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Housing Market Price Tier Movements in an Expansion and Collapse

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  • Steven Gjerstad

    ()
    (Economic Science Institute, Chapman University)

Abstract

The subprime mortgage crisis has done more damage to the financial system than any financial crisis since the depression. This paper examines the Federal Reserve’s expansionary monetary policy during the early part of this decade, the effect of that expansionary policy on mortgage market liquidity, the effects of that liquidity on housing price movements, and the way that those price movements contributed to the severity of the financial crisis. House prices increased most in the low-priced tier of the market during the expansion, which prompted lenders and investors in mortgage-backed securities to finance highly leveraged purchases in this segment of the market. But house prices also decline most in the low-priced tier during a contraction or collapse, among borrowers with inadequate assets and income to absorb the decline in their home values if forced to sell their homes. Consequently, their losses were transmitted into the financial sector, with an impact far more devastating than in any crisis since the depression. In order to address this structural vulnerability of the residential real estate market, several problems with incentives and information disclosure at almost every stage in the lending and securitization process need to be addressed, including the incentives of home buyers, loan originators, loan servicers, bond rating firms, investment banks, and credit enhancement providers. Alternatively, many of the problems with risk assessment may need to be transferred to investors, who have a clear incentive to gather information and assess risks, and can discipline lenders by directing capital to those lenders who adequately manage lending risks.

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File URL: http://www.chapman.edu/ESI/wp/Gjerstad_HPITiers2009_01.pdf
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Bibliographic Info

Paper provided by Chapman University, Economic Science Institute in its series Working Papers with number 09-01.

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Length: 34 pages
Date of creation: Jan 2009
Date of revision:
Handle: RePEc:chu:wpaper:09-01

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  1. Sven Rady & François Ortalo-Magné, 2001. "Housing Market Dynamics: On the Contribution of Income Shocks and Credit Constraints," CESifo Working Paper Series 470, CESifo Group Munich.
  2. Ben S. Bernanke, 1983. "Non-Monetary Effects of the Financial Crisis in the Propagation of the Great Depression," NBER Working Papers 1054, National Bureau of Economic Research, Inc.
  3. Ernest M. Fisher, 1950. "Changing Institutional Patterns Of Mortgage Lending," Journal of Finance, American Finance Association, American Finance Association, vol. 5(4), pages 307-315, December.
  4. Fran�ois Ortalo-Magné & Sven Rady, 2006. "Housing Market Dynamics: On the Contribution of Income Shocks and Credit Constraints ," Review of Economic Studies, Oxford University Press, vol. 73(2), pages 459-485.
  5. Kristopher S. Gerardi & Andreas Lehnert & Shane M. Sherlund & Paul S. Willen, 2009. "Making sense of the subprime crisis," Public Policy Discussion Paper, Federal Reserve Bank of Boston 09-1, Federal Reserve Bank of Boston.
  6. Case, Karl E & Shiller, Robert J, 1989. "The Efficiency of the Market for Single-Family Homes," American Economic Review, American Economic Association, American Economic Association, vol. 79(1), pages 125-37, March.
  7. Morris A. Davis & Andreas Lehnert & Robert F. Martin, 2008. "The Rent-Price Ratio For The Aggregate Stock Of Owner-Occupied Housing," Review of Income and Wealth, International Association for Research in Income and Wealth, vol. 54(2), pages 279-284, 06.
  8. David C. Wheelock, 2008. "The federal response to home mortgage distress: lessons from the Great Depression," Review, Federal Reserve Bank of St. Louis, issue May, pages 133-148.
  9. Balke, Nathan S & Gordon, Robert J, 1989. "The Estimation of Prewar Gross National Product: Methodology and New Evidence," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 97(1), pages 38-92, February.
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