Economic Modelling 108 (2022) 105764

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Economic Modelling
journal homepage: www.journals.elsevier.com/economic-modelling

Six types of government policies and housing prices in China☆

Zhining Hu
Department of Economics, Gettysburg College, Gettysburg, PA, 17325, USA

A R T I C L E I N F O A B S T R A C T

JEL classification: This paper investigates six different types of government policies that are frequently used to stabilize the Chinese
E61 housing market. Particularly, it identifies which type of government policy has a greater influence on the dy-
G18 namics of housing prices in China. For these purposes, we develop a dynamic stochastic general equilibrium
Keywords: model, including special aspects of the Chinese housing market such as land ownership and government policy
Chinese housing prices mechanisms. According to the findings, among all the government policies of interest, land policy plays the most
Monetary policy
important role in influencing housing prices. Although the monetary policy appears to achieve its desired effect
Macro-prudential policy
Fiscal policy
over the short term, its overall impact on housing prices is less significant than that of the land policy. Moreover,
Land policy fiscal policies, including housing subsidy, housing tax, and government expenditure policies, are far less influ-
DSGE ential than the land policy, while the role of loan-to-value-based macro-prudential policy is borderline negligible.
Collectively, these principal findings, which hold for various robustness checks, highlight the importance of the
land policy in the Chinese housing market.

1. Introduction
Housing is one of the key factors in the growth and stability of the
Chinese economy. Thus, the housing market in China has always been at
the top of its central government's agenda. Beginning in the 1990s, the
Chinese government has strived to develop a market-oriented housing
market in urban China through a series of housing reforms aimed at
expanding private property rights in housing and promoting home
ownership through privatization and commercialization of urban public
housing. These reforms have profoundly changed housing distribution
and consumption, resulting in a fast-growing housing market and
significantly improving the living conditions of the residents in urban
China. Concurrently, these reforms have generated a real estate boom
that has continued for more than two decades. In Beijing, Shanghai, and
many other cities, housing prices have skyrocketed beyond the reach of
many affluent families and speculators. In response, the Chinese gov-
ernment has implemented various regulatory measures, including mon-
etary, macro-prudential, fiscal, and land policies, all of which have
stabilized housing prices through different procedures and directions.
When the Chinese central bank implements the monetary policy, its
intent is to modify potential buyers’ borrowing ability by changing in-
terest rates and money supply and sequentially reshaping the conditions
for housing price formation (Yang et al., 2017). With regard to the
macro-prudential policy using the loan-to-value (LTV) ratio as an in-
strument, it provides a way of maintaining credit market stability and
reducing housing market fluctuations (Jung et al., 2017). In addition, the
land policy regulates the allocation and use of land (Zhang, 2008), while
the fiscal policy manages taxes and government spending and can be
further broken down into three types, including housing subsidy, housing
tax, and government expenditure policies. To elaborate, the housing
subsidy policy adjusts government spending on affordable housing pro-
jects that subsidize commercial housing purchases and offer low-price
housing to low-income families (Huang, 2012). The housing tax policy
changes the cost of holding houses through imposing or reducing housing
transaction taxes on buyers (Bian and Gete, 2015). The government
expenditure policy mainly manages fiscal spending on public goods and
services (He et al., 2017).
These six types of government policies frequently implemented to
stabilize Chinese housing prices tend to change the lending conditions,
borrowing costs, investment of housing production, households’
disposable income, and other economic fundamentals. However, expla-
nations regarding the transmission mechanisms and effectiveness of
housing-related government policies are far from complete. Therefore,
we conduct an investigation of how these government policies affect

☆
This paper has benefited from various seminar participants and colleagues. We would also like to thank journal editors and two anonymous referees for their
exceptionally thoughtful review of the earlier versions of this paper. Moreover, we are grateful to Prof. Peter Ireland for his insightful suggestions and Steven Yao for
his helpful comments and edits. All the remaining errors are our own.
E-mail address: zhu@gettysburg.edu.

