Meaty Reading - Bank of Canada Paper on Housing

I recently read an interesting working paper published by the Bank of Canada on the correlation between the US and Canadian housing markets. Here is the summary (emphasis added):

The brief synopsis (no surpises here):

• Real estate is cyclical (it goes up and goes down)
• Real estate prices across North America are highly correlated
• Real estate prices are more volatile in Canada (this is a little surprising)

"Housing cycles in the U.S. and Canada are quite similar overall, but Canadian housing market cycles are more volatile than those in the U.S. Most notably, Canadian housing market contractions are somewhat shorter and sharper than those in U.S. cities. An average expansion lasts from five to six years in both countries and is characterized by an average increase in real prices of about 32%, although the median expansion is larger in Canadian cities (26% versus 18% growth) in our sample. In both countries, real house prices decline by 10% to 11% during an average contraction. This price decline however, occurs more rapidly in Canada since the average contraction lasts only 3.5 years in Canadian cities compared to 4.4 years in the U.S. cities.

Real house price growth rates in the two countries are quite strongly correlated at the national level and among the largest cities in both countries. Canadian cities are in the same housing cycle phase as that of the U.S. 70% of the time. Future work could examine the possibility that there is a common housing cycle in Canada and the U.S. or in broad North American regions. This would be of interest since our findings suggest a clear link between the housing markets of the two countries, yet housing is a non-tradable product.

Real policy rates and the growth of income per capita appear to have strong effects on the transition probabilities of housing market expansions and contractions. After controlling for these fundamental variables and decade-specific time effects, we still find considerable positive duration dependence in expansions, but little evidence of duration dependence in contractions. These findings suggest that fundamental factors do a fairly good job of explaining the transition of housing markets out of contractions phases.

Therefore, to the extent that policy-makers influence real income growth and real interest rates, they are likely to have a substantial effect on the duration of housing market contractions. However, the existence of significant positive duration dependence in expansion phases probably means that there are other factors such as speculation, overbuilding and surplus inventories that drive the transition of housing markets out of expansion and into contraction.

Furthermore, the duration dependence result in expansion cycles could also prove to be a useful tool for policy makers simply because it may help predict housing market turning points. So, while rising incomes and lower interest rates almost certainly played a role in the continuation of the long housing expansion that most cities in the U.S. and Canada recently experienced, these factors alone cannot fully explain its extraordinary duration."

Another interesting piece of research I read recently is by John Burns Consulting.

Yet another interesting piece of research by Robert Shiller. He examines historical house price booms and their turning points.

Have a look and let us know what you think.