Are there particular markets that are more prone to boom-and-bust cycles and, in the event of a sharp correction, are likely to have more pronounced effects on financial and economic stability? And if so, which ones? The speculative element that could result in a mispricing of risk implies that financial market excesses are likely to have their origin in markets with long-lived assets with uncertain returns such as the housing markets or the equity markets, and possibly also the market for private bonds with long maturities. Moreover, asset markets that lack effective short-selling instruments, which allow investors to address overvaluations, should also be more prone to bubble-like price deviations from fundamental values.
What are the facts? In advanced economies, stock and house price booms seem to occur rather frequently and with approximately the same frequency. Among the observed housing booms, every second one is likely to be followed by a house price bust. In equity markets, a crash follows a stock market boom only in 1 out of 6 cases. Thus, boom-and-bust cycles in housing markets occur much more frequently than in equity markets. Moreover, house price boom-bust cycles are historically associated with correspondingly larger inflation and out gap movements than stock price booms and busts.
The association of house price cycles and macroeconomic volatility is not necessarily obvious a priori. We might expect housing boom-bust cycles to have a less pronounced impact on aggregate output than equity cycles. The available evidence in many countries indeed suggests that consumption is less sensitive to housing wealth than financial wealth. This probably reflects the fact that financial wealth in many countries can be mobilised more easily for consumption than housing wealth (e.g. by selling some of the assets).
Over time, however, the effect of housing wealth on consumption seems to have increased. In the euro area, since the (early) 1990s the effect of a