House Prices and Interest Rates

Mortgage borrowing conditions are getting much tougher and interest rates, especially for large mortgages, seem to be going up. An interesting paper on Irish house prices uses a new approach to model the relation between interest rates and house prices. Most previous macro approaches (including my own published research on house prices - I worked as a real estate market analyst back in 1990) found a small effect for interest rates. They contrast this research with the "finance approach" which takes a very similar approach to my recent blog posts in comparing house prices to rents and alternative investments. The finance approach finds a strong effect for interest rates but can't model the effects of demographics etc. The new approach which combines elements of both finds that if interest rates had been 2% higher in Ireland than they were in fact, then house prices would have been 22% lower. A 25% cut in house prices in high end markets does not seem too extreme. It's already happened in some places like Florida.