Firm Dynamism and Housing Price Volatility

Abstract

Using data for a large sample of countries, we find a robust economic and quantitatively significant positive relationship between new firm density and house price volatility. A business cycle model with endogenous firm entry, housing, and housing finance constraints successfully replicates this new fact, both qualitatively and quantitatively. Greater average firm entry is associated with higher average house prices. This makes the cost of housing loans more sensitive to housing-finance shocks, leading to sharper credit and lending-spread fluctuations, and ultimately factually-sharper house price fluctuations. We find broad empirical validation for this mechanism