https://doi.org/10.1016/j.econmod.2022.105764
Received 22 January 2021; Received in revised form 4 January 2022; Accepted 7 January 2022
Available online 13 January 2022
0264-9993/© 2022 Elsevier B.V. All rights reserved.
Z. Hu
housing prices, and which one has a greater influence on the dynamics of
housing prices. While our primary goal is to understand the importance
of the sources and consequences of housing price fluctuations, our other
motive is to advocate and further aid the development of the Chinese
housing market.
Our paper features several unique aspects that differ from previous
research. First, we develop a dynamic stochastic general equilibrium
(DSGE) model, similar to that in Iacoviello and Neri (2010), to feature
borrowing and lending across heterogeneous households and financial
frictions in the form of collateral constraints tied to housing prices.
Further, we expand our model to incorporate certain aspects of the
Chinese housing market such as the land ownership and government
policy mechanisms. Specifically, the Chinese government retains ulti-
mate ownership of all urban land, thus controlling the land market
through its monopolization of land supply without being involved in the
transfer of land-use rights (Walker and Li, 1994). Additionally, the Chi-
nese government takes an active role in managing and stabilizing the
housing market by using fiscal, monetary, and other administrative
measures. In this paper, we first capture these unique characteristics of
the Chinese housing market followed by a precise examination of the
interactions between the intertemporal choices made by the economic
agents and policy actions taken by the government.
Second, we thoroughly examine a prolific set of housing-related
government policies and evaluate each policy's quantitative effects and
implications on the dynamics of housing prices. In addition to studying
conventional fiscal policies related to taxation and government expen-
ditures, we inspect the housing subsidy policy's role in providing
affordable housing to low-income households. With regard to the mon-
etary policy, researchers often turn to the Taylor rule to determine how
central banks should alter interest rates in response to changes in the
economy. Instead, we focus on the growth of the money supply rule,
adopted by the People's Bank of China since 1998 to prevent socially
disruptive inflation and maintain nominal income growth. Further, we
take the macro-prudential policy, implemented by the monetary au-
thority to affect the LTV cap on new loans and curb a credit boom and
housing price escalation in China, into consideration. Conversely, the
land policy targets the supply side of the housing market by adjusting
land acquisition to ensure that the land necessary for real estate and
infrastructure projects is rezoned and developed. Altogether, we gain a
better understanding of how a wide range of government policies affect
housing prices in China and investigate their effectiveness in more
breadth and depth.
Third, we estimate our DSGE model by using the longest possible
dataset available, that is, 1991–2018. The length and availability of the
data allow us to extensively scrutinize the cause-and-effect relationships
and draw clearer connections between the government policies and dy-
namic performance of the Chinese housing market. With this dataset, we
conduct a more distinct analysis of a series of government policy shocks
that give rise to fluctuations in housing prices and, more clearly, trace the
shocks’ transmissions to the housing market and overall economy. Spe-
cifically, we use impulse responses and variance decomposition methods
to compare the effects of government policies on housing prices to
identify which type of government policy is most influential.
Through our research, we find that the land policy is the most sig-
nificant tool for influencing housing prices. In addition, fiscal policies,
such as housing subsidy, housing tax, and government expenditure pol-
icies, are far less successful in achieving their effects on housing price
dynamics compared to the land policy. Meanwhile, the monetary policy
not only has short-term influences on housing prices, but it also loses its
significance over time. Compared to the land policy, both the monetary
and fiscal policies have weaker effects on housing prices, whereas the
macro-prudential policy has little to no effect.
In the land-related literature, there has been a remarkable amount of
research on the land policy and inspection of specific interventions of
2
Economic Modelling 108 (2022) 105764
land use (e.g., Zhang and Xu, 2016). However, the results have not al-
ways been effectively disseminated to policymakers. Frequently, dis-
cussions on the land policy have been simply associated with either
ideological viewpoints or preconceived notions, thus lacking a careful
examination of the potential contributions of the land policy to housing
price stability, scope for interventions in the housing market, and policy
mechanisms that can be used to achieve goals of economic stability. As
such, utilization of the land policy as a catalyst for housing price change
has not yet been fully realized. In this regard, our study validates the
importance of the land policy in supporting the stability of the Chinese
housing market.
The remainder of this paper is as follows. Section 2 provides a brief
history of housing-related government policies in China, while Section 3
develops a multisector DSGE model, including key characteristics of the
Chinese economy. Section 4 estimates this model by using Bayesian
methods, while Section 5 discusses the results. Finally, Section 6 presents
the conclusions and draws implications.
2. Brief history of housing-related government policies in China
Historically, the Chinese housing market has experienced some tur-
bulent and dramatic changes. During the period between the founding of
the People's Republic of China in 1949 and 1978, more than 80% of the
housing was built by government-owned enterprises and institutions
(work units) and directly distributed to their employees as part of a
comprehensive welfare provision system (Lin, 1991). However, with the
economic reforms that began in 1978, the Chinese government con-
ducted market liberalization of urban housing reforms throughout the
1980s and early 1990s on a trial basis, with many pilot projects and
experiments. The initial attempt was made to return confiscated or
nationalized private houses to their previous owners and increase the
rental costs that urban residents paid for public housing. In 1988, a
nationwide reform was conducted to encourage home ownership by
allowing a large amount of public rental housing to be sold to employees
in work units at low prices (Man et al., 2011). In 1992, another reform of
the Chinese housing market was carried out, in which commercial de-
velopers were allowed to participate in housing construction and
development. Since then, China has come a long way toward commer-
cializing and privatizing urban houses for its citizens through three stages
as documented in Koss and Shi (2018).
The first stage of housing reforms occurred between 1993 and 1998.
During this period, the Chinese government aimed to develop a housing
market for high-income families and subsidize the supply of commercial
housing for middle- and low-income families. To achieve this goal, they
created the Housing Provident Fund in 1994, making it easier for families
to save money for a down payment. However, this policy gave way to the
first housing bubbles in several cities. When the bubbles burst, there was
a surge of non-performing assets and unfinished projects. Subsequently,
bankrupted developers, rising cases of bad loans, and thousands of un-
finished projects followed. In fact, it took many years for housing markets
and projects to recuperate from the economic crash.
Then, from 1998, the second stage of housing development began to
terminate the previous welfare-based housing allocation and establish a
market-based system for housing provision. The Chinese government
allowed high-income families to buy houses through mortgage financing,
while providing subsidized or public rental housing to selected low- and
middle-income families. These policy measures incorporated the real
estate industry as a major part of the Chinese economy. Consequently,
the development of commodity housing started, local governments were
given the ability to receive revenues from the supplementation of land to
developers, and residential mortgage became the prime medium of
housing finance for consumers. Meanwhile, the speculative behaviors of
homebuyers and excessive lending practices of state-owned banks
appeared with this boom, causing the housing market in major cities to
Z. Hu
overheat. To stabilize the housing market, the central government
implemented more than 10 measures and policies on interest rates,
lending standards, and land supply throughout the nation during
2005–2006.1 Moreover, the government tightened the monetary and
macro-prudential policies in 2007, with higher interest rates and lower
LTV ratios. These policies helped cool off housing transactions in Tier 1
cities and, more importantly, they shaped the style of the Chinese gov-
ernment's housing regulations for the next decade.
The second stage ended in 2008, and shortly after, the third stage
began. Although there were fluctuations of overheating in Tier 1 cities
with an increase in foreclosures in Tier 3 and 4 cities, the housing
development in the third stage was viewed as an opportunity to fine-tune
and mature the Chinese housing market. To reduce the impact of the
global financial crisis on the Chinese economy, the central government
supplied economic stimulus programs, which gave way to the relaxation
of the monetary policy as well as the first asset-backed securitization
programs that supported residential mortgage finance. Because of these
policies, the nationwide housing market predominantly recovered by
2009, with the exception of several cities. After this, the government
authority once again imposed a tighter restriction on housing purchases
and mortgages and higher interest rates during 2010–2011. However,
because of the decline in housing prices and depressed local markets,
they shifted back to easing housing policies with more preferential
mortgage rates, lower down payments, and increased availability of
provident fund financing in 2012. These policies resulted in overheating
in Tier 1 and 2 cities by 2013.
After the limited easing in 2012, the Chinese government issued
another policy named the “National 5,” which not only necessitated high
down payments but also enhanced real estate financial innovations.
Additionally, this policy aided international investment, expanded
Housing Provident Fund financing, and authorized more land for hous-
ing. However, the effect of the program eventually grew dependent on
civic and local standards. Soon after, land supply diminished and prices
for residential land skyrocketed. Meanwhile, “ghost towns” became
increasingly common due to excessive building and price pressures.
Hence, the central government administered another set of fiscal, eco-
nomic, and regulatory measures to the overheated cities, in which
transaction taxes were raised, tax exemptions were removed, and stan-
dards for housing transactions and loans were tightened. The govern-
ment also started creating a long-term policy framework of providing
access to affordable housing. In response, major cities offered alterna-
tives to the current residential housing system by restricting the 70-year
residential land supply and developing formal rental communities for
low- and middle-income families. Although these policies increased
home prices in Tier 1 and 2 cities, they had the opposite effect in Tier 3
and 4 cities, in which citizens were hesitant to buy homes.
In late 2016, the municipal governments of 21 significant cities
authorized a new set of limitations on purchases of investment proper-
ties. These limitations increased the down payment requirement and
mortgage rates for initial buyers such that the price growth could be
contained. Although land supplies were enlarged in the hottest Tier 1 and
2 markets in 2016 and 2017, the Chinese government set new land
auction and zoning regulations under strict limitations such as caps on
the bidding prices and restrictions of property use for developer-owned
rental projects. This new set of administrative measures was adequate
for curbing rising prices and stabilizing housing prices in key cities. Such
stabilization happened mainly because of a significant “freezing” of rapid
drops in sales volumes.
1
As shown in He et al. (2017), these measures and policies mainly include
reforming the supply structure of the real estate market, controlling land supply
and land auction prices, making better use of credit and tax breaks, speeding up
the development of affordable rental housing, and enlarging the secondary
housing market. More information can be found at https://www.yicai.com/new
s/2516382.html.
3
Economic Modelling 108 (2022) 105764
With the rapid housing growth in top-tier cities cooling, the Chinese
government turned their attention to smaller cities where housing prices
have visibly increased. Since China's housing market has become
increasingly polarized, the central government has intensified its regu-
latory efforts in recent years by reducing local governments' dependence
on revenues from the sales of land-use rights. Their efforts resulted in the
planned introduction of a national annual tax based on property value. In
2018, the central government fast-tracked its legislation agenda with the
goal of finalizing the real estate law on property tax within the next five
years. Since 2019, further legislative measures on housing, including
land supply, credit lines, taxation, and construction, have been rolled out
to stabilize the housing prices in large cities. These measures not only
provided affordable housing but also cultivated the rental market and
pushed for the development of shared-ownership.2
As reviewed above, we examine how the government has imple-
mented housing-related policies to improve the function of the Chinese
housing market across various economic circumstances. These frequently
used government policies, which mainly include monetary, fiscal, macro-
prudential, and land policies, have managed to stop housing prices from
either increasing or decreasing further. However, their effectiveness is
still a distinct challenge for policymakers. Hence, there is a strong need to
investigate and compare the effects of these government policies on
housing dynamics within a central macroeconomic framework. In the
relevant literature, researchers have mainly adopted DSGE models,
which are not only a leading framework for macroeconomic policy
analysis but also a flexible tool for quantitative analysis (Christiano et al.,
2018). Following this trend, we develop a DSGE model to capture the
interrelationships between housing prices and the government policies
frequently adopted in the Chinese housing market and subjected to a
defined set of economic shocks.
3. The dynamic stochastic general equilibrium model
The DSGE model in this paper consists of patient households, impa-
tient households, firms, and a government authority. On the demand
side, there is a continuum of households of measure unity. Additionally, a
fraction θ of all households are patient, while the remaining 1
θ of
households are impatient. Both patient and impatient households supply
labor to firms, demand housing, and consume final goods. Patient
households also act as net lenders who are characterized by a higher
discount factor, while impatient households are borrowers who face
collateral constraints dependent on housing values. On the supply side,
firms combine capital and labor to produce consumption and capital
investment in the goods production sector. As for the housing sector,
firms construct new houses by combining capital, labor, land, and in-
termediate inputs that the goods production sector produce. With respect
to the government authority, it manages the economy by employing
various administrative tools.
The basic framework described above follows that of Iacoviello and
Neri (2010). However, we go further by tailoring it to certain aspects of
the Chinese housing market. Our major modifications are as follows.
First, as the government authority retains sole ownership of land in
China, we exclude land holdings when modeling the behaviors of patient
and impatient households. In contrast to Iacoviello and Neri (2010), land
trading in our model only occurs between firms and the government
authority. Second, we incorporate six types of frequently used govern-
ment policies into our model, including monetary, macro-prudential, and
land policies as well as three types of fiscal policies. This approach
bridges the gap between the policy analysis of housing markets and DSGE
framework in Iacoviello and Neri (2010) that mainly focuses on the
interaction between housing markets and the monetary policy. Specif-
ically, we adopt an augmented McCallum rule that targets the monetary
2
https://www.bloomberg.com/news/articles/2021-03-05/china-pledges-to-
tackle-housing-problem-in-biggestcities.
Z. Hu Economic Modelling 108 (2022) 105764

base in response to the deviation of inflation and output from their where 0 < ρz < 1; 0 < ρτ < 1; 0 < ρχ < 1; and 0 < ρj < 1: The seri-
steady-state levels instead of following a Taylor-type monetary policy ally uncorrelated innovations uz;t ; uτ;t ; uχ ;t ; and uj;t ; are normally
rule as seen in Iacoviello and Neri (2010). This allows us to better fit the
distributed, with the zero means and standard deviations being σ z ; σ τ ;
conduct of the monetary policy by the Chinese central bank. As for the
σ χ ; and σ j ; respectively.
macro-prudential policy rule, we construct it based on the Taylor rule
The representative patient household enters at period t with Mt
1
formula that prescribes how policymakers should set and adjust LTV
units of money, ht
1 units of housing services, kh;t
1 units of the
ratios in response to the growth in housing prices. We also introduce
remaining undepreciated capital in the housing sector, and kc;t
1 units of
three fiscal policy rules and a land policy rule into our model in accor-
the remaining undepreciated capital in the goods production sector. At
dance with the practices of government expenditures, housing subsidies,
the beginning of period t, the patient household receives MTt units of
taxation on new houses, and land supply in China. Third, we include six
lump-sum nominal transfer from the monetary authority and Rt
1 bt
1
types of policy shocks in our model, each of which follows an exogenous
additional units of money that are paid off by the representative impa-
AR (1) process. Considering the possible correlation between housing tax
tient household. During period t, the patient household purchases ct units
and housing subsidy policies, we go further by combining their AR (1)
of finished goods and ht units of housing services and makes bt units of
processes into a VAR (1) process. This inclusion of a large set of policy
loan. Meanwhile, it acquires kc;t units of capital in the goods production
shocks allows us to evaluate the relative contributions of the government
sector along with kh;t units of capital and kb;t units of intermediate inputs
policies of interest to the variation of housing prices in China. The
priced at Pb;t in the housing sector. Moreover, the patient household pays
detailed activities of each of these economic agents in our model are as
follows. a transaction tax on housing at the rate of ψ q;t as well as the other taxes
summed up toGTt . In terms of the sources of income received by the
patient household during period t, it supplies nh;t and nc;t units of labor to
3.1. Patient households the housing and goods production sectors, which are paid at the nominal
wages wh;t and wc;t , respectively. The patient household also receives Divt
We assume that a representative patient household is infinitely lived in the form of lump-sum profits from firms and labor unions and rents
and seeks to maximize the expected utility function given by kh;t
1 and kc;t
1 units of capital at the respective rates of Rh;t and Rc;t to
  firms that are in production of new houses and consumption goods at the
X
∞
Mt
E ðβGc Þt U ct ; ; ht ; nc;t ; nh;t ; respective capital utilization rates of zh;t and zc;t . Finally, the patient
t¼0
Pt household carries Mt units of money into the next period t þ 1.
The patient household also chooses ct ; ht ; Mt ; kc;t ; kh;t ; nc;t ;
where β 2 ½0; 1 is the intertemporal discount factor, and the single- nh;t ; kb;t ; zc;t ; and zh;t to maximize the expected utility function,
period utility function takes the form of in which ct stands for con- subject to the following budget constraint for each period:
sumption, MPtt symbolizes real money balances, ht represents housing
services, nc;t refers to work hours in the goods production sector, and nh;t

