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Run-up in the House Price-Rent Ratio: How Much Can Be Explained by Fundamentals?

  • Kamila Sommer

    ()

    (Georgetown University, FRB Minneapolis)

  • Paul Sullivan

    ()

    (U.S. Bureau of Labor Statistics)

  • Randal Verbrugge

    ()

    (U.S. Bureau of Labor Statistics)

This paper studies the joint dynamics of real house prices and rents over the past decade. We build a dynamic general equilibrium stochastic life cycle model of housing tenure choice with fully speci?ed markets for homeownership and rental properties, and endogenous house prices and rents. Houses are modeled as discrete-size durable goods which provide shelter services, confer access to collateralized borrowing, provide sizeable tax advantages, and generate rental income for homeowners who choose to become landlords. Mortgages are available, but home-buyers must satisfy a minimum down payment requirement, and home sales and purchases are subject to lumpy ad- justment costs. Lower interest rates, relaxed lending standards, and higher incomes are shown to account for over one-half of the increase in the U.S. house price-rent ratio between 1995 and 2005, and to generate the pattern of rapidly growing house prices, sluggish rents, increasing homeownership, and rising household indebtedness observed in the data. The model highlights the importance of accounting for equilib- rium interactions between the markets for owned and rented property when analyzing the housing market. These general equilibrium e¤ects can either magnify or reverse the partial equilibrium e¤ects of changes in fundamentals on house prices, rents, and homeownership.

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Paper provided by U.S. Bureau of Labor Statistics in its series Working Papers with number 441.

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Length: 43 pages
Date of creation: Oct 2010
Date of revision:
Handle: RePEc:bls:wpaper:ec100090
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  1. 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.
  2. Francois Ortalo-Magne & Sven Rady, 1998. "Boom In, Bust Out: Young Households and the Housing Price Cycle," Finance 9810004, EconWPA, revised 25 Oct 1998.
  3. Antonia Díaz & Maria J. Luengo-Prado, 2006. "On The User Cost and Homeownership," Working Papers 2006-14, FEDEA.
  4. Antonia Díaz & María José Luengo-Prado, 2010. "The Wealth Distribution With Durable Goods," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 51(1), pages 143-170, 02.
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