Bubbly booms and welfare

Abstract

We show the competing effects of a housing bubble on the real economy by developing a multi-sector dynamic model with housing production. On the one hand, firms can sell or collateralize their housing, so a housing bubble helps firms obtain credit to finance their investment and expand production. On the other hand, a boom in the housing sector crowds out labor in the non-housing sector. We show that housing booms can reduce social welfare both in the steady state and in the transitional dynamics only when the production externalities in the non-housing sector are sufficiently large. We quantitatively evaluate our model and demonstrate its robustness with model extensions. Policies that target labor, housing transactions and output generate different welfare implications.