In both established and emerging economies and financial markets, it is widely agreed that housing bubbles are a common phenomenon. According to Muller et al. (2010), the changes in demand and supply, shifts in population trends, growth in households, shifts in purchasing power, irrational and speculative behavior, and changes in purchasing power due to tax deduction, affordable credit, and monetary policies all contribute to the creation and influence of housing bubbles around the world. As a result of several empirical investigations, monetary policy has been statistical and econometric significance on housing bubbles in countries.
The Federal Reserve’s monetary policies before the 2008-2009 housing crisis have been widely criticized for being too loose. As a result of the contractionary measures implemented by the Federal Reserve, Greenspan (2009) claims that housing values fell in the United States, China, and many other European nations. The paper examines how the U.S and China’s housing bubbles have been affected by monetary policy using these ideas as a foundation in this study.
Monetary Policy and Housing Bubbles
Since the commodification and privatization of China’s residential real estate in 1998, the Chinese housing sector has seen phenomenal economic development. For example, according to Wu (2015), the Chinese real estate market was worth $ 13.4 trillion by the close of 2009, more than three times the country’s entire GDP at the time. As part of its mission to maintain low but steady inflation and spur economic growth in China, the People’s Bank of China, China’s central bank, has implemented monetary policies that have contributed to a surge in real estate prices (Wu, 2015). Economic analysts and Chinese officials are increasingly worried about the hazards of monetary policy-related housing bubbles in China. The concerns stem from the expansionary and contractionary monetary policies followed by the People’s Bank of China during and after the global economic downturn of 2008.
A variety of expansionary monetary measures, such as a rise in bank loans, an incline in money supply, and decreases in interest rates, were approved and implemented by the PBC to help the economy recover from the 2008-2009 economic downturn (Hu, 2012). Aside from that, the PBC also lowered the needed percentage of a home’s buying price as a down payment (Hu, 2012). This resulted in a robust response in the Chinese real estate market to the expansionary monetary policy policies above. As a result of the PBC’s monetary policies implemented in early 2009, the national house price index jumped from -1.1 percent in the 1st quarter to 5.8 percent in the final quarter (Xu and Chen, 2012).
PBC subsequently implemented a series of measures to tighten China’s monetary policies, including hiking interest rates and the reserve requirement and increasing the minimum compulsory down payment for house purchases, starting in the 2nd quarter of 2010. Additionally, the Chinese property market reacted quickly to the measures mentioned earlier of contractionary monetary policies. Furthermore, the monthly home price growth rate declined from 2.55 percent at the start of 2010 to 0.15 percent at the close of the 3rd quarter of the year (Xu and Chen, 2010). House prices continued to fall during much of 2011 and 2012, with the most significant reduction occurring in the first half of 2012. Interest rate reduction, rising money supply, and some other expansionary monetary policies have a considerable positive impact on housing prices, while also time, changes in expansionary monetary policies have a negative effect on housing prices.
The subprime lending policy has been primarily blamed for the United States housing market breakdown between 2008 and 2009. Low credit scores and poor credit histories, which prevent many people from getting a conventional mortgage, were made eligible for home loans under this strategy. Lenders gave “ninja loans,” a phrase used to characterize a form of mortgage given to persons with no income, no official word, and no assets, which caused the American housing bubble of 2008. Interestingly, home loans were provided without a down payment in the first place (Gotham 2009). When the teaser interest rates rose, borrowers found it increasingly challenging to make principal payments. Furthermore, many investors believed that they had been provided substandard loans that, if pooled, would not go bankrupt and that, given the rising value of homes, they had no need to be concerned (Gotham, 2009). Because many borrowers did not refinance their mortgages, this assumption proved erroneous, resulting in the U.S. housing bubble.
Moreover, the residential market in the United States has been in instability for a decade because of poor investment (Barth, 2009). However, economic analysts warn that the latest wave of subprime mortgages and foreclosures pose substantial hurdles to the American housing market, which will take a lot of time to recover from, despite significant progress being made. Debt defaulters were given a variety of financing options in 2006, which is widely thought to have led to the 2008-2009 housing market crisis in the United States. The subprime mortgage crisis was caused by banks and mortgage brokers offering loans to anybody who wanted them to fulfill the demand for mortgage securities.
