Housing Market Dynamics: On the Contribution of Income Shocks and Credit Constraints (Revised Version)

Ortalo-Magné, François and Rady, Sven (January 2005): Housing Market Dynamics: On the Contribution of Income Shocks and Credit Constraints (Revised Version). Discussion Papers in Economics 2005-1 Review of Economic Studies, 73

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 overshooting, 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.

• Item Type: Paper
• Keywords: Housing Demand ; Income Fluctuations ; Overlapping Generations ; Collateral Constraint
• Faculties: Economics; Economics > Munich Discussion Papers in Economics; Economics > Chairs > Chair of Dynamic Economic Theory (closed)
• Subjects: 300 Social sciences > 300 Social sciences, sociology and anthropology; 300 Social sciences > 330 Economics
• JEL Classification: E32, G12, G21, R21
• Language: English