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The Impact of Low Income Home Owners on the Volatility of Housing Markets Peter Westerheide ZEW European Real Estate Society Conference 2009 Stockholm June 26, 2009 1 Outline Motivation Literature Review Data Methodology Empirical Results Conclusions and Outlook 2 Motivation Default of low income home owners (subprime borrowers) has triggered the current crisis Usual focus is on the behavior of lenders, not of borrowers • Lending without properly checking creditworthiness • „Originate and distribute“ Our Focus: What is the role of low income housing demand? • Can we observe any destabilizing impact of low income home ownership in the long run? 3 Motivation Arguments in favor of destabilizing impact: Low income households • face a higher income risk of unemployment • have low liquid wealth and often no buffer stock to compensate income fluctuations • are usually highly leveraged and have high interest/debt burdens • cannot rely on bailout by relatives 4 Motivation Competing arguments: Low income households are • less mobile (relative income position and regional location) -> „trading up the ladder“ is less likely • Wages are less variable than other components of income therefore total income might be less variable (as long as employed) Net effect depends on institutional framework, might be different in the housing cycle Political target high home ownership rate: Is there a potential tradeoff to the stability of housing markets? 5 Literature Review Income Mortgage market Housing demand Housing prices Volatility of Access to income in mortgage markets Structure of different Extent of low income homeownership depends on Financial leverage demand and income completeness marketsof markets and volatility of mortgage volatility (Chiuri/Japelli 2003, Bicacova/Siermienska 2007) classes Sensitivity of prices to income Low income homeowners increase price volatilityshocks depends on Income volatility andare correlated Level and volatility of income leverage (Lamont/Stein 1999, Benito 2006) (Ortalo-Magné/Rady 2002) probability mortgage (Diaz-Serrano 2004,ofDynan/Elmendorff/Sichel 2005, markets Down payment constraints affect the stability of housing default 2008)2005) (Ortalo-Magné/Rady Jensen/Shore Volatility of house prices depends on tax wedges (van den Noord 2005) Income volatility is related to mortage default (Diaz-Serrano 2004) 6 Our approach Direct analysis of impact of low income home ownership on house price volatility in a cross country comparison 13 OECD countries, 1970-2006 Panel Regression with Fixed Effects Pooled VAR 7 Data Most important problem: Data on distribution of home ownership and income • No micro data for long time horizons • Assumption of fixed distribution not realistic • But: home ownership rate might be used as a proxy for share of low income households • Empirical evidence supports this assumption 8 Data Rate of Home Ownership Stylized fact: home ownership rate and income distribution HHO Country LHO Country Income 9 Data Ratio of home ownership 2nd/9th income decile and average home ownership rate R atio of H omeowners hip R ate 2nd/9th Inc ome D ec ile 6 5 GE 4 US 3 FIN UK 2 IT 1 2 R = 0.7267 0 0% 10% 20% 30% 40% 50% 60% 70% Averag e H ome Owners hip R ate Own calculations, based on Bicacova /Siermienska (2007). Household head/spouse18-40 years old. 10 Data Ratio of home ownership 3rd/9th income decile and average home ownership rate R atio of H om eowners hip R ate 3rd/9th Inc om e D ec ile 4.5 GE 4 3.5 3 US 2.5 FIN 2 UK 1.5 1 IT 0.5 R 2 = 0.8705 0 0% 10% 20% 30% 40% 50% 60% 70% Averag e Hom e owners hip rate Own calculations, based on Bicacova /Siermienska (2007). Household head/spouse18-40 years old. 11 Data Proxy Homeownership Rate • No annual data (except UK and US) • Survey based, 4 – 10 years • Common definition: Share of owner occupied dwellings in all dwellings • Estimation of long term trends necessary Assumption: high inertia Short