Macro Shocks and Housing Markets

Prepared for the 7th Annual Macroprudential Conference hosted by the Sveriges Riksbank with De Nederlandsche Bank and the Deutsche Bundesbank on 30-31 August 2023. The last two recessions in the United States, linked with the Global Financial Crisis (GFC) and the COVID-19 Pandemic, respectively, caused huge swings in the housing market – but with opposing signs. The GFC was associated with a historic collapse in housing prices, while COVID saw a rapid appreciation. These divergent responses occurred against the background of large scale conventional and unconventional monetary policy and fiscal stimulus in both episodes. With the GFC as a well-studied reference point, we focus on the COVID period and argue that the nature of the shock and macro stability conditions resulted in substantially different housing market outcomes. The pandemic generated a positive demand shock for housing, and strong household balance sheets supported borrowing at the low rates available. However, the COVID housing boom also broadly locked in low rates for existing homeowners. While the rapid rise in mortgage rates that followed increased the cost of ownership at the margin, the lock-in reduced the supply of housing for sale and perpetuated higher prices. We use a transparent modeling framework to illustrate and quantify these dynamics. As long as legacy borrowers remain locked to lower rates, monetary policy transmission is subverted, since higher rates lead to greater lock-in and reduced supply.