Monetary Policy Shocks and Local Housing Prices:the Transmission Mechanism

This paper examines the differential effect of monetary policy shocks on different U.S. local housing markets. Conventional methods focus solely on aggregate housing prices, but neglect useful cross-sectional variation in local housing prices. By exploiting the heterogeneity in housing supply elasticity, I provide estimates of local housing price responses to monetary policy shocks in a large sample of metropolitan statistical areas. Given an expansionary shock that decreases the Federal Funds rate by 100 basis points, housing prices increase by 12% in cities with a highly inelastic housing supply (e.g., San Francisco), but by only 1.7% in cities with a very elastic housing supply (e.g., Iowa City) at the two-year horizon. To understand the monetary policy transmission mechanism in the housing market, I develop a structural model of the housing price with information friction. The model is identified by incorporating the variation in housing supply and estimated by targeting model-implied housing price impulse responses to their empirical counterparts. Structural estimates of the model suggest that households are well-informed about changes in local housing demand but have little idea about how changes in monetary policy affect the local housing market.