Housing Market Dynamics: On the Contribution of Income Shocks and Credit Constraints

Posted: 26 Sep 2005

See all articles by François Ortalo-Magné

François Ortalo-Magné

Wisconsin School of Business; CESifo (Center for Economic Studies and Ifo Institute for Economic Research)

Sven Rady

University of Bonn

Multiple version iconThere are 3 versions of this paper

Abstract

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

Ortalo-Magne, Francois and Rady, Sven, Housing Market Dynamics: On the Contribution of Income Shocks and Credit Constraints. Review of Economic Studies, Forthcoming. Available at SSRN: https://ssrn.com/abstract=806784

Francois Ortalo-Magne (Contact Author)

Wisconsin School of Business ( email )

4300 Grainger Hall
975 University Avenue
Madison, WI 53706-1323
United States
608-262-7867 (Phone)
608-262-7867 (Fax)

HOME PAGE: http://francois.marginalq.com

CESifo (Center for Economic Studies and Ifo Institute for Economic Research)

Poschinger Str. 5
Munich, DE-81679
Germany

HOME PAGE: http://www.CESifo.de

Sven Rady

University of Bonn ( email )

Regina-Pacis-Weg 3
Postfach 2220
Bonn, D-53012
Germany

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