The Macroeconomic Effects of Housing Wealth, Housing Finance, and Limited Risk-Sharing in General Equilibrium

72 Pages Posted: 13 Jan 2012

See all articles by Stijn Van Nieuwerburgh

Stijn Van Nieuwerburgh

Columbia University Graduate School of Business; National Bureau of Economic Research (NBER); Centre for Economic Policy Research (CEPR)

Jack Y Favilukis

University of British Columbia (UBC) - Division of Finance

Sydney C. Ludvigson

New York University - Department of Economics; National Bureau of Economic Research (NBER)

Stijn Van Nieuwerburgh

affiliation not provided to SSRN

Multiple version iconThere are 5 versions of this paper

Date Written: January 2012

Abstract

This paper studies the role of time-varying risk premia as a channel for generating and propagating fluctuations in housing markets, aggregate quantities, and consumption and wealth heterogeneity. We study a two-sector general equilibrium model of housing and non-housing production where heterogeneous households face limited opportunities to insure against aggregate and idiosyncratic risks. The model generates large variability in the national house price-rent ratio, both because it fluctuates endogenously with the state of the economy and because it rises in response to a relaxation of credit constraints and decline in housing transaction costs (financial market liberalization). These factors, together with a rise in foreign ownership of U.S. debt calibrated to match the actual increase over the period 2000-2006, generate fluctuations in the model price-rent ratio that explain between 80 and 100 percent of the increase in the national price-rent observed in U.S. data over this period. The model also predicts a sharp decline in home prices starting in 2007, driven by the economic contraction and by a presumed reversal of the financial market liberalization. Fluctuations in the model's price-rent ratio are driven by changing risk premia, which fluctuate endogenously in response to cyclical shocks, the financial market liberalization, and its subsequent reversal. By contrast, we show that the inflow of foreign money into domestic bond markets plays a small role in driving home prices, despite its large depressing influence on interest rates. Finally, the model implies that procyclical increases in equilibrium price - rent ratios reflect rational expectations of lower future housing returns, not higher future rents.

Suggested Citation

Van Nieuwerburgh, Stijn and Favilukis, Jack Y and Ludvigson, Sydney C. and Nieuwerburgh, Stijn Van, The Macroeconomic Effects of Housing Wealth, Housing Finance, and Limited Risk-Sharing in General Equilibrium (January 2012). NYU Working Paper No. 2451/31429, Available at SSRN: https://ssrn.com/abstract=1983087

Stijn Van Nieuwerburgh (Contact Author)

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Centre for Economic Policy Research (CEPR)

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Jack Y Favilukis

University of British Columbia (UBC) - Division of Finance ( email )

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Sydney C. Ludvigson

New York University - Department of Economics ( email )

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HOME PAGE: http://www.econ.nyu.edu/user/ludvigsons/

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Stijn Van Nieuwerburgh

affiliation not provided to SSRN

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