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Heterogeneous Beliefs and Housing-Market Boom-Bust Cycles in a Small Open Economy

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Author Info

  • Hajime Tomura

Abstract

This paper introduces heterogeneous beliefs among households in a small open economy model for the Canadian economy. The model suggests that simultaneous boom-bust cycles in house prices, output, investment, consumption and hours worked emerge when credit-constrained mortgage borrowers expect that future house prices will rise and this expectation is neither shared by savers nor realized ex-post. With sticky prices and a standard monetary policy rule, the model shows that the nominal policy interest rate and the CPI inflation rate decline during housing booms and rise as house prices fall. These results replicate the stylized features of housing-market boom-bust cycles in industrialized countries. Policy experiments demonstrate that stronger policy responses to inflation amplify housing-market boom-bust cycles. Also, higher loan-to-value ratios amplify housing-market boom-bust cycles by encouraging speculative housing investments by mortgage borrowers during housing booms and increasing liquidation of housing collateral during housing busts.

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Bibliographic Info

Paper provided by Bank of Canada in its series Working Papers with number 09-15.

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Length: 58 pages
Date of creation: 2009
Date of revision:
Handle: RePEc:bca:bocawp:09-15

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Related research

Keywords: Credit and credit aggregates; Financial stability; Inflation targets;

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Citations

Blog mentions

As found by EconAcademics.org, the blog aggregator for Economics research:
  1. Housing market boom-bust cycles and monetary policy
    by Economic Logician in Economic Logic on 2009-06-30 08:12:00
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Cited by:
  1. Badarinza, Cristian & Buchmann, Marco, 2011. "Macroeconomic vulnerability and disagreement in expectations," Working Paper Series 1407, European Central Bank.

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  1. Economic Logic blog

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