What Drives Housing Prices

This paper develops a growth model with land and housing services that explains much of the amplitude and timing of medium frequency house price uctuations over the last forty years. House prices are predicted to have a bubblyappearance, with housing wealth rising faster than income for an extended period before collapsing and experiencing an extended decline. The analysis suggests that the current downturn in the housing sector was triggered by a productivity slowdown that began in 2004. One implication of this \u85nding is that policies aimed at a¤ecting house prices through credit market interventions are likely to have only a modest impact. From 1996 to its peak in early 2007, the real quality-adjusted price of new houses in the United States appreciated by 33 percent in real terms, about the same as the increase in real GDP over the same period. Prices of existing homes grew even faster, by more than 60 percent. Residential investment as a share of GDP peaked at 6.3 percent in the fourth quarter of 2005, the highest since 1950. The real estate boom, as well as the recent dramatic downturn, has drawn increased attention to the causes and e¤ects of uctuations in housing prices and investment. Of course this was not the \u85rst time housing boom and bust: a similar episode took place beginning in the late 1960s, when prices boomed for a decade before slowing and even declining in real terms for the subsequent 15 years. Markets in particular geographical areas have exhibited still greater volatility (cf. Himmelberg et al