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The dynamics of the house price-to-income ratio: Theory and evidence
Contemporary Economic Policy  (IF0.943),  Pub Date : 2021-06-16, DOI: 10.1111/coep.12538
Charles Ka Yui Leung, Edward Chi Ho Tang

The house price-to-income ratio (PIR) is widely used as an affordability indicator. This paper complements the cross-sectionally focused literature by proposing a tractable model for the PIR dynamics. Our model predicts that the PIR is very persistent and is correlated to the lagged aggregate output. Cross-country analysis confirms this prediction and provides evidence for a long-term, positive, and significant relationship between PIR and aggregate production. Our results hint at the construction of an early warning system for housing market mispricing. Our tractable formulation of a stochastic money growth rule may carry independent research interest.