Theory-Experimental Seminar

Luis Franjo (with L. Lambertini and S. Stepanchuk)

Swiss Federal Institute of Technology Lausanne (EPFL) and UC3M

30-Jan-2017

Seminar 2 – 12:00

Abstract

In the two decades leading to the Great Recession, the United States experienced current account deficits and rising house prices while Japan, one of its major trading partner, experienced surpluses and falling house prices. During the same time period China, also a major trading partner of the United States, had large current account surpluses together with rapid house price growth. We develop a two-country life-cycle model in which each economy is populated by agents living for three periods (young, middle-aged, and old); young households need to borrow to buy houses but can do so up to a maximum Loan-to-Value (LTV) ratio. We allow for asymmetries across countries in terms of productivity growth and the tightness of the borrowing constraint. We calibrate the model to the United States and China and show that temporarily higher productivity in China and financial integration replicate the pattern of current account balances and growth of house prices observed by the two economies. Likewise, a temporary productivity slowdown in Japan leads to surpluses and falling house prices in Japan and deficits and rising house prices in the United States. Growth differentials among trading partners are key to the relationship between the interest rate, the current account, and house prices.

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