Housing Market Dynamics: On the Contribution of Income Shocks and Credit Constraints
Posted: 26 Sep 2005
We propose a life-cycle model of the housing market with a property ladder and a credit constraint. We focus on equilibria which replicate the facts that credit constraints delay some households' first home purchase and force other households to buy a home smaller than they would like. The model helps us identify a powerful driver of the housing market: the ability of young households to afford the down payment on a starter home, and in particular their income. The model also highlights a channel whereby changes in income may yield housing price overreaction, with prices of trade-up homes displaying the most volatility, and a positive correlation between housing prices and transactions. This channel relies on the capital gains or losses on starter homes incurred by credit-constrained owners. We provide empirical support for our arguments with evidence from both the U.K. and the U.S.
Keywords: Housing Demand, Income Fluctuations, Overlapping Generations, Collateral Constraint
JEL Classification: E32, G12, G21, R21
Suggested Citation: Suggested Citation