On housing booms and credit market conditions: A state space model∗ Helmut Herwartz

Abstract: The massive and persistent increases of house prices in the US before the 2008/09 financial crisis show the limit of asset pricing models which presume a fixed steady state. In this paper, we propose a state space model characterized by a time varying long-term state of the log house price to rent ratio. An increasing trend in the long-term price to rent ratio from early 1990s to 2007 is identified in the data. These increases were significantly influenced by decreasing real mortgage rates and the increased securitization of residential mortgage loans, especially since 2002. The impulse response analysis from the estimated model shows that the effect of securitization activities on the long-run price to rent ratio is three times larger than the one of real mortgage rates