 
kc;t Mt
Mt
1  wc;t wh;t 1
δkc
ct þ þ kh;t þ kb;t þ þ 1 þ ψ q;t qt ½ht
ð1
δh Þht
1  ¼ nc;t þ nh;t þ Rc;t zc;t þ kc;t
1
Ak;t Pt Xc;t Xh;t Ak;t
(6)
Rt
1 bt
1 aðzc;t Þ aðzh;t Þ
þðRh;t zh;t þ 1
δkh Þkh;t
1 þ Pb;t kb;t þ Divt þ MTt þ
bt
kc;t
1
kh;t
1
φt
GTt ;
πt Ak;t Ah;t

denotes work hours in the housing sector. The parameters ε; η; and ξ where π t ¼ PPt
1
t
is the inflation rate in the goods production sector, δkc and
measure the habit in consumption, inverse of the elasticity of work effort δkh represent the depreciation rates for capital used in the goods pro-
with respect to the real wage, and degree of substitution between work duction and housing sectors, respectively, and δh is the depreciation rate
hours in the housing and goods production sectors, respectively. More- for housing. The terms Xc;t and Xh;t denote the markups between the wage
over, Gc is the growth rate of consumption along the balanced growth paid by the wholesale firms and that paid to the labor unions in the goods
c
ε
path, while GcG
β εGc is the scaling factor ensuring that the marginal utility production and housing sectors, respectively. Moreover, φt denotes the
of consumption equals 1c at the steady state. Additionally, zt ; τt ; χ t ; total convex adjustment costs for capital, aðzc;t Þ and aðzh;t Þ are the convex
and jt are the shocks to intertemporal preferences, labor supply, money costs of setting the respective capital utilization rates zc;t and zh;t , and ψ q;t
demand, and housing demand, respectively. Each of these shocks follows captures the shock to housing taxes.
the AR (1) process as follows: Finally, Ak;t and Ah;t represent the investment-specific technology in
   the goods production sector and level of technology in the housing sector,
Mt Gc
ε respectively, as described by
U ct ; ; ht ; nc;t ; nh;t ¼ zt logðct
εct
1 Þ þ jt logðht Þ
Pt Gc
βεGc
  η  (1)
Mt τt  1þξ 1þ
1þξ
ln Ak;t ¼ t lnð1 þ γ AK Þ þ ln Zk;t ; ln Zk;t ¼ ρAK ln Zk;t
1 þ uK;t ; (7)
þ χ t log
nc;t þ n1þξ ;
Pt 1þη h;t

ln Ah;t ¼ t lnð1 þ γ AH Þ þ ln Zh;t ; ln Zh;t ¼ ρAH ln Zh;t
1 þ uH;t ; (8)

ln zt ¼ ρz ln zt
1 þ uz;t ; (2)
where γ AK denotes the net growth rate of investment-specific technology
in the goods production sector, γ AH defines the net growth rate of tech-
ln τt ¼ ρτ ln τt
1 þ uτ;t ; (3)
nology in the housing sector, and the innovations uK;t and uH;t are serially
 uncorrelated with zero means and standard deviations σ AK and σ AH ,
ln χ t ¼ 1
ρχ ln χ þ ρχ ln χ t
1 þ uχ ;t ; (4) respectively.

ln jt ¼ 1
ρj ln j þ ρj ln jt
1 þ uj;t ; (5)

4
Z. Hu Economic Modelling 108 (2022) 105764

3.2. Impatient households where α measures the labor income share of patient households, and Ac;t
captures the level of technology in the goods production sector, described
As shown below, we define the variables and parameters with a prime by
for impatient households similarly as the corresponding ones without a
prime for patient households. A representative impatient household ln Ac;t ¼ t lnð1 þ γ AC Þ þ ln Zc;t ; ln Zc;t ¼ ρAC ln Zc;t
1 þ uC;t ; (14)
seeks to maximize the expected utility function as follows:
  where γ AC denotes the net growth rate of technology in the goods pro-
X
∞
0 0 Mt
0
0 0 0 duction sector, and the innovation uC;t is serially uncorrelated with zero
E ðβ Gc Þ U ct ;t
; ht ; nc;t ; nh;t ;
t¼0
Pt mean and standard deviation σ AC .
Concerning wage stickiness, we consider nominal wage rigidities in
0
where β < β as the impatient household is assumed to be more impatient both the goods production and housing sectors. As for price stickiness, we
than the patient household. This assumption is crucial for the borrowing allow housing prices to be flexible in the housing sector, given the fact
constraint to be binding in the economy. Specifically, the single-period that housing is such an expensive asset that buyers have a large incentive
utility function takes the form to negotiate prices and that most homes are priced for the first time when
   they are sold (Iacoviello and Neri, 2010). Conversely, in the goods pro-
0 M
0
0 0 0 Gc
ε
0
 0 0 0  0 duction sector, we consider nominal price rigidity according to the Calvo
U ct ; t ; ht ; nc;t ; nh;t ¼ zt 0 0 log ct
ε ct
1 þ jt log ht
Pt Gc
β ε Gc mechanism. Based on Iacoviello and Neri's approach (2010), we write the
 0 0
 (9)
τt  0 1þξ0 0
New Keynesian Phillips curve as follows:
1þη
Mt 0 1þξ 1þξ
0
þ χ t log
0 n c;t þ n h;t ;  
Pt 1þη Xt
ln π t
lπ ln π t
1 ¼ βGc ðEt ln π tþ1
lπ ln π t Þ
επ ln þ up;t ; (15)
The impatient household does not accumulate capital and own land X
and firms but receives a housing subsidy from the government at the rate
of ψ s;t through which we can capture the shock to housing subsidies and where επ ¼ ð1
θπ Þð1
βG
θπ
c θπ Þ
;θπ is the fraction of retailers who cannot opti-
evaluate how government programs work to subsidize the housing mally set prices in each period, X is the steady-state markup over mar-
acquisition of low-income families, that is, the impatient households in ginal cost, and up;t is the independently and identically distributed cost-
our model. In addition, the maximum amount that the impatient push shock with zero mean and standard deviation σ p . Given that the
0
household can borrow, that is, bt is affected by the expected present value wage setting is analogous to the price setting, the four wage Phillips
of housing services times the LTV ratio vt . Accordingly, the impatient curves for each type of household in each production sector are similar to
0 0 0 0 0 0
household chooses ct ; ht ; bt ; Mt ; nc;t ; and nh;t to maximize the expected Equation (15), as shown in Appendix 7.1.
utility function for each period, subject to the following budget and
borrowing constraints: 3.4. The government authority

0
0 0
Mt
Mt
1 
0 0  The Chinese government often adopts the following six types of
ct þ þ ð1
ψ s;t Þ 1 þ ψ q;t qt ht
ð1
δh Þht
1
Pt policies to manage and stabilize its housing market: (1) monetary policy,
0 0
wc;t 0 wh;t 0 0 0
0
Rt
1 bt
1 0 0
which aims to control the supply of money; (2) macro-prudential policy,
¼ nc;t þ nh;t þ Divt þ MTt
þ bt
GTt ; (10) which mitigates the financial risks to the housing market; (3) land policy,
Xc;t Xh;t πt
which is associated with a change in land supply; (4) housing tax policy,
 0  which adjusts housing transaction taxes; (5) housing subsidy policy,
0 vt qtþ1 h π tþ1
b t  Et : (11) which provides affordable housing to low-income households; and (6)
Rt
government expenditure policy, which finances public goods and
services.
3.3. Firms
3.4.1. Monetary policy
On the supply side, there are two production sectors with different In order to achieve the goal of ensuring price stability and sustainable
rates of technological progress. The goods production sector uses labor economic growth, the Chinese central bank adjusts the growth of real
and capital to produce final nondurable goods Yt for consumption and money supply in response to inflation and output growth according to the
intermediate inputs kb;t for the housing sector. The housing sector pro- augmented McCallum rule that specifies a target for the monetary base
0
duces new houses IHt using labor, capital, land lt rented at period t
1, m 0t as follows:
and intermediate inputs kb;t . Both sectors pay the government taxes  rY
0 0 m00t GDPt
summed up to GTtf . Meanwhile, firms choose nc;t ; nh;t ; nc;t ; nh;t ; kc;t
1 ; 00
¼ π rπ uR;t: (16)
Gc mt Gc GDPt
1
kh;t
1 ; kb;t ; and lt
1 to maximize their profits as follows:
where uR;t is the independently and identically distributed monetary
Yt
þ qt IHt shock with zero mean and standard deviationσ R . Concerning the in-
Xt
" # struments of monetary policy, China sharply differs from many other
X X 0 0 X

wi;t ni;t þ wi;t ni;t þ Ri;t zi;t ki;t
1 þ Rl;t lt
1 þ Pb;t kb;t þ GTtf ; economies as the country has used money supply as its main tool for
i¼c;h i¼c;h i¼c;h conducting monetary policy since 1998. Therefore, the growth rate of
money that appears in the above formula seems to match China's mon-
where Xt is the markup of the final goods over the wholesale goods. As for etary policy in reality (Wen and He, 2015).
the production technologies, they are given by
  1
μc 3.4.2. Macro-prudential policy
1
α
Yt ¼ Ac;t nαc;t n0 c;t ðzc;t kc;t
1 Þμc ; (12) As previously discussed, the mandate of the monetary policy is to
foster economic conditions that achieve both stable prices and sustain-
  1
μc
μb
μl able economic growth. However, it alone cannot deal with the potential
1
α μ μl
IHt ¼ Ah;t nαh;t n0 h;t ðzh;t kh;t
1 Þμh kb;tb lt
1 ; (13) instability of financial markets. This is where macro-prudential regula-
tions come in with the objective of safeguarding the health of financial

