Implications of Mortgage Market Structure for Housing and Economic Activity

Laura MiddlesworthUniversity of Wisconsin – Eau Claire

U.S. Residential Investment, % of GDP

Q1-1960 Q4-1964 Q3-1969 Q2-1974 Q1-1979 Q4-1983 Q3-1988 Q2-1993 Q1-1998 Q4-2002 Q3-20070%

1%

2%

3%

4%

5%

6%

7%

8%

0

0.1

0.2

0.3

0.4

0.5

0.6

0.7

0.8

0.9

1

Sources: OECD, NBER

Work Started on Dwellings

Q1-1960 Q1-1965 Q1-1970 Q1-1975 Q1-1980 Q1-1985 Q1-1990 Q1-1995 Q1-2000 Q1-2005 Q1-20100

0.2

0.4

0.6

0.8

1

1.2

1.4

0

0.1

0.2

0.3

0.4

0.5

0.6

0.7

0.8

0.9

1

Inde

x; e

qual

to 1

in 2

005

Sources: OECD, NBER

Permits for New Private Housing Units

Q1-1960Q2-1965Q3-1970Q4-1975Q1-1981Q2-1986Q3-1991Q4-1996Q1-2002Q2-20070

500000

1000000

1500000

2000000

2500000

0

0.1

0.2

0.3

0.4

0.5

0.6

0.7

0.8

0.9

1

No.

of h

ousi

ng u

nits

Sources: U.S. Census Bureau, NBER

•After 20 quarters, permits for new housing units accounts for… 15% of variation in GDP growth 26% of variation in residential investment

•After 20 quarters, 38% of the variation in residential investment is attributed to the interest rate

•Impulse response functions suggest that a shock to permits has a more pronounced impact on GDP growth vs. a shock to residential investment

•A shock to permits has a lasting impact on residential investment.

Housing and the Business Cycle

• Leamer (2007): In the post-war era, residential investment was the greatest contributor to weakness in GDP growth prior to 6 out of 10 recessions– Volumes, not prices, matter– Is residential investment so important because of

mortgage market structure in U.S.?

Residential Investment-to-GDP Ratio

Source: OECD

Japan

Sweden

Denmark

Norway

Belgium

Canada

Australia Ita

ly

Netherla

nds

Finland

France

United Kingdom

Spain

Germany

United State

s

Ireland

0%

2%

4%

6%

8%

10%

12%

14%

16%

Ratio for most recent quarter

Residential Investment

Australia

Belgium

Canada

Denmark

Finland

France

Germany

Ireland

Italy

Japan

Netherla

nds

Norway

Spain

Sweden

United Kingdom

United State

s

-40%

-30%

-20%

-10%

0%

10%

20%

Growth rate compared to same quarter, previous year

2008q4 2009q4 2010q4Source: OECD

Mortgage Market StructureGroup 1 Group 2 Group 3Belgium Denmark Australia

Canada Finland Ireland

France Japan Norway

Germany Netherlands Sweden

Spain U.S. U.K.

• Mortgage equity extraction is not used

• Banks have conservative lending practices

• Mortgage equity extraction is allowed• Banks have more

aggressive lending practices

• Interest rates on mortgages tend to be fixed

• Mortgage equity extraction is allowed • Banks have more

aggressive lending practices

• Variable interest rates on mortgages

Source: Tsatsaronis and Zhu (2004)

Variation in GDP Growth Attributed to Private Sector Credit

1 4 8 120

1

2

3

4

5

6

7

8

Group 1 Group 2 Group 3

Quarters

%

Variation in Residential Investment Attributed to Private Sector Credit

1 4 8 120

1

2

3

4

5

6

7

Group 1 Group 2 Group 3

Quarters

%

Variation in Residential Investment Attributed to the Interest Rate

1 4 8 120

5

10

15

20

25

30

Group 1 Group 2 Group 3

Quarters

%

Variation in GDP Growth Attributed to Residential Investment

1 4 8 120

2

4

6

8

10

12

Group 1 Group 2 Group 3

Quarters

%

Variation in GDP Growth Attributed to the Interest Rate

1 4 8 120

2

4

6

8

10

12

Group 1 Group 2 Group 3

Quarters

%

Variation in GDP Growth Attributed to Permits for New Housing Units

1 4 8 120

2

4

6

8

10

12

14

Group 1 Group 2 Group 3

Quarters

%

Summary of Preliminary Results

• More variation in residential investment is attributed to interest rates for countries with variable rate mortgages– Possible reason for smaller amount of variation of GDP

growth attributed to residential investment?• Mixed results for impact of private sector credit on

GDP growth, residential investment• More variation in GDP growth is attributed to

permits for countries with more aggressive lending– Possible explanations?

Works Cited

• Cardarelli et al. “The Changing Housing Cycle and the Implications for Monetary Policy,” World Economic Outlook, No. 84, 2008.

• Leamer, Edward. “Housing is the Business Cycle,” NBER Working Paper No. 13428, 2007.

• Tsatsaronis, Kostas and Haibin Zhu. “What Drives Housing Price Dynamics: Cross-Country Evidence,” BIS Quarterly Review, March 2004.