Financial Constraints and the Income Sensitivity of Investment: Evidence From International Housing Markets

The specific conditions that characterize housing finance contracts allow me to determine a precise relationship between financial constraints and the income sensitivity of investment demand: relaxation of financial constraints is associated with higher income sensitivity of housing investment demand (and equilibrium housing prices). This implication differs from those explored in previous research about financial constraints, such as the investment-cash flow literature. I test this implication by looking at cross-country differences in the income sensitivity of housing prices. My results, which are consistent with the theoretical prediction, suggest that housing prices are more sensitive to changes in per-capita income in countries where housing finance is more developed. New York University, Stern School of Business, 40 West 4 Street, room 9-09, Tisch Hall. Email [email protected]. I especially wish to thank Yakov Amihud, Douglas Diamond, Jay Hartzell, Owen Lamont, Stephen Malpezzi, Raghuram Rajan and Luigi Zingales for their guidance and specific suggestions. I am grateful to Olympia Bover, Peter Englund, Stephen Malpezzi, Felipe Morande and Sock-Yong Phang for kindly providing me with data. I also wish to thank Darrel Duffie, Geert Rouwenhorst, Henri Servaes, Rodrigo Soares, Sheridan Titman, seminar participants at the University of Chicago, New York University, University of Illinois at Urbana-Champaign, Cornell University, Duke University, University of Texas-Austin, UCLA, University of Southern California, Stanford University, Penn State, Yale University, University of Rochester, INSEAD, London Business School, Columbia University, University of North Carolina at Chapel Hill, FGVRio, PUC-Rio and IBMEC-SP for comments and suggestions. All remaining mistakes and omissions are my own.