5
Z. Hu Economic Modelling 108 (2022) 105764

systems and enhancing the resilience of financial markets. In China, the limits their speculations.
monetary and macro-prudential policies jointly make up a “twin pillar” As it is possible for housing tax and subsidies (ψ s;t and ψ q;t ) to be
framework for the central bank.3 To maintain housing price stability, the correlated, we assume that shocks to housing subsidy and tax policies are
government implements the macro-prudential policy in terms of regu- distributed with zero mean but display both persistence across time and
lating the LTV ratio in housing credit4 described as follows: correlation in the current period. Following the approach in Juillard and
!  
rq 1
lv Villemot (2009), we define the joint process for ψ s;t and ψ q;t as
qt qt qt
vt ¼ ðvt
1 Þlv
ðvvÞ1
lv uv;t ; (17)       
Gq qt
1 Gq qt
1 Gq qt
1 lnðψ s;t Þ ρψ q ρψ s lnðψ s;t
1 Þ uψ s;t
¼ þ ; (20)
ln ψ q;t ρψ s ρψ q ln ψ q;t
1 uψ q;t
where Gq is the growth rate of housing prices along the balanced growth    
path, vv is the steady-state LTV ratio, rq measures the response of the LTV
ratio to the housing price growth, and uv;t is the independently and
identically distributed shock to the LTV ratio with zero mean and stan-
dard deviation σ v .
3.4.3. Government expenditure policy
In our model, the fiscal authority finances its expenditures through
the taxes collected from two types of households and firms as follows:
transaction taxes on new houses and land income.5 Meanwhile, the
government subsidizes the low-income households’ purchases of housing
by transferring its fiscal resources. Hence, the government budget
constraint is written as follows:
0
Gt ¼ GTt þ GTt þ GTtf þ ψ q;t qt IHt þ Rl;t lt
1
ψ s;t qt Ht :
0
Above, Gt is the government expenditure given by
Gt ¼ ðGt
1 Þlg ðGÞ1
lg ug;t ;
where G is the steady-state government expenditure, and ug;t is the
independently and identically distributed shock to government expen-
diture policy with zero mean and standard deviation σ g .
where ρψ q þ ρψ s  < 1 and ρψ q
ρψ s  < 1 for the sake of stationarity.6
Additionally, uψ s;t is the shock to housing subsidy that is normally
distributed with zero mean (i.e., Eðuψ s;t Þ ¼ 0) and standard deviation σ ψ s
(i.e., Eðuψ s;t ; uψ s;m Þ ¼ σ 2ψ s ; if t ¼ m; otherwise; Eðuψ s;t ; uψ s;m Þ ¼ 0;
if t 6¼ m). Similarly, uψ q;t is the shock to the housing tax, which is
normally distributed with zero mean (i.e., Eðuψ q;t ; uψ q;m Þ ¼ σ 2ψ q ; if t ¼
m; otherwise; Eðuψ q;t ; uψ q;m Þ ¼ 0; if t 6¼ m). Then, the covariance
between these shocks equals Eðuψ s;t ; uψ q;m Þ ¼ φσ ψ s σ ψ q ; if t ¼
m; otherwise; Eðuψ s;t ; uψ q;m Þ ¼ 0; if t 6¼ m.
3.4.6. Land policy
Land policy in China also differs from those in other countries. Ac-
(18) cording to the Land Management Code and Urban Real Estate Manage-
ment Code, land developers have no right to trade land in China. As the
only supplier of land, the Chinese government can distribute the quotas
of construction land among provinces and allocate land use, mainly
(19) through auctions. Given this special feature, we describe the Chinese land
policy as
ul;t
lt ¼ ðlt
1 Þll ðlÞ1
ll ; (21)
Sl;t

3.4.4. Housing subsidy policy where l is the steady-state land price, ul;t is the independently and
In order to alleviate housing costs and expenses for impoverished identically distributed shock to land supply with zero mean and standard
households, the Chinese government has been subsidizing commercial deviation σ l , and Sl;t captures the shock to land policy (i.e., shifts in the
house purchases and offering low-rent public housing to low-income Chinese government's target for land allocation and use) following the
families since the 1990s. The subsidy policy primarily includes the Eco- AR (1) process as follows:
nomic and Comfortable Housing (ECH) and Housing Provident Fund
ln Sl;t ¼ ρsl ln Sl;t
1 þ usl;t ; (22)
(HPF) programs. The former subsidizes real estate developers and prices
ECH units substantially lower than market rates, while the latter is a where 0 < ρsl < 1, and the zero mean, serially uncorrelated innovation
compulsory savings plan with contributions by both employers and em- usl;t is normally distributed with standard deviation σ sl .
ployees for housing purposes in addition to providing mortgages at a
subsidized rate to facilitate home purchases.
3.5. Market equilibrium
3.4.5. Housing tax policy
The Chinese government has often used tax policies to stimulate or The market-clearing conditions for the goods, housing, money, and
cool the housing market. Whenever the government increases the loan markets are given by
housing tax rate, households must spend more money on holding houses, IKc;t
which decreases their preferences of purchasing and holding houses and Ct þ þ IKh;t þ kb;t þ Gt ¼ Yt
φt ; (23)
Ak;t

Ht
ð1
δh ÞHt
1 ¼ IHt ; (24)

3
http://usa.chinadaily.com.cn/business/2017-11/20/content/_34757809.h
tm. Mt00 Mt
1
00
4
Chen et al. (2020) pointed out that there has been a large unexpected change
¼ þ MTt00 ; (25)
Pt Pt
in China's LTV policy, especially during 2014–2016. They also found that the
relaxation of China's LTV ratio for secondary houses plays a crucial role in 0
bt
bt ¼ 0; (26)
fueling the entire mortgage boom, including mortgages on primary houses. The
LTV policy includes two separate components as follows: the minimum down 0
payment for financing (1) the primary home and (2) a second house or addi- where Ct ¼ ct þ ct is the aggregate consumption,
tional houses. Here we focus on the average LTV ratio and consider it change- IKc;t ¼ kc;t
ð1
δkc Þkc;t
1 and IKh;t ¼ kh;t
ð1
δkh Þkh;t
1 are the two
able given that the LTV ratio on a second or additional houses has been more
unstable than that on the primary home.
5 6
For simplicity, we exclude the taxes collected from the two types of Regarding the processes for the housing tax and subsidies denoted by, they
households and firms in our analysis. We mainly focus on the association be- are specified in logs. Hence, their lower bound of zero is automatically enforced.
tween the government expenditure policy and housing market when solving and Given the calibrated steady-state values from Table 1 in our paper, it is highly
estimating our DSGE model. unlikely that ψ q;t and ψ s;t will exceed one.

6
Z. Hu Economic Modelling 108 (2022) 105764

components of investment in the goods production and housing sectors, Table 1

0 0 0
Ht ¼ ht þ ht is the aggregate stock of housing, M 0t ¼ Mt þ Mt is the Calibration of parameters.
0 0
aggregate stock of nominal money, and MT 0t ¼ MTt þ MTt is the aggre- Parameter Value Description
gate stock of lump-sum nominal transfer from the monetary authority. β 0.9552 Discount Factor of Patient Households
β' 0.9335 Discount Factor of Impatient Households
3.6. Growth rates j 0.12 Housing Preference
μc 0.46 Capital Share in the Goods Production Sector
μh 0.14 Capital Share in the Housing Sector
As technologies Ak;t ; Ac;t ; and Ah;t in the two production sectors μl 0.1 Land Share in the Housing Sector
grow at the different rates of γ AK ; γ AC ; and γ AH ; respectively, as in μb 0.1 Intermediate Share in the Housing Sector
Iacoviello and Neri (2010), the growth rates of the real variables along a δkc 0.11 Depreciation Rate for Capital in the Goods Production Sector
δkh 0.13 Depreciation Rate for Housing in the Goods Production
balanced growth path are determined by
Sector
μc δh 0.045 Depreciation Rate for Capital in the Housing Sector
Gc ¼ GIKh ¼ GqIH ¼ Gm ¼ 1 þ γ AC þ γ AK ; (27) Ψq 0.055 Housing Transaction Tax Rate
1
μc ψs 0.15 Housing Subsidy Rate
χ 0.2 The Weight on Money Holding in the Utility Function
1 X 1.15 Price Markup in the Goods Production Sector
GIKc ¼ 1 þ γ AC þ γ ; (28)
1
μc AK Xwc 1.15 Wage Markup in the Goods Production Sector
Xwh 1.15 Wage Markup in the Housing Sector

μc ðμh þ μl þ μb Þ
GIH ¼ 1 þ ðμh þ μl þ μb Þγ AC þ γ AK þ ð1
μh
μl
μb Þγ AH ;
1
μc
(29)
μc ð1
μh
μl
μb Þ
Gq ¼ 1 þ ð1
μh
μl
μb Þγ AC þ γ AK
1
μc

