The Unassuming Economist

From a new paper by the Bundesbank:

“Research Question

Frequently asked questions in the analysis of housing markets are: What are the effects of interest rates, income or housing supply on house prices? What is the impact of house price increases on the supply of housing? How much is housing inflation due to land price increases and what is the contribution of construction prices? How long do house price fluctuations last? This paper seeks to shed light on the joint price and supply responses on the German housing market to exogenous changes in macroeconomic determinants.

Contribution

Computing typical reactions of price and supply on the housing market across different episodes of the house price cycle requires a long time series for house prices. The paper presents a novel aggregate price index for housing in Germany, which goes back to 1993. The long house price series, which can be split into a land and a construction price component, is incorporated in an econometric model that takes into account the interaction between the price and supply of housing.

Results

Estimation results suggest that house prices in Germany mainly depend on current and expected income and on the level of interest rates. A decomposition suggests that land prices react more strongly to interest rate changes and to current income developments, whereas for construction prices expected income and the level of construction activity appear to play a larger role. While in the years before the Great Recession, construction prices contributed most to house price growth, land price growth was the main driver behind the recent strong house price increases. The estimates point to a moderate housing supply elasticity in international comparison. The house price dampening effect of additional housing supply is found to be small. This is the result of the combination of a positive price effect of additional construction via construction prices and a price dampening effect of additional building land. Finally, house prices and residential investment take several years to adjust to shocks.”