The Relation Between Real Estate Price Fluctuations And Bank Credit

As the real estate market across the world develops, the real estate industry is playing an increasingly important role in economic development. Real estate cycles are usually in parallel with economic cycles. When the economy booms, the rapid [development of the real estate industry leads to the raise in real estate price, development volume and turnover volume, and mortgage loans. While in economic recession, the sluggish real estate market results in a decline in real estate price and increased corporate and personal bankruptcy as well as raised mortgage default rate. As a typical capital-intensive industry, real estate development and sale are inseparable from bank credit funds. Therefore, the development of real estate market and real estate price fluctuation are closely associated with national macroeconomic policies and bank credit, especially the mutual reinforcement between real estate and bank credit (Goodhard2007), which exacerbates macroeconomic instability and imposes far-reaching impact on national economy. Therefore, an in-depth study of the interactive mechanism between real estate price and bank credit, and an analysis of the relationship between real estate prices and bank credit in China are of theoretical and practical significance. The present study consists of introduction, body and conclusion,7parts included.Chapter1discusses the background and significance of the study, offers an overview of theoretical and empirical literature related to relationships between real estate price and bank credit, and analyzes and summarizes the thoughts, methods, framework and innovations of the research.Chapter2focuses on the two-way relationship between real estate prices and bank credit with financial accelerator mechanism, which makes the pro-cyclical behaviors of the two exacerbate economic fluctuation. Interactions between real estate prices and bank credit are seen in the following three aspects. First, bank credit changes affect real estate prices. When bank credit supply is increased, such as lowered down payment or interest rate, it is easier for borrowers to obtain financing. And lowered interest rate decreases borrowers’ financing cost, thus an increased demand for real estate and raised real estate prices. Second, real estate prices fluctuations influence bank credit. Raised real estate prices not only increase borrowers’ assets therefore enhanced borrowing abilities due to reduced external financing costs, but also improve bank assets and increased willingness of lending due to a net assets rise. Therefore, real estate prices play a positive role in bank credit. Third, real estate prices and bank credit are subject to macroeconomic factors. Relieved credit constraints resulting from increased income and lowered interest rate will lead to raised real estate prices and expanded bank credit. Therefore, macroeconomic factors do have impacts on real estate prices and bank credit, and tighten the correlations among the three through the interactions between real estate prices and bank credit. The study introduces payment constraints based on the financial accelerator model, which constrains consumers’purchase demands in views of their income, current non-durable commodity consumption, predicted real estate prices, accrued items, financing cost, and down payment requirements, etc. Real estate prices are|positively influenced by income, non-durable commodity consumption, and predicted real estate prices, while are reversely influenced by consumers debt, financing cost and down payment requirements.Chapter3introduces asset price bubble theory of Flood and Garber (1980) into the financial accelerator model, and makes respective analyses of relations among estate price bubbles, bank credit expansion, and financial instability in closed and open economy. It is concluded that due to consumers’ optimistic expectations, real estate demand increases and real estate prices rise. When real estate prices exceed basic prices, real estate price bubbles come into being. Raised collateral values due to increased real estate prices lead to bank credit expansion and increase the risk of financial system. When bubbles and risks are expanded to a certain extent, a given impact upon economy may break real estate price bubbles, reduce asset prices, aggravate bad loan ratio, cause bank failures, and affect the real economy. In open economy, the mutual reinforcement between the two is also subject to fluctuations of exchange rate and international economy in addition to national economic factors, aggravating the instability of financial system. Chapter4analyzes real estate bubble cases in history and discusses the significance of the mutual reinforcement between real estate prices and bank credit in previous real estate price bubbles and financial crisis. Based on international experience, real estate prices and bank credit are pro-cyclical with each other. In an economic boom, real estate prices tend to rise together with the expansion of bank credit and attract international capital into domestic real estate market. As real estate prices continue to soar, risks accumulate. To cool the overheated economy, the government often adopts restrictive monetary policy to exacerbate personal and corporate capital chain. When foreign capitals are withdrawn from risks, financing