Interest Rates and Housing Market Dynamics in a Housing Search Model
61 Pages Posted: 1 Nov 2017
Date Written: October 30, 2017
We introduce mortgages into a dynamic equilibrium, directed search model of the housing market. Mortgage rates play their natural role in our model by affecting the share of per-period income that a homeowner spends on mortgage payment rather than consumption. We estimate the model using microdata on home listings, exploiting the insights of Menzio and Shi (2010) to handle the significant heterogeneity that even basic mortgages introduce into a search model. The estimated model shows that, because of search frictions, housing market conditions are significantly more responsive to mortgage rates than suggested by reduced-form correlations of rates with house prices. Buyer willingness to pay for the typical home changes by more than twice as much as average house prices in response to an interest rate change. As in the data, home construction is more rate sensitive than prices in our model.
Keywords: housing search, interest rates, house prices, directed search
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