ð1
μh
μl
μb Þγ AH : (30)
As shown above, Gc stands for the trend growth rate of real con-
sumption, GIKc measures the trend growth rate of nonresidential invest-
ment in the goods production sector, GIKh denotes the trend growth rate
of residential investment in the housing sector, Gm indicates the trend
growth rate of real money supply, GIH symbolizes the trend growth of
new housing production, and Gq represents the trend growth of real
housing prices.
4. Data and estimation
To quantitatively analyze our model, we parameterize the linearized
model equations that describe the equilibrium of the model around the
balanced growth path by using a combination of calibration and Bayesian
estimation approaches. We start by calibrating some of our model's pa-
rameters such that the steady-state values of key variables match their
average values in the data. Specifically, we set the representative patient
household's discount factor β to be equal to 0.9552 as R ¼ 1β in the steady
state, and the average annual call rate (R) is 4.69% during the data
period, i.e., during 1991–2018. Meanwhile, the representative impatient
household, being more impatient, is subject to a smaller discount factor
0
(β ) equal to 0.9335 given that β0 ¼ 1.0232 as assumed in Iacoviello and
β
Neri (2010).
Following the literature, we set the price and wage markups in the
goods production and housing sectors to be equal to 1.15, i.e. X ¼ Xwc ¼
Xwh ¼ 1:15, which implies a 15% markup in the steady state. We also set
the mean value of the weight of housing in the households’ utility
function (j) equal to 0.12 to match the ratio of real residential investment
to real gross domestic product (GDP) in the collected data (0.07) and the
depreciation rate of housing (0.045). Additionally, the mean value of the
weight of money in the utility function (χ ) is equal to 0.2, which, on the
one hand, closely fits the ratio of real money to real GDP in the data. On
the other hand, it is consistent with previous research on the inverse of
the elasticity of money holding (Sun and Sen, 2011). In line with Bian
and Gete (2015) and Wen and He (2015), we set the values of the
following calibrated parameters to match the real economic situations of
China. First, the steady-state housing transaction tax rate (ψ q ) equals
0.055, reflecting the average value of housing transaction tax in the
Chinese housing market. Second, the capital share (μc ) in the
non-housing sector is 0.46, while in the housing sector, the capital share
Note: This table reports the calibrated values for the discount parameters (β, β'),
weight on housing in the utility function (j), technology parameters (μc, μh, μl, μb,
δkc, δkh, and δh), housing transaction tax and subsidy rates (ψq, ψs), weight on
money holding in the utility function (χ), and steady-state gross price and wage
markups (X, Xwc, and Xwh).
(μh ), share of intermediate goods (μb ), and land share (μl ) are 0.14, 0.1,
and 0.1, respectively. We set the depreciation rate for housing to be equal
to 0.045, corroborating with the fact that workers in the housing sector
account for approximately 7% of the population. Third, the depreciation
rates for capital (δkc and δkh ) in the goods production and housing sectors
are equal to 0.11 and 0.13, respectively, which implies that construction
equipment wears out more quickly than other types of non-construction
equipment. Altogether, the values of the calibrated parameters discussed
above can be found in Table 1.
Next, we move on to estimate the other parameters in our model by
using Bayesian techniques.7 To achieve this goal, we begin by collecting
data on 10 variables, including consumption (Ct ), residential investment
(IHt ), nonresidential investment (IKt ), housing prices (qt ), inflation (π t ),
0
real money supply (m 0t ), hours worked (nh;t nc;t ) in the housing and goods
production sectors, and wage inflation (wh;t wc;t ) in the housing and
wholesale sectors from 1991 to 2018. We extract the majority of the data
from China Statistical Yearbooks and China Labor Statistical Yearbooks.
The selected sample period depends on the availability of data regarding
housing prices.
When preparing our data, we demean the series for price inflation,
wage inflation, and hours worked from their average levels. Likewise, the
remaining series, which display trends in the data, are expressed as
logarithmic deviations from their 1991 levels.8 Although this trans-
formation has the effect of removing each variable's level information, it
leaves the trend rate of growth in the data for the purpose of estimating
the growth rate parameters that appear in Equations 27–30. Fig. 1 plots
the data series, while Appendix 7.2 describes the data sources.
We then take the transformed data to the model, in which the non-
trending variables are measured as logarithmic deviations from their
steady-state levels determined by the calibrated parameters. The
remaining variables, in both the data and model display trends, are
scaled by their deterministic trends and measured as logarithmic
7
There could be other ways of estimating the model such as impulse response
matching. However, our research purpose is not to specifically learn about the
effects of one type of shock as in Christiano et al. (2005) who focused on
monetary policy shock. Instead, our main goal is to gauge the relative impor-
tance of various government policies, which influences us to utilize a
full-information approach.
8
We take away the first observation in 1991 from the trending series, as we
do not use information on the long-term averages of the detrended data.

7
Z. Hu Economic Modelling 108 (2022) 105764

Fig. 1. Data. Note: This figure reports the data used for the estimation of model parameters. Consumption (Ct), Nonresidential investment (IKt), residential investment
0
(IHt) and money supply (m 0t ) are divided by population and are expressed as logarithmic deviations from their 1991 levels. Price inflation (π t ), hours worked (nct, nht),
and wage inflations (wct, wht) are demeaned from their average levels.

deviations from their steady state and as detrended values determined by
the growth rates in Equations 27–30 and the calibrated/estimated pa-
rameters. Appendix 7.3 explains the data constructions in detail.
We also estimate our model's remaining parameters based on the
dynamics in the demeaned and detrended series. Tables 2 and 3 report
the posterior mean and 95% confidence interval for each of the estimated
parameters in our model along with the mean and standard deviation of
each parameter's prior distribution. The assumptions for the prior dis-
tributions of these parameters are consistent with those in Iacoviello and
Neri (2010) or within the range of the values often adopted in the
monetary and business cycle literature. To elaborate, we set the prior
mean determining the share of labor income (α) to be equal to 0.65. In

8
Z. Hu Economic Modelling 108 (2022) 105764

Table 2 Table 3
Prior and posterior distribution of the structural parameters. Prior and posterior distribution of the shock processes.
Parameter Prior Distribution Posterior Distribution Parameter Prior Distribution Posterior Distribution

Density Mean Std. Dev. Mean 2.5% 97.5% Density Mean Std. Dev. Mean 2.5% 97.5%

α beta 0.65 0.05 0.6962 0.6584 0.7277 ρAC beta 0.8 0.1 0.9109 0.8842 0.9368
ε beta 0.5 0.075 0.4357 0.3878 0.4882 ρAH beta 0.8 0.1 0.9808 0.9712 0.9899
ε' beta 0.5 0.075 0.5619 0.5160 0.5965 ρj beta 0.8 0.1 0.8270 0.7637 0.9145
ƞ gamma 0.5 0.1 0.4964 0.4402 0.5439 ρAK beta 0.8 0.1 0.8315 0.7787 0.8749
ƞ' gamma 0.5 0.1 0.5120 0.4578 0.5748 ρτ beta 0.8 0.1 0.9790 0.9707 0.9880
φkc gamma 10 2.5 11.4532 10.2375 12.9228 ρz beta 0.8 0.1 0.9528 0.9428 0.9672
φkh gamma 10 2.5 9.4818 6.4396 12.5071 ρψ q beta 0.8 0.1 0.9097 0.8635 0.9597
Ɩπ beta 0.5 0.2 0.7832 0.6588 0.8886 ρψ s beta 0.8 0.1 0.0024 0.0005 0.0046
Ɩ wc beta 0.5 0.2 0.0909 0.0367 0.1405 ρχ beta 0.8 0.1 0.8396 0.7999 0.8895
Ɩ wh beta 0.5 0.2 0.1704 0.0545 0.2768 ρsl beta 0.8 0.1 0.5146 0.4461 0.5751
ξ norm
1 0.1
1.1943
1.2427
1.1304 σ Ac inv. gamma 0.001 0.01 0.1303 0.1250 0.1384
ξ0 norm
1 0.1
0.8747
0.9490
0.7639 σ AH inv. gamma 0.001 0.01 0.0282 0.0243 0.0313
θπ beta 0.667 0.05 0.8326 0.8187 0.8428 σj inv. gamma 0.001 0.01 0.0008 0.0002 0.0014
θwc beta 0.667 0.05 0.6376 0.6020 0.6781 σk inv. gamma 0.001 0.01 0.0792 0.0709 0.0852
θwh beta 0.667 0.05 0.4890 0.4656 0.5125 στ inv. gamma 0.001 0.01 0.0496 0.0423 0.0544
γ AC norm 0.005 0.01 0.0109 0.0073 0.0136 σz inv. gamma 0.001 0.01 0.1145 0.1064 0.1231
γ AH norm 0.005 0.01 0.0275 0.0237 0.0311 σψ q inv. gamma 0.001 0.01 0.0011 0.0006 0.0019
γ AK norm 0.005 0.01 0.0208 0.0183 0.0239 σψ s inv. gamma 0.001 0.01 0.0902 0.0803 0.1003
ζ beta 0.5 0.2 0.6155 0.4569 0.7998 σχ inv. gamma 0.001 0.01 0.1666 0.1610 0.1721
rπ norm
1.5 0.1
1.6571
1.7161
1.5895 σ sl inv. gamma 0.001 0.01 0.0752 0.0664 0.0836
rY norm
0.5 0.1
0.5976
0.6441
0.5401 σp inv. gamma 0.001 0.01 0.0570 0.0490 0.0653
Ɩv beta 0.5 0.2 0.7950 0.7624 0.8416 σR inv. gamma 0.001 0.01 0.0497 0.0439 0.0574
Ɩq norm
1.5 0.1
1.3416
1.3971
1.2773 σv inv. gamma 0.001 0.01 0.0693 0.0568 0.0834
Ɩl beta 0.5 0.2 0.7832 0.6588 0.8886 σl inv. gamma 0.001 0.01 0.0008 0.0003 0.0012
Ɩg beta 0.5 0.2 0.9867 0.9828 0.9900 σg inv. gamma 0.001 0.01 0.0435 0.0370 0.0485

Note: This table reports the prior and posterior distributions for the share of labor
income (α), habit parameters in consumption for patient and impatient house-
holds (ε, ε'), inverse elasticity of work effort for patient and impatient households
(ƞ, ƞ'), capital adjustment costs (φkc, φkh), price and wage indexation parameters
(Ɩ π, Ɩ wc, and Ɩ wh), inverse elasticity of substitution across hours in the housing
and non-housing sectors (ξ, ξ0 ), Calvo price and wage parameters (θπ, θwc, and
θwh), trend growth rates of technology (γAC, γAH, and γAK), capital utilization
parameter (ζ), and parameters in the monetary policy (rπ, rY), macro-prudential
policy (Ɩ v, Ɩ q), land policy (Ɩ l), and government expenditure policy rules (Ɩ g).
addition, the prior means of the habit parameters in consumption (ε and
0
ε ) are both 0.5, while such means for the inverse of the elasticity of work
0
effort with respect to the real wage (η and η ) are also 0.5. As for the prior
values of φkc and φkh representing capital adjustment costs in the goods
production and housing sectors, they are both 10.
Additionally, we set the prior means for the price and wage index-
0
ation parameters (lπ , lwc and lwh ) at 0.5, while the priors of ξ and ξ
describing the inverse elasticity of substitution across hours in the two
sectors center around 1. We also choose the prior means of the param-
eters determining wage stickiness (θwc andθwh ) to be equal to 0.667,
while the prior mean of the parameter for Calvo price stickiness (θπ ) is
0.667, indicating that approximately one-third of the firms optimally
adjust their prices in each period. Moreover, we set the prior means of
γ AH and γ Ac to be equal to 0.02 to measure the trend growth rates of
productivity in the housing and non-housing sectors, respectively.
Further, we set the prior mean of γ AK to be equal to 0.02, which repre-
sents the trend growth rate of investment-specific technology in the
goods production sector.
As for the other aspects, the prior mean for the capital utilization
parameter ζ is equal to 0.5. In the monetary policy rule responding to
inflation and output, we set the prior means of rπ and rY to be 1.5 and 0.5,
respectively. Similarly, for the macro-prudential policy responding to the
LTV ratio, we set the prior means of lv and rq to be 0.5 and 1.5, respec-
tively. For the land policy responding to the land cost, we set the prior
mean of ll to be 0.5. We also select lg at the prior mean of 0.5 in the
government expenditure policy rule. Finally, we choose the prior distri-
butions for the AR (1) shock processes under the assumption of an inverse
gamma distribution, with a mean of 0.001 and a standard deviation of
0.01.
Note: This table reports the prior and posterior distributions of the parameters in
the shock processes. The shocks include technology shock in the goods produc-
tion sector (ρAC), technology shock in the housing sector (ρAH), investment-
specific technology shock in the goods production sector (ρAK), housing prefer-
ence shock (ρj), labor supply shock (ρτ), consumption preference shock (ρz),
housing tax shock (ρψq), housing subsidy shock (ρψs), money-holding preference
shock (ρχ), and land policy shock (ρsl), with standard deviations σAc, σAH, σk, σj,
στ, σz, σψq, σψs, σχ, and σsl, respectively. In addition, σp, σR, σv, σl, and σg are
respective standard deviations of the shocks to cost-push, monetary, macro-
prudential, land supply, and government expenditure policies.
Regarding the posterior distributions of the parameters, they are close
to their prior distributions. The estimate of the labor income share (α) is
approximately 0.6962, which means that the share of labor income
earned by the impatient households is roughly 30%. Meanwhile, the
0
posterior mean values for ε and ε are 0.4357 and 0.5619, respectively,
indicating that both patient and impatient households have a moderate
degree of habit formation in consumption. Comparatively, the degree of
consumption habit that impatient households have is larger than that for
patient households as impatient households are not capital holders and
cannot smooth their consumption through savings. Turning to the pos-
0
terior distributions of η andη , their posterior values of 0.4964 and 0.5120
imply that the data does not convey much information about the
persistence of labor supply elasticity. The posterior value for φkC ¼
11.4532 is larger than the prior value of 10, indicating a low efficiency of
capital utilization in the goods production sector. In contrast, φkh ¼
9.4818 shows that the housing production sector has a higher efficiency
of capital utilization than the goods production sector.
With respect to wage indexation, lwc ¼ 0.0909 and lwh ¼ 0.1704
illustrate that such indexation is larger in the housing sector than in the
non-housing sector. Concerning nominal rigidities, the housing sector is
associated with a lower degree of wage stickiness than the non-housing
sector given θwc ¼ 0.6376 and θwh ¼ 0.4890. Along with the degree of
Calvo price stickiness θπ ¼ 0.8326, the estimates for price and wage
stickiness imply that there is an underdevelopment of market mecha-
nisms and a high degree of regulation on the prices and wages by the
Chinese government. The degree of price indexation (lπ ¼ 0.7832) also
implies that inflation depends more on the expected future inflation than
the past inflation in China. In other words, according to the inflation