environment is further worsened with more personal and corporate assets sold and a dramatic drop in real estate prices. Upon real estate prices drop, non-performing loan ratio increases and profitability declines. A further evolution in the vicious circle of credit crunch-real estate prices decline-non-performing loan rise-further crunch-further prices decline may lead to bank failures and financial crisis.Chapter5has confirmed interactions between real estate prices and bank credit in China through empirical researches together with potential risks of real estate mortgage. Based on ARDL model, the study explores the relationship between real estate and bank credit in China and confirms the two-way relationship between real estate prices and bank credit. Besides, given the divisibility and immovability of real estate market, regional imbalance of economic development, and differences of economic ties among provinces, the study establishes a panel data model of35cities and observes regional differential effect as well as loan control effect and financial control effect using GMM system. Empirical analyses indicate that a) inflation has long-term rather than short-term impacts on real estate prices; b) GDP, money supply and interest rate have impacts on real estate prices both in the short and long term; c) bank credit has impacts on real estate prices in a short-term and an insignificant influence in the long run, while real estate prices have impacts on bank credit both in a long term and a short term. Finally, in the study on risks resulting from real estate prices fluctuations and credit relations, the paper analyses family borrower risk and mortgage risk taking variables as family dynamic asset structure, real estate prices and predicted changes, incomes and expected usage into consideration. It is found that household debt, expected real estate prices, expected incomes and non-performing loans enjoy a positive relationship, while real estate prices, incomes and non-performing loans enjoy a reverse relationship.Chapter6analyzes macro control policies for real estate market all over the world and puts up with proposals of macro control policies for real estate market in China. Giving consideration to the low level of mortgage conducts among urban households and the low ratio of household debt and household assets, the study argues that it is a reasonable prediction that long-and medium-term mortgage loans would maintain a rapid growth and provide suggestions and policies in terms of low-income housing, credit financial, and taxes. In addition, the study examines the US financial regulatory policies’inspiration on China and assumes that regulations on real estate prices and bank credit lie in a scientific, rational and effective regulatory environment.Chapter7concludes the study.Innovations in This Study:1. Theoretical innovations are:First, the introduction of down payment constraints enriches the financial accelerator model of Aoki (2004) in real estate market. The study makes an in-depth analysis of the interaction mechanism between real estate prices and bank credit, as well as discusses the interactions among real estate prices, borrowers’net assets, and down payment constraints. Second, the asset price bubble theory is introduced. And the study offers an analysis of the correlations among real estate price bubbles, down payment constraints, bank asset quality and financial instability, and establishes a two-period model for countries of small open economy in which capital flows, exchange rates impact, and the impact of international economic fluctuations on the birth and bust of real estate price bubbles as well as on financial instability in open economy.2. In empirical research, first, based on ARDL model, the study explores the relationship between real estate and bank credit in China and confirms the two-way relationship between the two. Second, given the divisibility and immovability of real estate market, regional imbalance of economic development, and differences of economic ties among provinces, the study establishes a panel data model of35cities and observes regional differential effect as well as loan control effect and financial control effect using GMM system. Empirical analyses indicate that a) inflation has long-term rather than short-term impacts on real estate prices; b) GDP, money supply and interest rate have impacts on real estate prices both in the short and long term; c) bank credit has impacts on real estate prices in a short-term and an insignificant influence in the long run, while real estate prices have impacts on bank credit both in a long term and a short term. Finally, in the study on risks resulting from real estate prices fluctuations and credit relations, the paper analyses family borrower risk and mortgage risk taking variables as family dynamic asset structure, real estate prices and predicted changes, incomes and expected usage into consideration. It is found that household debt, expected real estate prices, expected incomes and non-performing loans enjoy a positive relationship, while real estate prices, incomes and non-performing loans enjoy a reverse relationship.3. For policy proposal, the study on real estate price fluctuation, bank credit expansion, financial crisis and corresponding macro-control policies in the US and Japan leads to suggestions on macro-control policy in China.