term fluctuations mainly reflect measurement error 12 Data House Prices • OECD Database, Girouard et al. 2006 • Heterogeneous data, focussing mostly on used family homes Other data OECD and UN, gaps filled by interpolation based on national data: • GDP per capita, long term interest rate, CPI, unemployment rate, debt/GDP-ratio 13 Descriptive Evidence Increase of Ownership Ratio 1970-2006 (Percentage Points) 25.0 IT UK NL 20.0 ES 15.0 FR IRL 10.0 SE GE CH FIN CA 5.0 US R² = 0.3876 JP 0.0 0.0% 2.0% 4.0% 6.0% 8.0% 10.0% 12.0% Standard Deviation: Annual Percentage Change of Real House Prices 14 Descriptive Evidence 90.0 Average Ownership Ratio 1970-2006 (%) 80.0 ES IRL 70.0 US FIN CA JP 60.0 FR 50.0 IT UK SE NL GE 40.0 CH 30.0 20.0 10.0 0.0 0.0% R2 = 0.1857 2.0% 4.0% 6.0% 8.0% 10.0% 12.0% Standard Deviation of Annual Percentage Change of Real House Prices 15 Methodology Multivariate Regression: Volatility of house prices • Volatility of Real Income Growth (proxied by Real GDP per Capita) Income • Unemployment rate • Interest Rate • Debt-to-GDP ratio Credit Market • House Price growth • Volatility of Inflation Rate (CPI) Prices • Home ownership rate 16 Methodology Time Period 1970 – 2006 • Problem: Measure volatility in sub periods that are long enough to show substantial variation… • …but short enough to have sufficient data points in the time series dimension • Tests with several period lengths • Finally: 11 overlapping periods of 7 years 17 Econometric Results Results of Regression for Nominal House Price Volatility Dependent Variable: Volatility of Nominal House Prices P>|t| 95 % confidence interval -0,12 0,904 -0,450 0,398 0,364 4,01 0,000 0,737 2,184 0,709 0,309 2,29 0,024 0,095 1,322 -0,327 0,244 -1,34 0,183 -0, 81 0,156 Debt to GDP Ratio 0,041 0,034 1,20 0,234 0,026 0,108 Growth Rate of Nominal House Prices 0,261 0,081 3,20 0,002 0,099 0,422 Ownership ratio 0,780 0,344 2,27 0,025 0,098 1,463 -0,005 0,005 -1,02 0,311 -0,016 0,005 Coeff. Std. Error t-value -0,026 0,214 Volatility of GDP 1,460 Interest Rate Volatility of CPI Unemployment Rate Const. R2 = 0,366 117 Observations (9 periods/13 countries) Fixed effects regression, adjusted for serial correlation. 18 Econometric Results Results of Regression for Real House Price Volatility Dependent Variable; Volatility of Real House Prices 95 % confidence interval Coeff. Std. Error t-value P>|t| -0,079 0,181 -0,44 0,663 -0,439 0,280 Volatility of GDP 1,896 0,321 5,91 0,000 1,259 2,532 Real Interest Rate 0,122 0,193 0,63 0,530 -0,261 0,505 Unemployment Rate -0,194 0,216 -0,9 0,372 -0,623 0,235 Debt to GDP Ratio 0,052 0,027 1,93 0,057 0,002 0,105 Growth Rate of Real House Prices 0,174 0,067 2,62 0,010 0,042 0,306 Ownership ratio 0,504 0,278 1,82 0,072 0,046 1,057 -0,013 0,004 -3,28 0,001 -0,020 -0,005 Volatility of CPI Const. R2 = 0,332 117 Observations (9 periods/13 countries) Fixed effects regression, adjusted for serial correlation. 19 Methodology Specification of a VAR with annual values 1970-2006 • Are house prices more sensitive to shocks in HHO vs. LHO countries? • Variables: real house prices, real interest rates, real GPD per capita, ownership ratio • 2 lags 20 Econometric Results Reaction to House Prices Reaction to GDP 4 3 3.5 2.5 3 2 2.5 2 1.5 1.5 1 GDP OR < 60 1 0.5 RHP OR < 60 0.5 GDP OR >= 60 0 RHP OR >= 60 0 1 2 3 4 5 6 7 8 9 10 1 2 3 4 5 6 7 8 9 10 Reaction to Interest Rates 0.01 0 -0.01 LI OR < 60 -0.02 LI OR >=60 -0.03 -0.04 -0.05 -0.06 -0.07 1 2 3 4 5 6 7 8 9 10 21 Conclusion Ownership rate is proxy for share of low income home owners Some evidence for a positive correlation of home ownership rate and volatility of house prices Confirms theoretical findings 22 Outlook Inclusion of better credit market indicator (mortgage market index) Account for age structures/demographic structures Test with US micro data for different regions? Refine estimation of VAR … 23 Thank you for your attention!!! Contact: Peter Westerheide ++49 621 1235 146 [email protected] 24