Inefficient Bubbly Booms?

We show the competing effects of a housing bubble on the real economy by developing a two-sector dynamic model with housing production. On the one hand, firms can sell or collateralize their houses to obtain financing, so a housing bubble helps firms obtain credit to finance their investment and expand production. On the other hand, a boom in the housing sector crowds out labor in the non-housing sector. We show that the housing booms can generate static and dynamic inefficiencies (welfare losses) only when production externalities in the non-housing sector are sufficiently large. We quantitatively evaluate our model and demonstrate its robustness with model extensions that account for the fundamental values of housing and elastic labor supply. Policies that target labor, housing transactions and output generate different welfare implications