Modelling structural change in the UK housing market: A comparison of alternative house price models

Abstract

This paper develops a new approach to the modelling of house prices in the UK, with housing demand being conditioned directly on consumers' expenditure rather than the determinants of expenditure. Conditioning on consumption ensures that the permanent income measure used in determining the level of consumption is consistently reflected in housing demand. The effects of financial liberalisation on the relative consumption of housing and non-housing goods and services are captured using the average loan-value ratio for first-time buyers. We also allow for financial effects via the real user cost of home ownership. House prices are assumed to adjust so as to clear the housing market. The proposed model is found to have structurally stable parameters across the housing market downturn since 1990. Statistical comparisons with the more conventional models in use at HM Treasury and the Bank of England during the early 1990s provide additional evidence in favour of our proposed approach.