Can the Common-Factor Hypothesis Explain the Observed Housing Wealth Effect?

42 Pages Posted: 27 Dec 2015

See all articles by Narayan Bulusu

Narayan Bulusu

Bank of Canada

Jefferson Duarte

Rice University

Carles Vergara-Alert

University of Navarra - IESE Business School

Date Written: December 24, 2015

Abstract

The common-factor hypothesis is one possible explanation for the strong observed housing wealth effect. Under this hypothesis, house price appreciation is statistically related to changes in consumption as long as the available proxies for the common driver of housing and non-housing demand are noisy and housing supply is not perfectly elastic. We simulate a model in which a common factor drives the relation between house prices and consumption to examine the extent to which the common-factor hypothesis can explain the observed housing wealth effect estimated with U.S. state-level data. Our results indicate that the common-factor hypothesis can easily explain the observed housing wealth effect even when the proxies for the common factor have small measurement errors.

Keywords: Wealth effect, housing supply

JEL Classification: R20, E21

Suggested Citation

Bulusu, Narayan and Duarte, Jefferson and Vergara-Alert, Carles, Can the Common-Factor Hypothesis Explain the Observed Housing Wealth Effect? (December 24, 2015). Available at SSRN: https://ssrn.com/abstract=2708105 or http://dx.doi.org/10.2139/ssrn.2708105

Narayan Bulusu

Bank of Canada ( email )

234 Wellington St.
Ottawa, Ontario K1A 0G9
Canada

Jefferson Duarte (Contact Author)

Rice University ( email )

6100 South Main Street
P.O. Box 1892
Houston, TX 77005-1892
United States
713.3486137 (Phone)

Carles Vergara-Alert

University of Navarra - IESE Business School ( email )

Av. Pearson 21
Barcelona, 08034
Spain
+34 932544200 (Phone)
+34 932534343 (Fax)

HOME PAGE: http://web.iese.edu/cvergara/

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