Leverage, Phase Transitions, and the Emergence of Land Price Bubbles

Abstract

We present a general equilibrium macro-finance model with a positive feedback loop between capital investment and land price. As leverage is relaxed beyond a critical value, through the financial accelerator, a phase transition occurs from balanced growth where land prices reflect fundamentals (present value of rents) to unbalanced growth where land prices grow faster than rents, generating land price bubbles. Unbalanced growth dynamics and bubbles are associated with financial loosening and technological progress. In an analytically tractable two-sector large open economy model with a unique equilibrium, financial loosening simultaneously leads to low interest rates, asset overvaluation, and top-end wealth concentration. Finally, we extend our model to include aggregate uncertainty and present a model with recurrent stochastic bubbles, with the size of land bubbles expanding and shrinking all the time, which may appear to be the random emergence and the collapse of land price bubble. Joint paper with Ryo Jinnai and Alexis Akira Toda.