An Empirical Analysis of House Price Bubble: Introduction

An Empirical Analysis of House Price Bubble: IntroductionThe real estate market is described as inefficient and imperfect as compared with other financial markets. This is due to characteristics of the real estate market, which include such influences as fewer transactions, fewer participants, less liquidity and supply rigidities. These are believed to contribute to the deviation of given real estate market prices from the properties’ fundamental values, which leads to the creation of a price bubble or boom in the real estate market. The underlying market characteristics that can impact housing purchase prices are defined as an uncodified set of variables that contribute to determining an asset’s price. These can include current values, dividends, and expectations about an asset’s value in the future. The fundamental variables which often influence house prices are interest rates, income levels and inflation. Payday Loans Online

The costs of bubbles are expensive, since they can expose a country to bubble-crashes and capital reversals. The bursting of a bubble in a housing market can generate a stronger negative impact on the economy compared with a stock market collapse. This is due to high transaction costs, illiquidity and heterogeneity of the housing characteristic. The bursting of a house price bubble leads to a slow adjustment process, as house prices tend to revert to their equilibrium price. As a result, inefficient houses prices will prevail in the market for a longer period.
As a real estate market plunges, banks and financial institutions lose billions as a result of overexpansion of the market. This loss soon spreads to other parts of the financial sector, resulting in different types of financial problems for institutions and individuals. These can include currency, banking, and stock market crises. For example, Reinhart and Rogoff (cited in Hayford and Malliaris, 2010) found that an asset price bubble is one of the main risks of systemic banking crises, due to credit over-expansion during the asset boom.
The current global financial crisis, where a wide variety of currencies are linked via the mechanisms of foreign exchange and investment, shows how a burst housing bubble can drag down the real economy globally. Since the middle 1990s, house prices in the U.S. have increased significantly. Prices continued to increase sharply even during the 2001 recession. The factors that contributed to the emergence of the US house price bubbles have included low interest rates and poor lending standards. Low interest rates are believed to be the main contributing factor to triggering the expansion (boom) in the US real estate, since this resulted in higher demand for houses as mortgage financing become cheaper. This rapid increase in house price perpetuated a large house price bubble which burst in 2007. The Federal National Mortgage Association (“Fannie Mae”) and the Federal Home Loan Mortgage Corporation (“Freddie Mac”), both U.S. Government-sponsored businesses, were the first of the big mortgage companies to get into financial trouble. Following this, organisations offering mortgage-backed securities (MBS) and collateralized debt obligations (CDOs) experienced

increasing losses (Kim & Kim, 2009). These events started a bank crisis in the U.S.