9
Z. Hu Economic Modelling 108 (2022) 105764

equation, forward-looking information plays a more important role than identify which policy shocks are important in explaining the variation in
backward-looking information in the inflation formation process. Given housing prices.
the posteriors for the trend growth rates of technology in the two pro-
duction sectors (γ AC ¼ 0.0109 and γ AH ¼ 0.0275) and investment-specific
5.1. Impulse responses to government policy shocks
technology in the goods production sector (γ AK ¼ 0.0208), productivity
in the housing sector grows the fastest. Meanwhile, the posterior pa-
Based on the estimation results in Section 4, we calculate the impulse
rameters that govern the effects of government policies on the dynamics
responses to a series of structural shocks in our DSGE model and display
of Chinese business cycles are in line with previous literature. Specif-
them in Figs. 2–7 as the reactions of economic fundamental variables to a
ically, the monetary policy in response to inflation and output takes on
one-standard-deviation of policy-related shock in the initial period. Ac-
the values of rπ ¼
1:6571 and rY ¼
0.5976, respectively, confirming
cording to the findings, the impulse responses from housing prices to the
that the monetary authority strongly reacts to inflation but gives a lower
shocks to land, housing tax, housing subsidy, and government expendi-
response to output.
ture policies are statistically significant over our entire data period.
Finally, the government expenditure policy with lg ¼ 0.9867 dem-
Meanwhile, the impulse responses from housing prices to monetary and
onstrates the importance of the previous policy in guiding present poli-
macro-prudential policy shocks are only statistically significant in the
cymaking. The macro-prudential policy with the LTV ratio, as a policy
short run but become statistically insignificant after five and three pe-
instrument, displays a strong degree of inertia in the LTV ratio with lv ¼
riods, respectively. These results indicate that the latter group of gov-
0.7950. Furthermore, the land policy has a fairly high response to the
ernment policies has short-term effects on housing prices.
past cost of land, as shown by ll ¼ 0.7832. All the structural shocks are
In the following, we discuss in more depth how shocks to each gov-
also persistent with the autocorrelation coefficients, ranging from 0.5146
ernment policy of interest influence housing prices and other economic
to 0.9808. Compared to other shocks, the shock to housing productivity
fundamentals, such as consumption, investment, GDP, and money sup-
is most persistent, implying that significant technological progress is
ply, all of which are expressed in real terms.
occurring in China's housing sector.
5.1.1. Monetary policy shock
5. Results and analyses
In general, the tightening of monetary policy corresponds to a
decrease in money supply. On impact, consumption, housing investment,
In this section, we examine the quantitative results and discuss their
and nonresidential investment immediately decline. Accordingly, the
implications based on the calibrated and estimated parameters from
GDP decreases in line with its components. Meanwhile, housing prices
Section 4. Particularly, we adopt the method of impulse responses to
respond by first falling and then rising above their baseline level two
analyze how the government policies of interest dynamically influence
periods later and peaking in the fifth period before gradually returning to
housing prices and the method of variance decomposition as well as to
their baseline level. In the short run, the initial decrease in money supply

Fig. 2. Posterior Mean Impulse Responses to A Monetary Policy Shock (μR). Note: This figure reports impulse responses of consumption (Ct), nonresidential in-
0
vestment (IKt), residential investment (IHt), housing prices (qt), the GDP, and money supply (m 0t ) to a contractionary monetary policy shock (μR). The y-axis measures
the percent deviation of a variable from its steady state.

