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The dynamics of the housing market prices and the business cycle: a VAR analysis for the european monetary union

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  • Cinquegrana, Giuseppe

Abstract

Abstract The role of wealth as a determinant of household consumption choices has been thoroughly analysed by economic theory both from macro and micro perspectives; for example, the permanent life-cycle theory links long-run consumption not only to disposable income but also to the net wealth owned by each consumer over his entire life. The components of each consumer’s wealth are real and financial assets: the latter ones are diversified in deposits, securities, equities and investment funds shares according the different risk profile of each economic agent, while the first ones mainly consist of dwellings. In the short run the prices of financial assets are generally more volatile than those of the dwellings, since financial markets, according the efficiency market theory, (see Fama, 1970), include very quickly all the information affecting the value of a given asset. But in the long-run also housing prices present huge upward and downward shifts; such dynamics reflect the different information which have been imbedded in the housing market in the long-time. The high volatility of the dwellings’ prices in the long-run can create bubbles in the housing market, and when they burst they can potentially cause huge losses to each household in terms of her net wealth, with negative consequences both on her consumption planning and investment choices. In a macroeconomic framework these combined effects negatively push on aggregate demand with a huge shock to Gross Domestic Product (GDP) and on the business cycle of a country, increasing unemployment. Moreover, bigger is the size of the GDP of the country and larger is the correlation among the financial markets of each world area, larger can be the final impact on the employment. In this paper we focus on the literature that studies the relationship between the housing market prices and the business cycle and then we analyze with a Vector Autoregressive model (VAR) and a Vector Error Correction model (VEC) this relationship in the Euro Area on the supply side. The data source is the Euro Area Statistics of the Monthly Bulletin-European Central Bank and the variables utilized are the quarterly growth rate of the Residential Property Prices and the quarterly growth rate of the Employment for the period 1981:Q1 – 2010:Q4. VAR and VEC models have been estimated by two lags for the two variables considered. The impulse response function according the Cholesky factorized decomposition points out that the response to an innovation in the quarterly growth rate of the Employment is persistent for the quarterly growth rate of the Residential Property Prices.. In particular in the VEC model the response of the Employment to the shock in Residential Property Prices becomes persistent after six quarters. This last outcome confirms that huge upward or downward movements in the housing market prices affect the business cycle, in particular a fall or an high increase in the value of the dwellings determine a multiplied effect in the same direction in the employment in the Euro Area.

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Bibliographic Info

Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 39875.

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Date of creation: Dec 2011
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Handle: RePEc:pra:mprapa:39875

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Related research

Keywords: Housing Market Prices; Volatility; Financial Markets; Business Cycle; VAR;

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References

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  1. Andra C. Ghent & Michael T. Owyang, 2009. "Is housing the business cycle? evidence from U.S. cities," Working Papers 2009-007, Federal Reserve Bank of St. Louis.
  2. Poterba, James M, 1984. "Tax Subsidies to Owner-occupied Housing: An Asset-Market Approach," The Quarterly Journal of Economics, MIT Press, vol. 99(4), pages 729-52, November.
  3. Dan Andrews & Aida Caldera Sánchez & Åsa Johansson, 2011. "Housing Markets and Structural Policies in OECD Countries," OECD Economics Department Working Papers 836, OECD Publishing.
  4. Luigi Cannari & Francesco Nucci & Paolo Sestito, 2000. "Geographic labour mobility and the cost of housing: evidence from Italy," Applied Economics, Taylor & Francis Journals, vol. 32(14), pages 1899-1906.
  5. Meen, Geoffrey, 2002. "The Time-Series Behavior of House Prices: A Transatlantic Divide?," Journal of Housing Economics, Elsevier, vol. 11(1), pages 1-23, March.
  6. John D. Benjamin & Peter Chinloy & G. Donald Jud, 2004. "Real Estate Versus Financial Wealth in Consumption," The Journal of Real Estate Finance and Economics, Springer, vol. 29(3), pages 341-354, November.
  7. Fama, Eugene F, 1970. "Efficient Capital Markets: A Review of Theory and Empirical Work," Journal of Finance, American Finance Association, vol. 25(2), pages 383-417, May.
  8. Christopher D. Carroll & Misuzu Otsuka & Jiri Slacalek, 2011. "How Large Are Housing and Financial Wealth Effects? A New Approach," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 43(1), pages 55-79, 02.
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Cited by:
  1. Goodness C. Aye & Mehmet Balcilar & Adel Bosch & Rangan Gupta, 2013. "Housing and the Business Cycle in South Africa," Working Papers 201323, University of Pretoria, Department of Economics.

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