5 things to know about housing bubbles

1. Low interest rates, weakening credit standards, and lack of financial regulation are not the cause of housing bubbles; rather, they are better viewed as products of housing bubbles (Shiller 2012).

2. Housing bubbles are created when irrational public optimism and enthusiasm regarding future home values increases demand causing a region’s housing market to become overvalued (Shiller 2012).

3. This irrational exuberance is contagious and can ‘spill over’ into other regions but not necessarily the geographically closest region (Nneji et al. 2015).

4. The bursting of a bubble is caused by an event, one that results in the downward correction of current and anticipated house prices and, subsequently, the destruction of public optimism about the housing market (Duca et al. 2010).

5. When bubbles burst, house price corrections tend to be more extreme in regions that experience the largest and most rapid growth in house prices and where the ratio between house prices and rental rates is the greatest (Nneji et al. 2015).

References

Duca, J.V., Muellbauer, J., and Murphy, A. (2010). Housing markets and the financial crisis of 2007-2009: Lessons for the future. Journal of Financial Stability, 6, 203-217

Nneji, O., Brooks, C., and Ward, C.W.R. (2015). Speculative Bubble Spillovers across Regional Housing Markets. Land Economics, 91(3): 516-535

Shiller, R.J. (2012). Subprime Solution: How Today’s Global Financial Crisis Happened, and What to Do about It. Princeton, NJ: Princeton University Press

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