Interest rates and house prices in the United States and around the world
BIS Working Papers No 665
This paper shows how interest rates affect house prices. We look at the effects of short-term and long-term interest rates, in the United States and 46 other advanced and emerging market economies, over the period from 1970 to 2015. We use data that statistical agencies in those countries picked as their preferred measures of house price inflation. We assess the impact on house prices of interest rates and other demand variables (income, employment) with the aid of standard statistical single- and multi-country (so-called panel) regressions.
The link between interest rates and house prices is of longstanding interest to economists. One novelty of our study is that we assess the impact on house prices of short-term interest rates, which are closely linked to monetary policy. Previous studies have looked mainly at the impact of long-term rates. Another novelty is that we look at how house prices outside the United States have responded not just to domestic but also to US interest rates. With the spread of capital flows, the latter have become a measure of the worldwide cost of funding for banks around the world. We have followed two other approaches that differ from existing studies. First, the data set mentioned above. Second, the attention we give to inertia in house prices, ie the tendency for past changes in house prices to influence those we see today.
We find a surprisingly important role for short-term interest rates as drivers of house prices, especially outside the United States. We also find that changes in short-term interest rates from up to five years in the past can have a strong influence on changes in house prices today. In addition, we find a strong link between US interest rates and changes in house prices in other countries. Studies that treat housing as a form of investment whose alternative is renting property predict much higher interest rate sensitivity of house prices than those we obtain. However, our estimates are much higher than those that neglect the role of inertia in house prices.
This paper estimates the response of house prices to changes in short- and long-term interest rates in 47 advanced and emerging market economies. We use data that statistical authorities selected as their best house price series, covering almost half a century of quarterly observations for the United States and over 1,000 annual observations for the rest of the sample. We find a surprisingly important role for short-term interest rates as a driver of house prices, especially outside the United States. Our interpretation is that this reflects the importance of the bank lending channel of monetary policy in house price fluctuations, especially in countries where securitisation of home mortgages is less prevalent. In addition, we document substantial inertia in house prices and find that changes in interest rates and other determinants affect house prices gradually rather than on impact. This suggests that modest cuts in policy rates are not likely to rapidly fuel house price increases. Finally, we find that US interest rates seem to affect house prices outside the United States.
JEL classification: E39, E43, E58, G12, R31, R32
Keywords: interest rates, house prices, monetary policy, bank lending channel, random walk, house price bubble, United States, advanced economies, emerging market economies