Housing markets, business cycles and monetary policy

Abstract

This dissertation studies the implications of housing market heterogeneity for the trans- mission of shocks, welfare and the conduct of monetary policy. In the first chapter I focus on mortgage contract heterogeneity (fixed vs. variable-rate mortgages). I develop and solve a New Keynesian dynamic stochastic general equilibrium model that features a housing market and a group of constrained individuals who need housing collateral to obtain loans. A given proportion of constrained households borrows at a variable rate, while the rest borrows at a fixed rate. The model predicts that in an economy with mostly variable-rate mortgages, an exogenous interest rate shock has larger effects on borrowers than in a fixed-rate economy. For plausible parametrizations, aggregate differences are muted by wealth effects on labor supply and by the presence of savers. More persistent shocks cause larger aggregate differences. From a normative perspective I find that, in the presence of collateral constraints, the optimal Taylor rule is less aggressive against inflation than in the standard sticky-price model. Furthermore, for given monetary policy, a high proportion of fixed-rate mortgages is welfare enhancing. Then, I develop a two-country version of the model to study the implications of housing market heterogeneity for a monetary union as well as costs and benefits of being in a monetary union when there are asymmetric shocks. Results show that consumption reacts more strongly to common shocks in countries with high loan-to-value ratios (LTVs), a high proportion of borrowers or variable-rate mortgages. I also find that country-specific housing price shocks increase consumption not only in the country where the shock takes place. Welfare analysis shows that housing-market homogeneization is not beneficial per se, only when it is towards low LTVs or predominantly fixed-rate mortgages. As for costs and benefits of monetary unions, when there is a technology shock in one of the countries and they are symmetric, the monetary union regime is welfare worsening. However, results are dependent on whether or not countries are symmetric and on the source of the asymmetry.