Topic 4:House PricesTopic 4:House Prices

Reading 1: “Monetary Policy and House Reading 1: “Monetary Policy and House Prices: A Cross-Country Study” by Alan Prices: A Cross-Country Study” by Alan Ahearne, et al. IFDP 841.  Federal Ahearne, et al. IFDP 841.  Federal Reserve Board (September 2005) Reserve Board (September 2005) 

• Section 1 (Introduction)Section 1 (Introduction)• Section 2 (Features of house prices)Section 2 (Features of house prices)• Section 3 (House prices and real economic Section 3 (House prices and real economic

activity)activity)• Section 6 (Conclusion)Section 6 (Conclusion)

ReadingReading

Reading 2: Reading 2: "We are on our own if the "We are on our own if the bubble bursts" by Alan Ahearne. The bubble bursts" by Alan Ahearne. The Sunday Business Post, 9th October Sunday Business Post, 9th October 20052005

Features of House Prices in Features of House Prices in Industrial CountriesIndustrial Countries

Prolonged rises and fall in real house Prolonged rises and fall in real house prices over past 35 yearsprices over past 35 years

Rapidly rising house prices in most Rapidly rising house prices in most countries for the past several yearscountries for the past several years Japan and Germany notable exceptionsJapan and Germany notable exceptions

Upward trends in several countriesUpward trends in several countries Population growth and fixed supply of Population growth and fixed supply of

landland Different productivity across sectorsDifferent productivity across sectors

PeaksPeaks

At the “peak,” level of house prices At the “peak,” level of house prices higher than at any point 3 years on higher than at any point 3 years on either side either side

Changes in house prices correlated Changes in house prices correlated across countries across countries global factors global factors importantimportant Low interest ratesLow interest rates Global business cyclesGlobal business cycles

International co-movement of International co-movement of real house pricesreal house prices

Chart 2.2Chart 2.2 Number of countries experiencing Number of countries experiencing

rapid growth and rapid declinesrapid growth and rapid declines 4 major episodes of rapid price 4 major episodes of rapid price

increasesincreases 173-74, 78-79, 86-89, and recently173-74, 78-79, 86-89, and recently

Each past episodes of rapid price Each past episodes of rapid price increases followed by episode of rapid increases followed by episode of rapid declines declines

Measures of valuationMeasures of valuation

Ratio of house prices to disposable Ratio of house prices to disposable incomeincome Trends complicate measure, but near Trends complicate measure, but near

record highs on United Kingdom and record highs on United Kingdom and Australia stand outAustralia stand out

Ratio of house prices to rentsRatio of house prices to rents Similar to price-to-earnings ratioSimilar to price-to-earnings ratio

Ireland: Rents (2003:Q3 = 100)

0.0

20.0

40.0

60.0

80.0

100.0

120.0

Rents

RentsRents

Falling rents may reflect:Falling rents may reflect: Correction after temporary surgeCorrection after temporary surge Expectations of future capital gainsExpectations of future capital gains Excess supply of rental propertiesExcess supply of rental properties

Up to one-third of Irish housing output is Up to one-third of Irish housing output is satisfying demand for second homessatisfying demand for second homes

Ireland: Price-rent

0

50

100

150

200

250

300

Q2 19

96

Q4 19

96

Q2 19

97

Q4 19

97

Q2 19

98

Q4 19

98

Q2 19

99

Q4 19

99

Q2 20

00

Q4 20

00

Q2 20

01

Q4 20

01

Q2 20

02

Q4 20

02

Q2 20

03

Q4 20

03

Q2 20

04

Q4 20

04

price-rent

Price-rent ratioPrice-rent ratio

Rising price-rent ratio can be justified Rising price-rent ratio can be justified by declining “carrying costs”by declining “carrying costs”

Lower carrying costs as a result of:Lower carrying costs as a result of: Falling interest ratesFalling interest rates Changes in taxationChanges in taxation

Price-rent ratioPrice-rent ratio

Price-rent ratio significantly above Price-rent ratio significantly above trend tend to move back toward trend tend to move back toward historical normshistorical norms Prices usually adjust more than rentsPrices usually adjust more than rents

Price-rent ratio does not capture Price-rent ratio does not capture “structural” shifts“structural” shifts