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House Prices, Consumption, and Government Spending Shocks

We highlight that a broad class of DSGE models with housing and collateralized borrowing predict a fall in both house prices and consumption following positive government spending shocks. By contrast, we show that house prices and consumption in the U.S. rise persistently after identified positive government spending shocks, using a structural vector autoregression methodology and accounting for anticipated effects. We clarify that modifying preferences alone, as previously suggested in the literature, does not help in obtaining the correct house price response. We then show that only when monetary policy strongly accommodates government spending shocks, the impact effects on house prices and total consumption are positive. The model, however, does not deliver the persistent rise in house prices and consumption as evident in the data. Properly accounting for the empirical evidence on government spending shocks and house prices using a DSGE model, therefore, remains a significant challenge.

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Paper provided by Carleton University, Department of Economics in its series Carleton Economic Papers with number 13-10.

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Length: 43 pages
Date of creation: 20 Dec 2013
Date of revision:
Publication status: Published: Carleton Economic Papers
Handle: RePEc:car:carecp:13-10
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