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Learning from House Prices: Amplification and Business Fluctuations
[House Price Booms and the Current Account]

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  • Ryan Chahrour
  • Gaetano Gaballo

Abstract

We formalize the idea that house price changes may drive rational waves of optimism and pessimism in the economy. In our model, a house price increase caused by aggregate disturbances may be misinterpreted as a sign of higher local permanent income, leading households to demand more consumption and housing. Higher demand reinforces the initial price increase in an amplification loop that drives comovement in output, labour, residential investment, land prices, and house prices even in response to aggregate supply shocks. The qualitative implications of our otherwise frictionless model are consistent with observed business cycles and it can explain the economic impact of apparently autonomous changes in sentiment without resorting to non-fundamental shocks or nominal rigidity.

Suggested Citation

  • Ryan Chahrour & Gaetano Gaballo, 2021. "Learning from House Prices: Amplification and Business Fluctuations [House Price Booms and the Current Account]," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 88(4), pages 1720-1759.
    • Handle: RePEc:oup:restud:v:88:y:2021:i:4:p:1720-1759.
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    File URL: http://hdl.handle.net/10.1093/restud/rdaa079
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    3. Han, Zhao & Tan, Fei & Wu, Jieran, 2022. "Analytic policy function iteration," Journal of Economic Theory, Elsevier, vol. 200(C).

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    More about this item

    Keywords

    Demand shocks; House prices; Imperfect information; Animal spirits;
    All these keywords.

    JEL classification:

    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • D83 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Search; Learning; Information and Knowledge; Communication; Belief; Unawareness
    • E03 - Macroeconomics and Monetary Economics - - General - - - Behavioral Macroeconomics

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