. It should eventually do the same with outdated laws that inhibit banks from getting into the business too.

Over time, more realtors are likely to switch from playing political hardball to competing on the merits – by offering a more attractive menu of services at the lowest possible price. Those that do so earlier stand the best chance of surviving well into the 21st century. Those that resist change eventually will be undone by it.

The Internet is a like a giant tidal wave, which consumers are riding to lower costs and better deals. Brokers who try to hold back the wave are like the proverbial Dutch boy trying to plug leaks in a dike with his fingers. Eventually, the realtors will run out of fingers.