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Rational Housing Bubble

  • Bo Zhao
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    This paper studies an economy inhabited by overlapping generations of homeowners and investors, with the only difference between the two being that homeowners derive utility from housing services whereas investors do not. Tight collateral constraint limits the borrowing capacity of homeowners and drives the equilibrium interest rate level down to the housing price growth rate, which makes housing attractive as a store of value for investors. As long as the rental market friction is high enough, the investors will hold a positive number of vacant houses in equilibrium. A housing bubble arises in an equilibrium in which investors hold houses for resale purposes only and without the expectation of receiving a dividend either in terms of utility or rent. The model can be applied to China, where the housing bubble can be attributed to the rapid decline in the replacement rate of the pension system.

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    Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 19354.

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    Date of creation: Aug 2013
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    Publication status: published as Bo Zhao, 2015. "Rational housing bubble," Economic Theory, vol 60(1), pages 141-201.
    Handle: RePEc:nbr:nberwo:19354
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    1. Pengfei Wang & Jianjun Miao, 2011. "Bubbles and Credit Constraints," 2011 Meeting Papers 94, Society for Economic Dynamics.
    2. Caballero, Ricardo J. & Krishnamurthy, Arvind, 2006. "Bubbles and capital flow volatility: Causes and risk management," Journal of Monetary Economics, Elsevier, vol. 53(1), pages 35-53, January.
    3. Caballero, Ricardo J. & Farhi, Emmanuel & Gourinchas, Pierre-Olivier, 2008. "An Equilibrium Model of "Global Imbalances" and Low Interest Rates," Scholarly Articles 3229094, Harvard University Department of Economics.
    4. Paul A. Samuelson, 1958. "An Exact Consumption-Loan Model of Interest with or without the Social Contrivance of Money," Journal of Political Economy, University of Chicago Press, vol. 66, pages 467.
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