Housing Market Heterogeneity in a Monetary Union

44 Pages Posted: 24 Aug 2009

Date Written: August 21, 2009

Abstract

This paper studies the implications of cross-country housing market heterogeneity for a monetary union, also comparing the results with a flexible exchange rate and independent monetary policy setting. I develop a two-country new Keynesian general equilibrium model with housing and collateral constraints to explore this issue. Results show that in a monetary union, consumption reacts more strongly to monetary policy shocks in countries with high loan-to-value ratios (LTVs), a high proportion of borrowers or variable-rate mortgages. As for asymmetric technology shocks, output and house prices increase by more in the country receiving the shock if it can conduct monetary policy independently. I also fi nd that after country-specific housing price shocks consumption does not only increase in the country where the shock takes place, there is an international transmission. From a normative perspective, I conclude that housing-market homogenization in a monetary union is not beneficial per se, only when it is towards low LTVs or predominantly fixed-rate mortgages. Furthermore, I show that when there are asymmetric shocks but identical housing markets, it is beneficial to form a monetary union with respect to having a flexible exchange rate regime. However, for the examples I consider, net benefits decrease substantially if there is LTV heterogeneity and are negative under different mortgage contracts.

Keywords: Housing market, collateral constraint, monetary policy, monetary union

JEL Classification: E32, E44, F36

Suggested Citation

Rubio, Margarita, Housing Market Heterogeneity in a Monetary Union (August 21, 2009). Banco de Espana Working Paper No. 0916, Available at SSRN: https://ssrn.com/abstract=1458956 or http://dx.doi.org/10.2139/ssrn.1458956

Margarita Rubio (Contact Author)

University of Nottingham ( email )

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