Some points on interest rates and the creation of housing bubbles. What goes up must come down. From Voxeu.
In the aftermath of the recent global financial crisis, central banks have been widely criticised for having kept interest rates too low for too long. Several authors have argued that exceptionally low interest rates spurred excessive risk-taking in the banking sector, leading to the build-up of imbalances and finally the crisis (see eg Ciccarelli et al 2011 or Altunbas et al 2010). Since property prices have been shown to play an important role during episodes of financial instability (see among others Goodhart and Hofmann 2007 and Bank for International Settlements 2004), understanding the link between monetary policy stance and the emergence of housing bubbles has become an important and topical issue for policymakers.
Some authors have called for central banks to react to movements in asset prices (Borio and Lowe 2002, Cecchetti et al 2000), while others have shown that using monetary policy to lean against asset-price fluctuations may not be a sensible strategy (Assenmacher-Wesche and Gerlach 2008).
In a recent study (Hott and Jokipii 2012), we analyse the role that monetary policy plays in the emergence of housing bubbles. More precisely, for 14 OECD countries1 we estimate the impact of short-term interest rates that are too low for too long on the emergence of housing bubbles. This article briefly presents our results and main policy conclusions.
Full article here.