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Testing the cointegration of house and stock prices in Finland

Author

Listed:
  • Kari Takala

    (Bank of Finland)

  • Pekka Pere

    (The Research Institute of the Finnish Economy)

Abstract

This paper looks at the efficiency of asset markets and pricing rules with regard to house and stock markets in Finland. House and stock prices are found to have unit roots, which is a necessary condition for efficient markets. However, asset prices are not pure random walks, but instead unit root processes. The unit root part is supposed to reflect the changes in fundamentals, and the error component reflects short run deviations from the market equilibrium. Evidence on cointegration between asset prices is found. Based on the hypothesis of cointegration, an error correction model is estimated. Deviations from the long run market equilibrium can be used to improve predictions of stock and house prices, e.g. house price predictions can be improved on average by using lagged changes in the stock index and the equilibrium error as a useful indicator of disequilibrium in the cointegrated markets. The presence of such an error correction term in itself shows that asset markets are not fully efficient. Granger causality between these two aggregate asset prices runs from the volatile stock market to the housing market rather than the opposite way. During the sample period the Finnish money market went through a gradual liberalization process that revealed an imbalance in the asset market caused partly by rationing in the rental housing market. In addition, tax incentives for owner occupied housing and relaxed liquidity constraints significantly increased the demand for houses during the period 1987-89. Real bank lending proved to be a significant predictor for asset prices, especially for real house prices. Error correction models with additional variables due to liquidity constraints, taxation and demand for assets were used to explain the house prices.

Suggested Citation

  • Kari Takala & Pekka Pere, 1991. "Testing the cointegration of house and stock prices in Finland," Finnish Economic Papers, Finnish Economic Association, vol. 4(1), pages 33-51, Spring.
  • Handle: RePEc:fep:journl:v:4:y:1991:i:1:p:33-51
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    References listed on IDEAS

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    2. Michener, Ronald W, 1982. "Variance Bounds in a Simple Model of Asset Pricing," Journal of Political Economy, University of Chicago Press, vol. 90(1), pages 166-175, February.
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    Citations

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    Cited by:

    1. Berg, Nathan & Gu, Anthony Y. & Lien, Donald, 2007. "Dynamic correlation: A tool hedging house-price risk?," MPRA Paper 26368, University Library of Munich, Germany.
    2. Oikarinen, Elias, 2006. "Price Linkages between Stock, Bond and Housing Markets - Evidence from Finnish Data," Discussion Papers 1004, The Research Institute of the Finnish Economy.
    3. Trofimov, Ivan D. & Md. Aris, Nazaria & C. D. Xuan, Dickson, 2018. "Macroeconomic and demographic determinants of residential property prices in Malaysia," MPRA Paper 85819, University Library of Munich, Germany.
    4. Elias Oikarinen, 2010. "Foreign Ownership of Stocks and Long-run Interdependence Between National Housing and Stock Markets—Evidence from Finnish Data," The Journal of Real Estate Finance and Economics, Springer, vol. 41(4), pages 486-509, November.
    5. Oikarinen, Elias, 2005. "Is Housing Overvalued in the Helsinki Metropolitan Area?," Discussion Papers 992, The Research Institute of the Finnish Economy.

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