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A Life-cycle Model with Housing, Portfolio Allocation, and Mortgage Financing

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Author Info
Joseph Nichols
Abstract

This paper presents a model developed to explain the life-cycle patterns in both homeownership and portfolio allocation, and the relationship between them, using a model of rational agents. Two key innovations are incorporated into this model. First, housing is explicitly modeled as both a consumption and investment good, as opposed to examining just one aspect in isolation from the other. Second, traditional mortgage contracts are also explicitly introduced into the model. A finite horizon life-cycle model including both of these innovations is then solved and calibrated using data from the Health and Retirement Survey. As a result, the model proves that the “over-investment” of housing is not inconsistent with the behavior of rational, forward-looking agents. The model is also able to capture the negative correlation between the housing share and risky asset share of portfolio. The results show how the desire to consume large homes contributes both to an increase in the portfolio share of housing and a decrease in the portfolio share of risky assets. This model demonstrates the close link between the housing “over-investment” and the stock “under-investment” puzzles

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Paper provided by Econometric Society in its series Econometric Society 2004 North American Winter Meetings with number 205.

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Date of creation: 11 Aug 2004
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Handle: RePEc:ecm:nawm04:205

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Related research
Keywords: housing portfolio allocation life cycle models mortgages

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Find related papers by JEL classification:
E21 - Macroeconomics and Monetary Economics - - Macroeconomics: Consumption, Saving, Production, Employment, and Investment - - - Consumption; Saving; Wealth
G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Mortgages

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    Other versions:
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  6. Sven Rady, 1998. "Housing Market Fluctuations in a Life-Cycle Economy with Credit Constraints," FMG Discussion Papers dp296, Financial Markets Group. [Downloadable!] (restricted)
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  12. Bertola, Giuseppe & Guiso, Luigi & Pistaferri, Luigi, 2002. "Uncertainty and Consumer Durables Adjustment," CEPR Discussion Papers 3332, C.E.P.R. Discussion Papers. [Downloadable!] (restricted)
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  13. Ermisch, John, 1996. "The Demand for Housing in Britain and Population Ageing: Microeconometric Evidence," Economica, London School of Economics and Political Science, vol. 63(251), pages 383-404, August. [Downloadable!] (restricted)
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  24. Genesove, David & Mayer, Christopher J, 1997. "Equity and Time to Sale in the Real Estate Market," American Economic Review, American Economic Association, vol. 87(3), pages 255-69, June. [Downloadable!] (restricted)
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  25. Henderson, J. Vernon & Ioannides, Yannis M., 1989. "Dynamic aspects of consumer decisions in housing markets," Journal of Urban Economics, Elsevier, vol. 26(2), pages 212-230, September. [Downloadable!] (restricted)
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    Other versions:
  27. Marjorie Flavin & Takashi Yamashita, 1998. "Owner-Occupied Housing and the Composition of the Household Portfolio Over the Life-Cycle," NBER Working Papers 6389, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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