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House Price Dynamics: Fundamentals and Expectations

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  • Eleonora Granziera
  • Sharon Kozicki

Abstract

We investigate whether expectations that are not fully rational have the potential to explain the evolution of house prices and the price-to-rent ratio in the United States. First,a Lucas type asset-pricing model solved under rational expectations is used to derive a fundamental value for house prices and the price-rent ratio. Although the model can explain the sample average of the price-rent ratio, it does not generate the volatility and persistence observed in the data. Then, we consider an intrinsic bubble model and two models of extrapolative expectations developed by Lansing (2006, 2010) in applications to stock prices: one that features a constant extrapolation parameter and one in which the extrapolation coefficient depends on the dividend growth process. We show that these last two models are equally good at matching sample moments of the data. However, a counterfactual experiment shows that only the extrapolative expectation model with timevarying extrapolation coefficient is consistent with the run up in house prices observed over the 2000-2006 period and the subsequent sharp downturn.

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  • Eleonora Granziera & Sharon Kozicki, 2012. "House Price Dynamics: Fundamentals and Expectations," Staff Working Papers 12-12, Bank of Canada.
  • Handle: RePEc:bca:bocawp:12-12
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    6. Paolo Gelain & Kevin J. Lansing & Caterina Mendicino, 2013. "House Prices, Credit Growth, and Excess Volatility: Implications for Monetary and Macroprudential Policy," International Journal of Central Banking, International Journal of Central Banking, vol. 9(2), pages 219-276, June.
    7. Nobili, Andrea & Zollino, Francesco, 2017. "A structural model for the housing and credit market in Italy," Journal of Housing Economics, Elsevier, vol. 36(C), pages 73-87.
    8. Beatrice D. Simo-Kengne & Rangan Gupta & Goodness C. Aye, 2013. "Macro Shocks And House Prices In South Africa," Working Papers 201302, University of Pretoria, Department of Economics.
    9. Tang, Yang & Zeng, Ting & Zhu, Shenghao, 2020. "Bubbles and house price dispersion in the United States during 1975–2017," Journal of Macroeconomics, Elsevier, vol. 63(C).
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    11. Gelain, Paolo & Lansing, Kevin J., 2014. "House prices, expectations, and time-varying fundamentals," Journal of Empirical Finance, Elsevier, vol. 29(C), pages 3-25.
    12. David C. Ling & Joseph T.L. Ooi & Thao T.T. Le, 2015. "Explaining House Price Dynamics: Isolating the Role of Nonfundamentals," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 47(S1), pages 87-125, March.
    13. Zheng, Min & Wang, Hefei & Wang, Chengzhang & Wang, Shouyang, 2017. "Speculative behavior in a housing market: Boom and bust," Economic Modelling, Elsevier, vol. 61(C), pages 50-64.
    14. Severen, Christopher & Plantinga, Andrew J., 2018. "Land-use regulations, property values, and rents: Decomposing the effects of the California Coastal Act," Journal of Urban Economics, Elsevier, vol. 107(C), pages 65-78.
    15. Bekiros, Stelios & Nilavongse, Rachatar & Uddin, Gazi Salah, 2020. "Expectation-driven house prices and debt defaults: The effectiveness of monetary and macroprudential policies," Journal of Financial Stability, Elsevier, vol. 49(C).
    16. Caterina Mendicino & Sandra Gomes, 2011. "Housing Market Dynamics: Any News?," Working Papers w201121, Banco de Portugal, Economics and Research Department.
    17. Pauline Gandré, 2020. "Learning, house prices and macro-financial linkages," EconomiX Working Papers 2020-10, University of Paris Nanterre, EconomiX.
    18. Bauer, Gregory H., 2017. "International house price cycles, monetary policy and credit," Journal of International Money and Finance, Elsevier, vol. 74(C), pages 88-114.
    19. Joshua J. Miller & Kevin A. Park, 2018. "Same-sex marriage laws and demand for mortgage credit," Review of Economics of the Household, Springer, vol. 16(2), pages 229-254, June.
    20. Nico Valckx & Mr. Sohaib Shahid & Mitsuru Katagiri & Andrea Deghi, 2020. "Predicting Downside Risks to House Prices and Macro-Financial Stability," IMF Working Papers 2020/011, International Monetary Fund.
    21. Daniel L. Tortorice, 2019. "Long-Run Expectations, Learning and the US Housing Market," Eastern Economic Journal, Palgrave Macmillan;Eastern Economic Association, vol. 45(4), pages 497-531, October.
    22. Alessia Bruzzo & Marco Mazzoli, 2018. "An Empirical Investigation on the European Housing Market Prices," Review of Economics & Finance, Better Advances Press, Canada, vol. 12, pages 29-42, May.
    23. Philipp an de Meulen & Martin Micheli & Torsten Schmidt, 2014. "Forecasting real estate prices in Germany: the role of consumer confidence," Journal of Property Research, Taylor & Francis Journals, vol. 31(3), pages 244-263, September.
    24. Paolo Gelain & Kevin J. Lansing & Gisle J. Natvik, 2018. "Explaining the Boom–Bust Cycle in the U.S. Housing Market: A Reverse‐Engineering Approach," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 50(8), pages 1751-1783, December.
    25. Hu, Lirong & He, Shenjing & Han, Zixuan & Xiao, He & Su, Shiliang & Weng, Min & Cai, Zhongliang, 2019. "Monitoring housing rental prices based on social media:An integrated approach of machine-learning algorithms and hedonic modeling to inform equitable housing policies," Land Use Policy, Elsevier, vol. 82(C), pages 657-673.

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    More about this item

    Keywords

    Asset pricing; Domestic demand and components; Economic models;
    All these keywords.

    JEL classification:

    • E3 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles
    • E65 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - Studies of Particular Policy Episodes
    • R21 - Urban, Rural, Regional, Real Estate, and Transportation Economics - - Household Analysis - - - Housing Demand

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