We extend the research in the Law and finance literature to the housing market. Legal systems that provide investor protection may facilitate investment, the development of markets, and foster exchange and transactions. However private contracts, private enforcement, or reputation may provide substitutes to inadequate government protection. Moreover market development may naturally generate increasing demand for investor protection and improvements in the law: existing laws might not matter for future market development. Therefore, the extent to which regulations matter for market development is an empirical issue. Using the data on rental market regulation provided by Djankov, Laporta, Lopez de Silanes, and Shleifer (2002), we show that regulations unfavorable to investors in rental properties hamper the development of the rental market in a cross-section of countries. We use an IV strategy to argue that this association is not the result of reverse causation from a developed rental market to more investor-protective regulations. The results provide complementary evidence on the importance of regulations for the development of financial and other markets.
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