Housing and Consumption: Focus on the Elasticity of Intra-temporal Substitution
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Studies to define the relationship between housing and macroeconomics along with financial crisis have never been more active than in the recent years. One of the most popular studies is to analyze the mechanism of house prices in relation to the financial market and macro-economy. In particular, the elasticity of intra-temporal substitution (EIS) between housing and consumption, together with the inter-temporal elasticity of substitution (IES), is essential in identifying the effect of house prices on macroeconomic variables. Preceding studies so far have their models mainly focused on the EIS between durable and non-durable goods consumption, but paid less attention to the EIS between housing and consumption. This paper is designed to estimate the EIS between the two series through the Bayesian estimation method by using Korean macro-data, which is a new approach. First, I develop a constant elasticity of substitution (CES) utility function and define consumers’ utility maximization problems with housing as collateral. Then I derive an empirical estimation model by linearizing the first-order conditions and Euler equation. Finally, the result shows the estimate of the EIS, 0.39, implying that housing and consumption are complements. This finding helps construct a macroeconomic housing model which better fits the data, generating the co-movement between housing and consumption. Accordingly, macroeconomic models with complementarity between housing and consumption provide the full-scale of studies as to the role of houses in macroeconomic conditions. To the extent to which housing and consumption are complements, the two series tend to move together. For robustness check, the Canonical Cointegration Regression (CCR) estimation is conducted. The result is also consistent with complementarity between housing and consumption.
Abstract
Studies to define the relationship between housing and macroeconomics along with financial crisis have never been more active than in the recent years. One of the most popular studies is to analyze the mechanism of house prices in relation to the financial market and macro-economy. In particular, the elasticity of intra-temporal substitution (EIS) between housing and consumption, together with the inter-temporal elasticity of substitution (IES), is essential in identifying the effect of house prices on macroeconomic variables. Preceding studies so far have their models mainly focused on the EIS between durable and non-durable goods consumption, but paid less attention to the EIS between housing and consumption. This paper is designed to estimate the EIS between the two series through the Bayesian estimation method by using Korean macro-data, which is a new approach. First, I develop a constant elasticity of substitution (CES) utility function and define consumers’ utility maximization problems with housing as collateral. Then I derive an empirical estimation model by linearizing the first-order conditions and Euler equation. Finally, the result shows the estimate of the EIS, 0.39, implying that housing and consumption are complements. This finding helps construct a macroeconomic housing model which better fits the data, generating the co-movement between housing and consumption. Accordingly, macroeconomic models with complementarity between housing and consumption provide the full-scale of studies as to the role of houses in macroeconomic conditions. To the extent to which housing and consumption are complements, the two series tend to move together. For robustness check, the Canonical Cointegration Regression (CCR) estimation is conducted. The result is also consistent with complementarity between housing and consumption.
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