Working Paper: CEPR ID: DP9978
Authors: Stefano W. Giglio; Matteo Maggiori; Johannes Stroebel
Abstract: We test for the existence of housing bubbles associated with a failure of the transversality condition that requires the present value of payments occurring infinitely far in the future to be zero. The most prominent such bubble is the classic rational bubble. We study housing markets in the U.K. and Singapore, where residential property ownership takes the form of either leaseholds or freeholds. Leaseholds are finitematurity, pre-paid, and tradable ownership contracts with maturities often exceeding 700 years. Freeholds are infinite-maturity ownership contracts. The price difference between leaseholds with extremely-long maturities and freeholds reflects the present value of a claim to the freehold after leasehold expiry, and is thus a direct empirical measure of the transversality condition. We estimate this price difference, and find no evidence for failures of the transversality condition in housing markets in the U.K. and Singapore, even during periods when a sizeable bubble was regularly thought to be present.
Keywords: asset pricing; financial crisis; house prices; rational bubbles; real estate
JEL Codes: E44; G02; G12; G14; R30
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| no classic rational bubble exists (E32) | price difference between leaseholds and freeholds is statistically indistinguishable from zero (R21) |
| price difference between leaseholds with extremely long maturities and freeholds (G19) | absence of classic rational bubble (E32) |
| absence of significant price differences between leaseholds and freeholds (R21) | no classic rational bubble exists (E32) |
| hedonic regression analyses (C29) | price difference interpreted as price of the bubble claim (b_t) (E32) |