A Unified Credit Expansion Theory on Housing Cycle: Causal Evidence for Within- and Cross-Metro Patterns in the Prior, Boom, Bust, and Recovery Periods

Abstract

During the 1999-2019 U.S. housing cycle, three empirical facts present a puzzle: in the boom period, the correlation between income growth and mortgage growth is (1) negative across ZIP codes within a metropolitan area, but (2) positive across metropolitan areas, and (3) the metropolitan areas that experience the worst bust also show the strongest recovery. I develop a unified credit expansion theory that explains both within- and cross-metro patterns in the prior, boom, bust, and recovery periods (including the three facts above) and generates new testable implications of ``double differences" (cross ZIP codes and cross metros) for the four periods. Following the idea of ``Economic Base Theory", I construct local economic exposure to net export growth as the driving force of local economy and credit expansion. For the identification strategy, I use a new instrumental variable approach from the International trade literature for the following empirical results. First, I show that high-net-export-growth metros experience a stronger boom-bust-recovery housing cycle due to credit expansion in private-label mortgages (PLMs), rather than in government-sponsored enterprise mortgages (GSEMs), because only the former can legally respond to local economic conditions. Second, for the ``double differences", I define a low-minus-high (LMH) factor as the private-label mortgage (and house price) growth in low-income ZIP codes minus that in high-income ZIP codes within the same metropolitan area. I show that this low-minus-high factor (as a measure of credit expansion) in the high-net-export-growth metros is more positive during the boom period, more negative during the bust period, and slightly more positive in the recovery period than in the low-net-export-growth metros. Lastly, I employ five tests to demonstrate that ``speculation" is unlikely to play a dominant role in this housing cycle.