ILLIQUIDITY, THE DEMAND FOR RESIDENTIAL HOUSING, AND MONETARY POLICY

Abstract

IN ANALYZING THE EFFECTS of monetary policy on the demand for tangible consumer assets, such as consumer durables and residential housing, primary attention has been focused on interest rate and credit rationing effects. Recent work (Mishkin (21)) takes a different approach by studying the previously neglected illiquid aspect of consumer durable asset. The following results are derived: the consumer durable is a less desireable portfolio asset if (a) the consumer's debt holdings are high, (b) gross financial asset holdings are low, (c) income variance is high, or (d) expected income is low. These results stem from the illiquidity of the consumer durable asset which causes a rise in the effective opportunity cost of holding the consumer durable as the consumer's probability of encountering financial distress increases. As a result, the balance sheet position of households plays an important role in the demand for durables, and as monetary policy affects the balance sheet it also affects the demand for durables. The results of this were tested in a standard stock-adjustment model of consumer durable expenditure on postwar quarterly data; and the empirical results were quite favorable to the hypothesis.' Residential housing is also an illiquid consumer tangible asset, differing from consumer durables in that its illiquidity stems from slightly different sources. The liquidity hypothesis should thus apply to the housing asset as well. This paper adapts the liquidity theory to the housing asset and tests the hypothesis on postwar quarterly U.S. data with a model of residential housing demand. The empirical results do indeed support this hypothesis. In previous studies of the demand for residential housing, monetary policy has its major impact either through the availability of credit or the cost of financing the housing purchase.2 In addition, two novel potent channels of monetary influence