Debt is the Ultimate Cause of Housing Bubbles — a Literature Review

Reviewing the housing literature on housing bubbles, debt is found to be the common linchpin.

  1. Mian and Sufi (2009, 2011) and Favara and Imbs(2015) establish the link between the surge in household debt and house prices to an expansion in the supply of credit that resulted from securitization and subprime lending. For example, Mian and Sufi (2011) find “evidence of a strong link between asset prices and household borrowing.” (p.2155) and Favara and Imbs (2015) find “a causal chain going from an expansion in credit to house prices.” (p.984)

There are two major forces that can make more mortgage debts, either it is cheap to borrow (lower real interest rate or rebates) or easy to borrow (less borrowing constraints or lending constraints).

  1. Himmelberg, Mayer, and Sinai (2005) and Mayer and Sinai (2009) find that “House Prices are More Sensitive to Changes in Real Interest Rates When Rates are Already Low…A lower real interest rate reduces the user cost because the cost of debt financing is lower, as is the opportunity cost of investing equity in a house. In practical terms, when the real interest rate is low, homeownership is relatively attractive because mortgage payments are low and alternative investments do not yield much.” (p.8).
  2. Landvoigt, Piazzesi, and Schneider (2015) also emphasize that “cheaper credit for poor households was a major driver of [house] prices.” (p.1)
  3. Favilukis, Ludvigson, and Van Nieuwerburgh (2017), on the other hand, emphasize the impact of the relaxation of borrowing constraints on house prices. They conclude that “national house prices may fluctuate considerably in response to changing financing constraints, but not in response to changing real interest rates.” (p.46)
  4. Ryan-Collins (2019) summarises the relationship by a Housing-Finance Feedback Cycle such that unlimited credit and money flows into an inherently finite supply of property, which causes rising house prices. And higher house prices would result in more credit. A strong association between mortgage credit and real house prices in advanced economies since 1870 is revealed in Figure 1.
Figure 1 source: Ryan-Collins (2019)

He also tries to explain why house supply could not help reduce house prices: “the housing–finance feedback cycle runs against standard economic theory, where an increase in the supply of goods, all else being equal, should eventually lead to a fall in prices. An ‘equilibrium’ price will be reached at the point when the quantity of goods supplied exactly matches the demand for them. But with bank credit and land, we have two phenomena that are quite unlike standard commodities. Bank credit is highly elastic and essentially infinite; in contrast, land is inherently inelastic due to its scarcity.”

In the past 50 years, “the deregulation and liberalization of the financial system … led to an enormous expansion in mortgage credit supply, flowing mainly into existing property. This has been complemented by fiscal favouritism for home ownership over other tenures, through both taxation and subsidies, leading households to increasingly view property as a financial asset as well as a consumption good, and attracting investment funds. The affordability crisis can thus be seen as primarily a demand-side problem, yet policy makers have largely focused attention on supply-side issues such as insufficient new building of homes, excessive immigration and restrictive planning rules.” (p.19)


Favara, G., and J. Imbs. 2015. Credit supply and the price of housing. American Economic Review 105:958–92

Favilukis, J., S. Ludvigson, and S. V. Nieuwerburgh. 2017. Macroeconomic implications of housing wealth, housing finance, and limited risk-sharing in general equilibrium. Journal of Political Economy 125:140–223.

Himmelberg, C., C. Mayer, and T. Sinai. 2005. Assessing high house prices: Bubbles, fundamentals, and misperceptions. Journal of Economic Perspectives 19:67–92.

Landvoigt, T., M. Piazzesi, and M. Schneider. 2015. The housing market(s) of San Diego. American Economic Review 105:1371–407.

Mian, A., and A. Sufi. 2009. The consequences of mortgage credit expansion: Evidence from the U.S. mortgage default crisis. Quarterly Journal of Economics 124:1449–96.

Mian, A., and A. Sufi. 2011. House prices, home equity-based borrowing, and the US household leverage crisis. American Economic Review 101:2132–56.

Ryan-Collins, J. 2019. Breaking the housing-finance cycle: Macroeconomic policy reforms for more affordable homes, Environment and Planning A: Economy and Space

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