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House Prices and Economic Growth

By Collateral Analytics |

House price changes can have both the wealth effect and the collateral effect on the economy. The wealth effect and the collateral effect respectively refer to changes in desired consumption and changes in actual consumption due to house price changes. While both effects predict causation from house price changes to economic growth, they affect the economy through different channels and have distinctive policy implications. For instance, if an economic recession is caused by the wealth effect instead of the collateral effect of decreasing house prices, which means that households reduce their desired consumption because they feel poorer not because they are more financially constrained, easing the credit availability may not help stimulate the economy.

This paper empirically compares the wealth effect and the collateral effect of house price changes on economic growth at the aggregate level, investigating if the effects relate to household borrowing constraints, and analyzing the temporal patterns of the effects. A large panel data set that covers all 379 metropolitan statistic areas (MSAs) in the U.S. from 1980:1 to 2008:2 allows us to control for unobserved common factors and spatial effects of house prices to mitigate possible biases due to omitted variables.

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