Academic journal article Contemporary Economic Policy

Housing Markets and the Global Financial Crisis: The Complex Dynamics of a Credit Shock

Academic journal article Contemporary Economic Policy

Housing Markets and the Global Financial Crisis: The Complex Dynamics of a Credit Shock

Article excerpt


Housing markets around the world were affected significantly by the global financial crisis (GFC). Real house prices in New Zealand fell by 15.3% between 2007Q2 and 2011Q2. In other countries, including Ireland, Spain, and the United States, the reduction in house prices was substantially greater (International Monetary Fund 2012). Over the same period, new housing construction across New Zealand plummeted, with residential housing consents (i.e., residential building permits) across the country falling by 56%. We use a model of regional housing markets in New Zealand to analyze the multiple channels of influence that the GFC had on subnational housing markets. We compare the dynamics caused by this shock to those of a migration-induced population shock, which is a more common form of housing shock within New Zealand.

The prima facie importance of both population and credit shocks in driving house prices is illustrated in Figure 1, using national-level data for New Zealand. Population changes (driven primarily by net international migration flows) are highly correlated with house price changes throughout most of the period from 1990 to 2012. However, house prices fell substantially in 2008 following the onset of the GFC at a time when population flows would normally suggest broadly constant house prices. The downturn in house prices after the GFC appears long-lasting, with a pronounced double dip in prices following 2007. The GFC resulted in a sharp rise in banks' nonperforming loans (NPLs) as a ratio of total bank assets (Figure 2); a standard credit channel operating through banks' balance sheets implies that banks will have restricted credit while the NPL ratio was elevated (Claus and Grimes 2003).

This article contributes to the understanding of the dynamics of housing markets, building on the prior work of Pain and Westaway (1997), Glaeser and Gyourko (2006), Glaeser, Gyourko, and Saiz (2008), Grimes and Aitken (2010), and Van Nieuwerburgh and Weill (2010). It also helps to understand how credit shocks feed through to the macroeconomy. Several recent vector autoregression (VAR)-based studies have shown that negative credit (loan supply) shocks lead to a decrease in gross domestic product (GDP) and, in some cases, the aggregate price level (Gambetti and Musso 2012; Helbling et al. 2011; Hristov, Hulsewig, and Wollmershauser 2012). Being reduced-form analyses, these studies do not isolate the channels through which credit shocks impact on the macroeconomy. Learner (2007) showed that housing cycles dominate the business cycle (in the United States) and produced some evidence that a yield curve-induced tightening of bank credit impacts negatively on the housing market. Extending this insight, Iacoviello and Minetti (2008) showed that credit supply, operating through the bank lending channel, impacts on housing markets in some, but not all, European countries. Calza, Monacelli, and Stracca (2013) also examined the impact of monetary shocks on housing markets; however, neither of these studies, nor the macrostudies cited above, incorporate explicit measures of bank balance sheet strength, which underlies much of the theoretical literature on the bank lending channel (Claus and Grimes 2003). (1)



The incorporation of measures indicating bank balance sheet strength is important in the analysis of credit shocks because bank balance sheets can weaken quickly and substantially, thereby limiting their ability to supply loans within a very short timeframe. Typical macroeconomic variables explain only a small proportion of changes in banks' NPLs; for instance, Beck, Jakubik, and Piloiu (2013) found that GDP, exchange rates, and country fixed effects together explain only about 30% of the variance of changes in NPLs across a sample of 75 countries. Our study explicitly incorporates the impact of banks' NPLs on both the demand and supply sides of the housing market, highlighting how credit shocks impact on this key component of macroeconomic cycles. …

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