Housing market dynamics in a small open economy: Do external and news shocks matter?

• We develop a DSGE model to study housing market dynamics in a small open economy.
• External and news shocks mainly drive fluctuations in housing prices and investment.
• Contemporaneous shocks to foreign housing preferences and terms of trade matter.
• News shocks to consumption-goods technology, housing preference and TOT also matter.
• External shocks have larger spillover effect on housing prices than domestic shocks.

We study the sources of fluctuations in the housing market of a small open economy. We use an estimated dynamic stochastic general equilibrium (DSGE) model and data from seven small open economies to assess the quantitative effects of both contemporaneous and news shocks to domestic and external fundamentals on housing market dynamics. External shocks and news shocks have significant effects. Cyclical fluctuations in housing prices and housing investment are mainly driven by contemporaneous shocks related to foreign housing preferences and terms of trade, and by news shocks related to domestic consumption-goods technology, housing preferences and terms of trade. The spillover effects of external shocks on housing prices are notably larger than those of domestic shocks.