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Housing, House Prices, and the Equity Premium Puzzle

20 Pages Posted: 15 Apr 2005  

Morris A. Davis

Rutgers Business School

Robert F. Martin

Federal Reserve Board - International Finance Division

Date Written: March 2005

Abstract

Many recent papers have claimed that when housing services are treated separately from other forms of consumption in utility, a wide range of economic puzzles such as the equity premium puzzle can be explained. Our paper challenges these claims. The key assumption embedded in this literature is that households are not very willing to substitute housing services for consumption. We show that housing services and consumption must be much more substitutable than has been assumed for a neoclassical consumption model to be consistent with U.S. house price data. Further, when forced to match both historical house prices and stock returns, the lowest risk-free rate the model can generate is 11 percent.

Keywords: House prices, housing, equity premium

JEL Classification: G12, R21, R31, E01

Suggested Citation

Davis, Morris A. and Martin, Robert F., Housing, House Prices, and the Equity Premium Puzzle (March 2005). FEDS Working Paper No. 2005-13. Available at SSRN: https://ssrn.com/abstract=688451 or http://dx.doi.org/10.2139/ssrn.688451

Morris A. Davis (Contact Author)

Rutgers Business School ( email )

Rutgers Business School
One Washington Park #1092
Newark, NJ 07102
United States

Robert F. Martin

Federal Reserve Board - International Finance Division ( email )

20th and C Streets, NW
Washington, DC 20551
United States
202-872-7564 (Phone)
202-736-5638 (Fax)

HOME PAGE: http://www.rfmartin.com

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