10
Z. Hu
Fig. 3. Posterior Mean Impulse Responses to A Macro-prudential Policy Shock (μv). Note: This figure reports impulse responses of consumption (Ct), nonresidential
investment (IKt), residential investment (IHt), housing prices (qt), the GDP, and money supply (m 0t ) to a contractionary Macro-prudential policy shock (μv). The y-axis
measures the percent deviation of a variable from its steady state.
discourages buyers from purchasing houses, leading to a price drop in the
housing market. Simply put, money supply changes are positively related
to housing price changes in the short run. However, as time progresses,
real estate developers face lower costs of production and buyers become
increasingly interested in purchasing houses because of lower housing
prices. Ultimately, contractionary monetary policy loses its significance.
Consequently, both housing prices and residential investments rise.
These impulse responses are plotted in Fig. 2 to show how a negative
monetary policy shock affects the economy.
5.1.2. Macro-prudential policy shock
While the monetary policy attempts to gain financial stability by
modifying housing price inflation, the macro-prudential policy includes
the same goal but through different procedures. In the housing market, a
macro-prudential policy shock is characterized as a change in the LTV
ratio. Fig. 3 shows that the tightening of this policy, represented by a
reduction in the maximum LTV ratio, causes the housing market to cool
down. Consequently, investment in housing production immediately
decreases. Meanwhile, households react to the negative credit shock to
the LTV ratio by consuming less in order to put more money into their
down payments. Although the negative LTV shock has an instantaneous
impact on dampening consumption, the movement of consumption
quickly reverses its path one period later. Similarly, residential and
nonresidential investments immediately decrease but then rise above
their baseline levels in two to three periods after the initial LTV shock. In
response, the GDP drops and then increases because of the influences of
its major components. These responses reveal that the shock to macro-
prudential policy is short-lived and ultimately insignificant. Regarding
money supply, it promptly increases in response to the negative credit
shock to revitalize economic activities.
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Economic Modelling 108 (2022) 105764
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5.1.3. Land policy shock
If a favorable land policy was adopted to foster the increase of land
supply, then housing prices would quickly drop and housing production
would decrease. As the decrease in housing prices incentivizes buyers
more, households tend to purchase more houses but less consumption
goods. Hence, investment in goods production decreases with a time lag.
Due to the cooling of consumption and goods production, the GDP also
decreases. As for money supply, it drops in the short run but then rises
over time in order to stimulate the stagnant economy. These effects are
plotted in Fig. 4 in order to show the impulse responses of a positive land
shock to the economy.
5.1.4. Housing subsidy policy shock
When the government attempts to lower its subsidy, demand for
housing weakens, leading to a decrease in housing prices and production.
Households that lose support from their government begin to spend less
on housing and consume more goods. Hence, consumption increases two
periods after the initial shock and then remains above the baseline level
for about 10 periods before falling. Meanwhile, the GDP follows a similar
pattern. Given that housing activities slow down and house producers
need less capital, which is produced in the goods production sector,
goods producers experience a small decline in their capital investment. In
response to the cooling of the housing market, money supply immedi-
ately decreases but then increases with a delay. These causes and effects
are displayed in Fig. 5 to show how the economy reacts to a negative
shock to housing subsidy policy.
5.1.5. Government expenditure policy sshock
A negative shock to government expenditures is treated as a
contractionary fiscal policy, leading to lower employment and aggregate
Z. Hu
Fig. 4. Posterior Mean Impulse Responses to A Land Policy Shock (μsl). Note: This figure reports impulse responses of consumption (Ct), nonresidential investment
0
(IKt), residential investment (IHt), housing prices (qt), the GDP, and money supply (m 0t ) to a positive land policy shock (μsl). The y-axis measures the percent deviation
of a variable from its steady state.
demand. On impact, consumption, residential and nonresidential in-
vestments, and housing prices all decrease. Meanwhile, money supply
initially drops because of the economic downturn but then increases five
periods later when the monetary policy targeting the growth of money
supply promotes economic activities. All the impulse responses described
above are presented in Fig. 6.
5.1.6. Housing tax policy shock
An increase in the housing tax rate insinuates a negative income effect
that immediately contracts housing prices and consumption. In response,
residential and nonresidential investments decrease, which when com-
bined with declining housing prices and consumption, cause the GDP
growth to slow down. The sluggish economy then forces the central bank
to loosen its monetary stance by increasing money supply as a key in-
strument. These effects are shown in Fig. 7 as the impulse responses to a
positive housing tax policy shock.
5.2. Variance decompositions
Table 4 presents the asymptotic decomposition of the forecast errors
for economic indicators, which is written in a more explanatory account
in this subsection. With respect to the variance in consumption, it is
important to discern that inflation, productivity, and investment-specific
technology are prime determinants. As for real nonresidential invest-
ment, investment-specific technology explains the majority of its vola-
tility, while cost-push and productivity also play an important role. For
the variance in the GDP, investment-specific technology and productivity
12
Economic Modelling 108 (2022) 105764
in the goods production sector and inflation are major driving forces.
Productivity in the goods sector, inflation, households’ intertemporal
preference, and monetary policy jointly explain approximately 83.3% of
the variance in money supply. In the housing sector, housing productivity
and the monetary policy are most significant in driving the variation of
residential investment. Among all the shocks considered in this paper,
housing productivity and inflation are the most crucial, jointly explaining
about 45% of the variance in housing prices. If we only direct attention to
the government policies, then the land policy is most influential on the
variance of housing prices, followed by monetary, housing subsidy,
housing tax, government expenditure, and macro-prudential policies. In
a more statistical account, the land, monetary, housing subsidy, housing
tax, government expenditure, and macro-prudential policies explain
approximately 16.62%, 11.46%, 2.19%, 1.45%, 0.83%, and 0.06% of the
housing price variance, respectively. The limited effect of the macro-
prudential policy shock is in alignment with Iacoviello and Neri (2010)
who justified the reallocation of housing stock between patient and
impatient households because of credit shocks.
In Table 5, the conditional and asymptotic decomposition of the
forecast errors displays how the variance of housing prices changes over
time. Among all the government policies under study, the monetary
policy is the most important in the short run. In the long run, the land
policy has increased importance and dominates the monetary policy as
well as all the other government policies. These results indicate that
although the impacts of monetary and fiscal policies on housing prices
are short-lived, the land policy is the prime driver in influencing housing
prices, both in the short and long run.
Z. Hu
Fig. 5. Posterior Mean Impulse Responses to A Housing Subsidy Shock (μψ s). Note: This figure reports impulse responses of consumption (Ct), nonresidential in-
vestment (IKt), residential investment (IHt), housing prices (qt), the GDP, and money supply (m 0t ) to a negative housing subsidy shock (μψ s). The y-axis measures the
percent deviation of a variable from its steady state.
5.3. Analyses
While Section 5.2 discussed how the government policies of interest
are relevant to explaining housing price dynamics and land policy is the
prime driving force among these policies, in this subsection, we will go
further by examining the three reasons why the fiscal, monetary, and
macro-prudential policies are not as effective in the Chinese housing
market. First, while the real estate cycle is closely tied to the general
economy in China, it is highly nuanced and can become out of sync with
the business cycle. During periods of desynchronization between these
two cycles, potential risks to financial stability will cause imbalances to
build up in the housing and financial sectors. Consequently, the move-
ment of housing prices and those of economic fundamental variables,
such as the GDP and inflation, are not always compatible. Thus, conflicts
arise when a demand-side policy is implemented as a tool to ensure the
stability of economic fundamentals rather than housing prices.
Second, the monetary policy has a limited role in the regulation of
land transactions, as the Chinese central bank is essentially powerless in
controlling land transaction prices. Additionally, as the cost of land ac-
counts for approximately 50% of the prices of commercial housing in
China, an excessive rise in land cost is potentially a key factor in
explaining the appreciation of housing prices (Yu, 2010). Furthermore,
55%–90% of the capital that commercial real estate developers utilize
comes from bank loans, either directly or indirectly (Han, 2008). This
implies that if the central bank were to restrain the demand for housing
from rising through the channels of interest rates and money supply, then
the supply of housing would most likely decline. Hence, the
co-movement between housing demand and supply would make it very
difficult for the central bank to predict the course of housing price
movement.
Third, investment avenues are extremely limited in China. As housing
13
Economic Modelling 108 (2022) 105764
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has played a dual role in Chinese society, i.e., a place for residence and an
opportunity for investment, Chinese citizens are particularly interested in
investing in their homes. According to the Survey and Research Center
for China Household Finance, real estate comprises of up to nearly three-
quarters of the assets of Chinese households in recent years.9 Many do-
mestic investors who do not trust stock markets but have limited access to
other financial investments often choose to put their money into the
housing market. In addition, many households invest in real estate
property for their retirement or in preparation for their children's mar-
riage. These social, cultural, and investment-related factors that
emphasize home ownership may spur frantic purchasing of homes,
regardless of the implementation of government policies. In sum, with
the prosperity of China's housing market, the government policies that
usually manage economic activities from the buyer's side are increasingly
losing their influence on housing prices.
The significance of the land policy in this paper as compared with the
monetary, macro-prudential, and fiscal policies supports the current
resolve of the Chinese government to fix the problems of the housing
market from the supply side. The history of real estate regulations and
policies gives supplementary proof of how the land policy has worked in
the housing market. In a more historical context, since 1978, the Chinese
government has been launching a series of land policy reforms to
improve land-use efficiency, rationalize land allocation, enhance land
management, and coordinate urban and rural development. When
China's real estate market spiked in 2016, the government announced
various demand-side measures, such as raising mortgage rates and
boosting down payment requirements, to tackle the rapidly rising home
9
https://www.chinabankingnews.com/2019/01/21/property-accounts-for-
excessive-share-of-chinese-household-wealth-investments-lack-diversification.
Z. Hu
Fig. 6. Posterior Mean Impulse Responses to A Government Expenditure Policy Shock (μg). Note: This figure reports impulse responses of consumption (Ct),
nonresidential investment (IKt), residential investment (IHt), housing prices (qt), the GDP, and money supply (m 0t ) to a negative government expenditure policy shock
(μg). The y-axis measures the percent deviation of a variable from its steady state.
prices. However, housing prices continued to rise by an average of 4.3%
during the first three months of 2017 and, thus, a shift of policy measures
toward land policy occurred.
Since 2017, the central government has implemented new regulations
to strengthen the control and adjustment of housing and land supply
management, under which local governments have been required to
create and publish land supply plans for the next three to five years. For
instance, the regulations dictate that if a city holds enough housing stock
to sustain 36 months or more of sales, then the supply of new land must
take a pause. Additionally, if a city holds enough housing stock to sustain
18–36 months of sales, then it should reduce its land supply. Conversely,
if housing inventory can only hold for 6–12 months of sales, then the land
supply of the city should increase in a timely manner.10 These regulations
are further evidence of the increasing importance of the land policy in
smoothing out the highs and lows of the Chinese housing market. Sub-
sequently, all these land policies have contributed to emerging land
markets, increased government revenues for the provision of public
goods and financing of infrastructure projects, and improved the
rationalization of land use.
5.4. Robustness
To check for the robustness of the Bayesian estimation, we adopt
three approaches based on Beidas-Strom and Poghosyan (2011). First, we
reset the prior means of several calibrated parameters in our model to
match the ones that often appear in the literature. These modifications do
not reveal any significant differences from what we found in the
10
http://www.nbd.com.cn/articles/2017-04-11/1093311.html.
14
Economic Modelling 108 (2022) 105764
0
preceding section as baseline estimates. However, some posterior values
obtained from the reestimations are slightly higher than the baseline
results, while others are slightly lower. Hence, the differences that are
not substantial and move in both directions provide convincing support
to the robustness of the findings.
Second, we increase the prior mean of each estimated parameter by
5% from its benchmark value. The results from the reestimation show
that while most posterior estimates do in fact shift upward in response to
the increase in the prior means, some parameters alternatively shift
downward. This provides additional evidence of robustness, as not all
values of posterior estimates are driven by the assumptions on prior
means.
Third, we increase the standard deviation of each estimated param-
eter's prior distribution by 5% to allow each parameter's posterior esti-
mate to freely move around its mean. According to the findings, the
posterior estimates obtained from the reestimation do not significantly
differ from our baseline estimates, even though the differences in these
posterior estimates move in both directions. Hence, the reestimation
results imply that the prior distributions that we consider in our baseline
estimation are not too tight and do not restrict the posterior estimates
from largely deviating from their priors. To conclude, all the aforemen-
tioned checks support that the calibrated and estimated parameters in
our model are stable and robust to the distributional assumptions on
priors and standard deviations.
We also perform robustness checks for alternative modeling specifi-
cations. First, we examine the price-based land policy that focuses on the
stability of land cost through bidding, auctioning, and renting. Following
Zhou and Jariyapan (2013), we describe the alternative land policy as
Z. Hu Economic Modelling 108 (2022) 105764

Fig. 7. Posterior Mean Impulse Responses to A Housing Tax Policy Shock (μψ q). Note: This figure reports impulse responses of consumption (Ct), nonresidential
0
investment (IKt), residential investment (IHt), housing prices (qt), the GDP, and money supply (m 0t ) to a positive housing tax policy shock (μψ q). The y-axis measures the
percent deviation of a variable from its steady state.

Table 4
Decomposition of the asymptotic variance of the forecast error.
μc μH μj μk μτ μz μ ψq μψs
Real Consumption 31.76 0.17 0.03 16.75 8.99 10.72 0.00 0.02
Real Nonresidential Investment 12.62 0.21 0.04 57.87 3.26 3.81 0.01 0.08
Real Residential Investment 2.10 36.30 4.17 1.31 3.33 1.87 1.14 2.20
Real Housing Prices 10.75 18.08 2.49 4.46 0.88 2.15 1.45 2.19
Real GDP 24.01 0.64 0.11 31.10 7.36 3.68 0.03 0.10
Real Money Supply 23.74 0.38 0.07 8.16 5.70 19.76 0.00 0.02

μχ μsl μp μR μv μl μg
Real Consumption 0.52 0.26 26.12 4.64 0.01 0.01 0.01
Real Business Investment 0.53 0.40 17.61 3.53 0.01 0.02 0.01
Real Residential Investment 1.75 7.47 8.11 29.41 0.05 0.30 0.50
Real Housing Prices 1.32 16.62 26.59 11.46 0.06 0.66 0.83
Real GDP 0.73 0.63 25.15 6.38 0.01 0.03 0.04
Real Money Supply 2.08 0.26 31.69 8.12 0.01 0.01 0.01

Note: This table reports the forecast error variance decompositions of the key variables in the model. The shocks include technology shock in the goods production
sector (μc), technology shock in the housing sector (μH), housing preference shock (μj), investment-specific technology shock in the goods production sector (μk), labor
supply shock (μτ), consumption preference shock (μz), housing tax shock (μψq), housing subsidy shock (μψs), money-holding preference shock (μχ), land supply shock (μl),
cost-push shock (μp), and shocks to monetary (μR), macro-prudential (μv), land (μsl), and government expenditure policies (μg).