In addition, Economic experts claim that weak monetary policy by the Federal Reserve was indeed the fundamental cause of the subprime mortgage-backed securities (MBS) market’s collapse, which revealed the American real estate market to irrational exuberance culminating in the housing bubble. In contrast to earlier analyses, this article claims that the property bubble witnessed in the United States between 1998 and 2008 was mainly attributable to lower interest rates. Significantly rising housing prices in the United States occurred between 2000 and 2005, mainly due to monetary policies like lower interest rates, more credit availability, increased financial security, and an expansion of the subprime mortgage industry.
The government’s efforts to improve U.S. economic circumstances and boost house ownership are directly responsible for housing market development (Barth, 2009). It is common knowledge that rising house prices and home sales have sparked the establishment of new houses and a rise in spending on furniture and other home-related items. The housing market in the United States performed well from the 1970s to 2005, as seen by rising demand, rising prices, and new buildings. Government programs aimed at increasing the number of people who own their own homes resulted in significant advantages. For instance, by the end of 2005, the percentage of Americans who owned their own houses had risen from 64 percent to 69 percent (Ortalo-Magne & Rady, 2016). A 5 percent rise in property ownership may seem tiny at first glance.
However, by the close of 2005, more than 6 million families had purchased their own houses. Following monetary measures in 2005, the American property market reacted ferociously, leading to unparalleled housing bubbles throughout the nation. There were also monetary policies enacted in Europe that liberalized credit and property markets, and this had a substantial impact on the housing bubble in the U.K, particularly in Germany (Dombret, 2015).
There are two basic ways in which monetary policy influences housing bubbles. The domestic channel is the most popular and often reported on. According to the evidence, reductions in interest rates and a growth in the money supply, as seen in the U.S and China, may raise household incomes. In turn, rising household income leads to more investment in the housing market, driving up the price of homes and other real estates (Dokko et al., 2011). The opposite is valid for a monetary policy of contraction. It is also possible to borrow money from banks and other financial entities. The cost of purchasing a home tends to rise when lending institutions raise their interest rates and tighten their loan requirements. There is a decline in the demand for houses and associated properties from homeowners, which causes housing prices to rise and fall.
There is a lot of literature to back up this claim that monetary policy contributes to housing bubbles. Tsatsaronis and Zhu (2014), for example, found that interest rate cuts and other forms of expansionary monetary policy had a considerable effect on property prices in developed nations. In addition, Iacoviello and Minetti (2013) found a negative link between house prices and more restrictive monetary policies. According to the research findings, the European estate market reacted severely to the effects of higher interest rates and tighter money supply rules. The expansionary monetary policy raises property values, whereas tightening monetary policy lowers them (Koivu, 2012). Based on this insight, the PBC may use the offered interbank short-term interest rate as an effective and dependable economic, monetary policy to combat housing bubbles in the nation.
As a result, it is sufficient to say that monetary policy is the primary influencer of housing bubbles in developing and developed nations. Prices for homes rise faster when monetary policy is expansionary, whereas prices rise slower when monetary policy is contractionary, leading to global housing booms. Governments must use economic, monetary policy instruments like money supply and short-term interbank rates of interest to deal with the housing bubble crisis successfully. Using these mechanisms, the housing market becomes more open to both the good and negative monetary policy impacts.
Conclusively, the monetary policy may significantly impact housing bubbles in developing and developed economies. Prices for homes rise faster when monetary policy is expansionary, whereas prices rise slower when monetary policy is contractionary, leading to global housing booms. Examples of PBC’s expansive monetary policies include raising bank lending limits, reducing interest rates and smaller necessary down payments for first-time home purchasers, and expanding the money supply in China and other Asian countries. Consequently, the Chinese real estate market responded significantly to these expansionary policy monetary measures as seen by the 6.9% incline in the national house price index between the start and final quarter of 2009.
The PBC enacted the contractionary and restrictive measures in 2010. As seen by the sharp dip in the number of real property transactions and the subsequent drop in home prices, China’s housing market responded aggressively to these monetary measures. There were similar effects on house prices of monetary policy in the United States between 2006 and 2010. As a result, governments should explore using market-based monetary policy mechanisms like short-term interbank interest rates and controlling the amount of money in circulation.
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