Aaron Hedlund

The Cyclical Dynamics of Illiquid Housing, Debt, and Foreclosures

This paper quantitatively accounts for the cyclical dynamics of key macroeconomic housing and mortgage market variables using a tractable, search-theoretic model of housing with equilibrium mortgage default. To explain these dynamics, the model highlights the importance of liquidity spirals which arise from the interaction of search frictions and endogenous credit constraints. During housing busts, longer selling times spill over into higher foreclosure risk, thereby magnifying the response of credit constraints to the depressed housing market. This contraction in credit then deepens the downturn. During booms, the reverse occurs. Based on these insights, I consider a foreclosure reform that makes all mortgages full recourse, and I show that implementing such a reform would reduce foreclosures and dampen housing dynamics.

Illiquidity and its Discontents: Trading Delays and Foreclosures in the Housing Market

The macroeconomic effects of housing illiquidity are analyzed using a novel directed search model of housing with long-term debt and default. Debt overhang emerges when highly leveraged sellers are forced to post high prices that produce long selling delays. These delays increase foreclosures, raise default premia, and curtail credit. Cheaper credit fuels temporarily higher house prices, faster sales, and fewer foreclosures, but the borrowing surge facilitates future debt overhang and default. More stringent foreclosure punishments also expand credit and, therefore, either generate higher foreclosures or more debt overhang. Leverage caps avoid this conundrum but reduce welfare by restricting borrowing.

Rural-Urban Migration, Structural Transformation, and Housing Markets in China

This paper explores the contribution of the structural transformation and urbanization process to Chinas housing-market boom. Rural to urban migration together with regulated land supplies and developer entry restrictions can raise housing prices. This issue is examined using a multi-sector dynamic general-equilibrium model with migration and housing. Our quantitative findings suggest that this process accounts for about 80 percent of urban housing price changes. This mechanism remains valid in extensions calibrated to the two largest cities with most noticeable housing booms and to several alternative setups. Overall, supply factors and productivity account for most of the housing price growth.

Mortgage Debt, Consumption, and Illiquid Housing Markets in the Great Recession

Using a model with housing search, endogenous credit constraints, and mortgage default, this paper accounts for the housing crash from 2006 to 2011 and its implications for aggregate and cross-sectional consumption during the Great Recession. Left tail shocks to labor market uncertainty and tighter down payment requirements emerge as the key drivers. An endogenous decline in housing liquidity amplifies the recession by increasing foreclosures, contracting credit, and depressing consumption. Balance sheets act as a transmission mechanism from housing to consumption that depends on gross portfolio positions and the leverage distribution. Low interest rate policies accelerate the recovery in housing and consumption.

Accounting for the Rise in College Tuition

We develop a quantitative model of higher education to test explanations for the steep rise in college tuition between 1987 and 2010. The framework extends the quality-maximizing college paradigm of Epple, Romano, Sarpca, and Sieg (2013) and embeds it in an incomplete markets, life-cycle environment. We measure how much changes in underlying costs, reforms to the Federal Student Loan Program (FSLP), and changes in the college earnings premium have caused tuition to increase. All these changes combined generate a 106% rise in net tuition between 1987 and 2010, which more than accounts for the 78% increase seen in the data. Changes in the FSLP alone generate a 102% tuition increase, and changes in the college premium generate a 24% increase. Our findings cast doubt on Baumol’s cost disease as a driver of higher tuition.

Failure to Launch: Housing, Debt Overhang, and the Inflation Option During the Great Recession

Can inflating away nominal mortgage liabilities cure debt overhang and combat a severe housing bust? With a focus on the Great Recession, I address this question using a structural macroeconomic model of illiquid housing, endogenous credit supply, and equilibrium default. First, I show that the model successfully replicates and provides insight into the dynamics of the U.S. economy since 2006. Second, I show that temporarily raising the inflation target would have cut foreclosures by over 60% and led to a more robust recovery in real economic variables. Price-level targeting that promises to offset this temporary inflation with future disinflation has more modest positive effects. In short, forward guidance matters. Higher inflation loses its potency in the counterfactual where all homeowners have adjustable rate mortgages, which highlights the importance of nominal rigidities for the e?ectiveness of these policies. Lastly, inflation proves effective even if wages exhibit substantial nominal stickiness.