Editor Pick: A Model of Cross-Country House Prices
Kieran McQuinn and Gerard O’Reilly of the Central Bank of Ireland propose “a theoretical model of house price determination that is driven by changes in income and interest rates. In particular, the current level of income and interest rates determine how much an individual can borrow from financial institutions to purchase housing and ultimately this is a key driver of house prices. The model is applied to a panel of 16 OECD countries from 1980 to 2005 using both single country-by-country and panel econometric approaches.” Their “results support the existence of a long-run relationship between actual house prices and the amount individuals can borrow.” Also, “they find plausible and statistically significant adjustment, across countries, to this long-run equilibrium.”
One Response to “Editor Pick: A Model of Cross-Country House Prices”
So, what Kieran McQuinn and Gerard O’Reilly are really proposing is that people will pay exactly as much as they can borrow to buy a house, any house. Therefore, house prices, driven by a simple, classic supply and demand curve, will rise to meet the range of amounts that the population can borrow.
The real marginal cost of providing a house has nothing to do with the market price of houses.
This, of course, is a massive, dangerous and socially catastrophic market failure, one I had recognized myself from some long term studies of the post WW2 Australian housing market. So much for Neocon and liberal minimal government interference in the economy theories.
Worse yet, the fact that a sizable percent of the population, those who bought in at an earlier stage of the market, have profited greatly, make it politically impossible to do anything except feed the housing bubble until it all comes apart with considerable damage to the economy and society.