Home Prices and Global Imbalances: Which Drives Which?

Many countries which experienced rising home prices (often described as bubbles) over the 2000s decade also ran large trade deficits. Some early research on the topic suggested that capital from trade surplus countries lowered borrowing costs and boosted housing values. In this scenario, the current account deficits and high home prices in bubble countries were driven in substantial part by capital flows from abroad. In contrast, some theoretical and empirical work suggests domestic factors‐rising home prices‐stimulate borrowing, which leads to current account deficits. In this more recent telling, it is domestic changes in bubble countries‐the increase in home values‐that drive trade imbalances, rather than the reverse. In this study, we investigate the interaction of both the current account and home prices for nine nations, with data spanning a minimum of the mid‐1990s to 2013, with the objective of determining whether external factors impact domestic housing markets. We use vector autoregressions and find strong evidence that the current account exerts a palpable effect on home values, even controlling for reverse causality and the effects of other variables.