1 Predicting peaks and troughs in real house prices: a probit approach LIME Workshop Brussels, 8 December 2011 Paul van den Noord

2 Sharp rebounds Real house prices, index 2009Q1 = 100 Recent developments

3 Weak or faltering rebounds Real house prices, index 2009Q1 = 100 Recent developments

4 Continued slides Real house prices, index 2009Q1 = 100 Recent developments

5 Working off earlier busts Real house prices, index 2009Q1 = 100 Recent developments

6 Some unpleasant maths The theoretical model

7 Some unpleasant maths The theoretical model

8 Major peaks and troughs The empirical model Great Moderation Financial Crisis S&L, EMS, Japan OPEC I and II Peaks and troughs at least 6 quarters apart “Major” if >15% up T-P and >7½ % down P-T

9 Estimation results The empirical model (1) Peaks (2) Troughs Estimation period: 1970Q1 – 2005Q4 Coefficients Marginal effects 2 Coefficients Marginal effects 2 Real house price gap 3.90***2.19*** -4.17***-1.85*** (0.00) (0.01) Real house price (percentage change) 0.077***0.043** -0.26***-0.12** (0.00)(0.02) (0.00)(0.01) Number of peaks in other OECD countries (0.29) Long-term interest rate (log) 0.92***1.06** (0.00)(0.01) Long-term interest rate (percentage change) **-0.019** (0.03)(0.04) Inflation rate (%) 0.040**0.018** (0.03)(0.02) Residential investment (as % of GDP) 0.084*0.047* (0.05)(0.08) Unemployment gap (%) *-0.050* (0.06)(0.09) Unemployment gap (%, two years lag) (0.11)(0.18) Constant -5.31*** ***. (0.00).. Observations Correctly classified (%) Correctly classified peaks/troughs (%) Correctly classified non-peaks/non-troughs (%) ***, **, * denote significance at the 1, 5, and 10% significance levels, res pectively. P-values (in parentheses) are based on robust standard errors. Explanatory variables are averaged over two quarters (the quarter prior to a peak/trough and the same quarter when a peak/trough occurs), if not stated differently. 2. Refer to changes in percentage points, not in probabilities, and evaluated at the means of the explanatory variables. Semi-elasticity rather than a marginal effect is reported for the log of the long-term interest rate. 3. Averaged over four quarters.

10 In-sample predictions The empirical model

11 Out-of-sample predictions: peaks The empirical model

12 Out-of-sample predictions: troughs The empirical model

13 Likelihood of troughs Predictions Country Country Q,2Q,3Q,4Q Scenario 1,2,3,4 Denmark Netherlands Greece New Zealand Ireland Spain Italy United Kingdom Japan United States Korea Scenario 1 assumes constant real house prices over the projection period. 2. Scenario 2 assumes constant real house prices over the projection period and 2 percentage points higher interest rates than in the baseline by 2012Q4 (with the difference building up in a linear fashion from 2011Q3 onwards). 3. Scenario 3 assumes increasing real house prices by 10% over the projection period. 4. Scenario 2 assumes increasing real house prices over the projection period and 2 percentage points higher interest rates than in the baseline by 2012Q4 (with the difference building up in a linear fashion from 2011Q3 onwards).

14 Likelihood of peaks Predictions Country Q,2Q,3Q,4Q Scenario 1,2,3,4 Australia Norway Belgium Sweden Canada Switzerland Finland Germany France Note: + indicates a peak based on the cut-off level corresponding to the unconditional probability of a peak. 1. Scenario 1 assumes constant real house prices over the projection period. 2. Scenario 2 assumes constant real house prices over the projection period and 2 percentage points higher interest rates than in the baseline by 2012Q4 (with the difference building up in a linear fashion from 2011Q3 onwards). 3. Scenario 3 assumes increasing real house prices by 10% over the projection period. 4. Scenario 2 assumes increasing real house prices over the projection period and 2 percentage points higher interest rates than in the baseline by 2012Q4 (with the difference building up in a linear fashion from 2011Q3 onwards).

15 Forecasts The results Source: Authors’ calculations. 1.Downturns ending? United States*, United Kingdom†, Italy†, Denmark†, Greece**, Ireland**, Korea†, Netherlands†, New Zealand†, Spain** 2.Rebounds ending? France*, Canada*, Australia*, Belgium*, Finland*, Norway*, Sweden**,Switzerland † 3.Long-term declines ending ? Japan*, Germany** ___________ † No * Yes after a further fall (rise) in real prices ** Also at current real prices