The dissertation consists of three chapters. Chapter 1: The Housing Wealth Effect on Consumption Reconsidered Most of the literature on the effect of housing wealth on consumption has been embedded in a simple life-cycle model in which housing price changes work as a “wealth effect”. In such models, windfall gains in housing always lead to positive changes in consumption. But this might constitute a fallacy of composition. Such models ignore that changes in housing prices have distributional consequences between those planning to sell their house and those planning to buy a house. Further, since most housing is not simply financed out of current cash holdings but by mortgages, the institutions on mortgage markets have to be considered when looking at the “wealth effect” of housing. To analyze this problem, an overlapping generations model is presented from which the classic Ando- Modigliani consumption function augmented by housing wealth can be deduced. It is shown that the deeper structural model from which this equation is deduced implies that changes in housing prices are not necessarily positively correlated with consumption. It will be argued that changes both in demographics (the composition of the age groups in the population) as well as in mortgage markets have led to a structural break in the effect of housing wealth on consumption in the mid-1980s in the US. To test this hypothesis, two Vector Autoregressive (VAR) models are estimated and impulse-response functions are computed. The results show that housing price changes affected consumption differently before the mid-1980s and afterward. While both models show that consumption was positively related to housing wealth shocks after the mid-1980s, there was no or even a negative relation before. This means that the housing wealth effect depends on the economic context. Only under the conditions of deregulated mortgage markets and a relatively old population could housing prices positively and markedly affect consumption and thereby the US business cycle. It is under those specific conditions that the boom and bust pattern of housing prices could become a boom and bust pattern for the US business cycle. Chapter 2: The interaction between mortgage credit and housing prices While the first chapter analyzed the effects of housing price changes on the real economy, the second chapter further analyzes how housing prices are determined and more specifically what role mortgage credit plays in the determination of housing prices. However, it is not clear ex ante how housing prices and mortgage markets interact: housing prices could drive mortgage credit or mortgage credit housing prices. In order to better understand the interaction between these two variables, the Johansen procedure is used to estimate a long run co-integration relationship between mortgage credit and housing prices between 1984 and 2012. To this effect, two models with two different housing price variables are estimated. It is found that mortgage credit is weakly exogenous. Impulse-response functions, variance decompositions and out of sample forecasts show that mortgage credit drives housing prices and not vice versa. The chapter also looks at the role of short-term and long-term interest rates. Too low monetary policy rates were often seen as one of the key reasons behind the built up of the housing price bubble. However, the models do not find important influences of both interest rates on housing prices or mortgage credit. Thus, the role of monetary policy is not likely to have been very important in the built-up of the housing bubble. Chapter 3: Decomposing the German Employment Miracle in the Great Recession The third chapter looks at the effects of the “Great Trade Collapse” on the highly exportdependent German economy. While German banks were among the largest lenders to the US and many of its banks were threatened by insolvency when US default rates increased (Acharya and Schnabl, 2010; Shin, 2012; Borio and Disyatat, 2011; Lindner, 2012), the main transmission mechanism to the German economy (and more generally to the rest of the world) seems to have been via exports and imports (Baldwin, ed, 2009; Bagliano and Morana, 2011). Indeed, the strong decrease in German exports led to the deepest recession in Germany after the Second World War. However, employment even slightly increased in the recession. The reasons for this “labor market miracle” are looked at more closely. In order to do that, de-trended, i.e. cyclical, changes in average working time and hourly labor productivity are analyzed both for the manufacturing and for the non-manufacturing sector. Decreases in both variables can buffer the effect of changes in GDP on employment. By using historical comparisons and a forecast exercise, it is found that reductions in working time indeed seem to have caused the “miracle” because they declined more than anticipated based on past experience. This unanticipated decrease mainly seems to have come from the non-manufacturing sector while working time developments were hardly surprising in the manufacturing sector, given the steep decline in GDP. Most of the instruments allowing for a reduction in average working time were negotiated in collective bargaining and were not the results of government action. It thus seems that good collective bargaining institutions are a pre-requisite for the use of work sharing as a labor-saving instrument.
