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“The relationship between house prices and income, interest rates and inflation: the Irish housing market 1997 – 2011”

Word Count: 4346

Abstract

The world has seen four major boom and bust cycles since the 1970s. Each time the housing market was highly volatile and issues were raised to inject more stability into the housing market. The uncertainty generated by housing price volatility affects us all. For individuals there is always a temptation to overextend borrowing in the boom. For lenders the risk of creating unsustainable house price bubble looms large and for governments housing market recession leads to policy changes in all major economic sectors. The property bubble in Ireland was an unsustainable bubble in the price of real estate from 1990s to 2008. The property bubble in Ireland peaked in 2006, stabilized in 2007 and the burst in 2008. Since 2007, house prices have fallen dramatically and as of February 2012, prices still continue to fall (approximately 56% from peak). The objective of this paper is to analyse selected determinants of house prices in Ireland and assess the relationship between house prices and the determinants, namely income, interest rates and inflation.

Table of Contents
1. Introduction1
1.1 Topic Rationale1
1.2 Research Objectives1
1.3 Data1
2. Literature Review2
2.1 Demand and Supply Factors of House Prices2
2.2 Equilibrium Model2
2.2.1 Aggregate Demand3
2.2.2 Aggregate Supply3
2.3 Theory/Empirical Findings3
2.3.1 Findings in other Countries3
2.3.2 Findings in Ireland5
3. Data and Methodology6
3.1 Research Objective and Hypotheses6
3.2 Data Description6
3.2.1 Y Variable – House Prices6
3.2.2 X Variables – Income, Interest Rates and Inflation7 3.3 Methodology7
3.4 Limitations7
4. Findings9
4.2 Regressions9
4.2.1 Income regression results9
4.2.2 Interest rate regression results9
4.2.3 Inflation regression results10
4.2.4 Multiple Regressions10
4.2.5 Correlation11
4.3 Summary of hypotheses11
5. Discussion12
5.1 Empirical Evidence vs. Research Findings12
5.2 Quantitative Discussion12
6. Conclusion and Recommendations14
7. Appendices15
8. References19

1. Introduction

There is an increasing body of empirical work studying house prices and their links to the macro-economy. Housing market research has been topical since its role in the recent global economic crisis, specifically referring to the recent boom in house prices in many developed countries following a sharp bust in 2008. Researches and policy makers alike have realised that housing has significant influences on the business cycle.

1.1 Topic Rationale

Most of the research papers that focus on house price determinants focus mainly on Eastern European countries. There are very few research papers available for more developed countries such as the U.K. and Ireland and very few that analyse the three independent variables of income, interest rates and inflation as house price determinants within the same paper. Hence the aim of this paper is to fill the gap in the literature by conducting an analysis of the determinants of Irish house prices in Ireland between 1997 and 2011.

1.2 Research Objectives

This paper presents three hypotheses, developed from a review of the literature. Hypothesis one states that there is a relationship between house prices and income. Hypothesis two states that there is a relationship between house prices and inflation. Hypothesis three states that there is a relationship between house prices and inflation. The objective of this paper is to determine if these hypotheses are statistically significant.

1.3 Data

Quarterly figures for house prices and each of the macroeconomic variables: income, interest rates and inflation have been collected mainly from the Statbank database hosted on CSO Ireland website.

In the next section a review of the...
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