Price bubbles in housing markets

Abstract

Purpose The purpose of this paper is to clarify the concept of bubble, what it means to explain a bubble and propose a list of bubble indicators. Design/methodology/approach The paper is based on a literature review and some philosophical ideas to derive conclusions for the problems studied. Findings A price bubble should be defined only in relation to the development of prices: a dramatic increase immediately followed by a dramatic fall. The traditional definition in terms of prices not determined by fundamentals is problematic primarily because the concept “fundamentals” is vague. A bubble can never be explained by a single factor, but is the result of the interaction of a number of factors. The explanatory factors proposed are used to derive a set of indicators working as warning signals whether a dramatic increase in prices will be followed by a dramatic fall. The list developed covers, for example, interest costs in relation to household incomes, the elasticity of supply, price expectations and credit conditions. Research limitations/implications Both the explanatory framework and the list of indicators should be seen as preliminary and the starting point for further development through empirical testing. Practical implications A developed list of bubble indicators could be useful for a number of actors, e.g. banks and authorities responsible for monitoring financial stability. Originality/value The contribution is a clearer and more useful concept of bubble, a clearer separation of the question whether bubbles exist and how they should be explained. The proposed list of indicators goes far beyond earlier indicators.

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