Rl;t ¼ ðRl;t
1 Þll ðRÞ1
ll

uRl;t
; (31)
Sl;t
where Rl is the steady-state land price, uRl;t is the independently and
identically distributed shock to land cost with zero mean and standard
deviation σ Rl , and Sl;t captures the shock to land policy (i.e., shifts in the
Chinese government's target for land cost) following the AR (1) process as
follows:
ln Sl;t ¼ ρsl ln Sl;t
1 þ usl;t ; (32)
where 0 < ρsl < 1; and the zero mean, serially uncorrelated innovation
usl;t is normally distributed with standard deviation σ sl . This alternative
modeling specification shows that our estimation results still remain true.
From the analysis of impulse responses, the price-based land policy still
plays a significant role in influencing housing prices. In addition, the
variance decomposition confirms that the land policy explains approxi-

15
Z. Hu Economic Modelling 108 (2022) 105764

Table 5 addition, we identified which type of policy was the most influential in
Decomposition of the conditional variance of the forecast error for real housing determining the dynamics of China's housing prices. Based on the find-
prices. ings, among all the government policies of interest, the land policy
Period μc μH μj μk μτ μz μψ q μψ s played the most effective role in influencing housing prices. Although the
1 0.00 0.56 7.29 0.14 1.27 1.42 2.36 5.29
monetary policy achieved its desired effect over the short term, its effect
5 10.27 12.76 2.84 3.31 0.50 1.73 1.60 2.68 on housing prices was less successful than that of the land policy.
10 11.00 17.11 2.49 4.29 0.54 2.14 1.47 2.25 Meanwhile, fiscal policies, including housing subsidy, tax, and govern-
15 10.80 17.93 2.49 4.39 0.79 2.13 1.46 2.20 ment expenditure policies, were less influential than the land policy,
20 10.76 18.06 2.49 4.43 0.87 2.15 1.45 2.20
while the impact of LTV-based macro-prudential policy was borderline
30 10.75 18.08 2.49 4.46 0.88 2.15 1.45 2.19
negligible. In sum, these findings, which held for the various robustness
Period μχ μsl μp μR μv μrl μg checks, collectively highlight the importance of land policy in China's
1 3.64 11.80 30.88 33.69 0.13 0.47 1.06 housing market. While the land policy is a potent tool in the housing
5 1.41 17.96 30.75 12.47 0.06 0.72 0.94 market, the government should remain wary about the following com-
10 1.35 16.95 27.15 11.69 0.06 0.68 0.85
plications that often come with this policy. The first issue is the substi-
15 1.33 16.70 26.72 11.51 0.06 0.67 0.83
20 1.32 16.64 26.61 11.47 0.06 0.67 0.83 tution between land value and housing investment, one of the key
30 1.32 16.62 26.59 11.46 0.06 0.66 0.83 elements underlying China's sustainable economic growth. If policy-
makers impose a higher tax rate on the increasing value of land in an
Note: This table reports the conditional error variance of real housing prices
explained by shocks at 1-, 5-, 10-, 15-, 20-, and 30-period forecast horizons. The attempt to protect land losses, real estate developers would become
shocks include technology shock in the goods production sector (μc), technology discouraged from investing more as tax policies are often a disparity to
shock in the housing sector (μH), housing preference shock (μj), investment- investment. As such, the substitution issue raises the question of how an
specific technology shock in the good production sector (μk), labor supply increase of land value will invigorate housing investments and maximize
shock (μτ), consumption preference shock (μz), housing tax shock (μψq), housing economic profits in the housing sector.
subsidy shock (μψs), money-holding preference shock (μχ), land supply shock (μl), The second issue is associated with the balance between the growth of
cost-push shock (μπ), and shocks to monetary (μR), macro-prudential (μv), land real estate and preservation of farmland. There are a multitude of con-
(μsl), and government expenditure policies (μg). flicting factors that can be held accountable for the housing production
and land preservation in China, all of which suggest that maintaining
mately 17.53% of the housing price variance, while the monetary, fertile agricultural land while accommodating the growth of real estate
housing, housing tax, government expenditure, and macro-prudential can be extremely challenging. On the one hand, the demand for land has
policies explain 5.97%, 2.05%, 1.61%, 0.92%, and 0.04% of the hous- been steadily increasing due to the rapid development of urbanization
ing price variance, respectively. and large-scale population migration from rural to urban areas in China.
Second, we replace the money supply rule with the Taylor-type On the other hand, the high pressure for farmland protection has always
monetary policy rule, which is specified as helped China maintain its self-sufficiency with main food crops despite
 ð1
rR ÞrY the country's growing reliance on agricultural imports. Hence, the
GDPt 1
rR question of how to rationalize land allocation and promote high-density
Rt ¼ Rrt
1
R
π ð1
r
t
R Þrπ
R uR;t ; (33)
GDPt
1 urban development has posed an immense and complex planning and
zoning challenge to policymakers.
where R is the steady-state real interest rate, and uR;t is the monetary The third issue concerns the conflict between land-use rights and
policy shock with zero mean and standard deviation σ R . Again, all our farmland protection, both of which appear to be contrasting objectives,
estimation results and impulse responses hold true, even when we choose with one aiming to rationalize land use through price and market
the monetary policy that is widely used in the literature. In particular, the mechanisms and the other seeking to decelerate land development with
variance decomposition highlights that land policy accounts for 16.72% the administrative designation of farmland districts (Ding, 2003). If the
of the housing price variability. latter objective dominates, then excessive land restrictions will limit the
Third, we vary the degree of stickiness in the goods and labor markets buildable supply and tilt construction toward building more expensive
by examining different combinations of the values of θπ ; θwc ; and θwh . houses. Thus, there is a rapidly growing need to make further improve-
These values range from 0 to 1, corresponding to the lowest and highest ments in land-use regulations.
levels of price and wage stickiness, respectively. For each case, all our With regard to all the aforementioned trade-offs, the Chinese gov-
results hold true. Among all the government policies of interest, the land ernment should have a clear role to play in contributing to socially and
policy still plays the most important role. Interestingly, the variance of economically desirable land allocation and utilization when conducting
housing prices explained by the land policy increases with the higher land policy. Moreover, policymakers should integrate urban infrastruc-
level of price and wage flexibility. This implies that increased price and ture and service planning into related land development, in light of the
wage flexibility will destabilize housing prices as long as the land policy rural-urban migration, urban sprawl, and role of cities. They should also
is unresponsive. aptly increase land-use efficiency and access to land for residential
Finally, we re-measure housing prices by using the real price index of development and build a well-functioning and equitable land adminis-
residential property for 70 large- and medium-sized cities in China. As tration. To safeguard the implementation of these strategies, policy-
the availability of this data starts from 2006, it cuts almost half of our makers should be more transparent in their regulations, reduce land
benchmark sample size, which might affect the reliability of our esti- costs, and ensure timeliness of execution to provide affordable housing
mations. Due to this downside, we only use this dataset for a robustness and stabilize housing prices in an effective manner.
check. However, the new estimations and impulse responses based on In sum, our findings and implications serve as a foundation for
this dataset still support all of our principal findings. In light of the establishing effective housing-related policies by the Chinese central
variance decomposition analysis, shocks to the land policy significantly government. We also note that China is a vast country characterized by
contribute to the volatility of housing prices at 16.62%. considerable regional disparities. Although local governments at pro-
vincial and municipal levels have made enormous efforts to follow the
6. Conclusion central government's guidelines, their policies and administrative mea-
sures may vary when it comes to the concrete framework and imple-
In this paper, we investigated six different types of government pol- mentation methods to stabilize housing prices. Therefore, it would be
icies that are frequently used to stabilize the Chinese housing market. In interesting to investigate how the traits of local government policies

16
Z. Hu Economic Modelling 108 (2022) 105764

explain the variation of housing prices. This future research agenda will
then lead us to develop a more complex model with regional housing
markets and policies and more carefully evaluate the regional situations
of the Chinese housing market in policymaking.
Declaration of competing interest
Our original research article re-titled “Six Types of Government Pol-
icies and Housing Prices in China” has not yet been published and is not
under consideration for publication elsewhere. There are no conflicts of
interest associated with our work and has been no financial support that
could have influenced its outcome.
Acknowledgement
This paper has benefited from various seminar participants and col-
leagues. We would also like to thank journal editors and two anonymous
referees for their exceptionally thoughtful review of the earlier versions
of this paper. Moreover, we are grateful to Prof. Peter Ireland for his
insightful suggestions and to Steven Yao for his helpful comments and
edits. Our research was supported by Gettysburg College Research and
Professional Development Grant. All the remaining errors are our own.

7. Appendix

7.1. The Model Equations

The first-order conditions (FOC) for patient households are as follows:

FOC w.r.t. ht :

   
uct 1 þ ψ qt qt ¼ uht þ βGc Et uctþ1 1 þ 1 þ ψ qtþ1 qtþ1 1
δh

FOC w.r.t. bt :
 
Rt
uct ¼ βGc Et uctþ1
π tþ1
FOC w.r.t. mt :
 
uctþ1
umt ¼ uct
βGc Et
π tþ1
FOC w.r.t. kct :
      2  
1 φkc kct aðZctþ1 Þ 1
δkc φkc kctþ1 2 1
uct þ
G kc ¼ βGc E t uctþ1 R ctþ1 Zctþ1
þ

G
AKt Gkc Γ tAK kct
1 Aktþ1 Aktþ1 2Gkc kct2 kc
Γ tþ1
AK

FOC w.r.t. kht :

      2 
φ kht φ khtþ1
uct 1 þ kh
Gc ¼ βGc Et uctþ1 Rhtþ1 Zhtþ1
aðZhtþ1 Þ þ ð1
δkh Þ
kh 2

G2kc
Gc kht
1 2Gkc kht

FOC w.r.t. nct :

wct
unct ¼ uct
Xwct
FOC w.r.t. nht :
wht
unht ¼ uct
Xwht
FOC w.r.t. Zct :
0
a ðZct Þ
Rct ¼
Akt
FOC w.r.t. Zht :
0
Rht ¼ a ðZht Þ
The FOC for impatient households are as follows:
0
FOC w.r.t. ht :
 
 0
  vt qtþ1 π tþ1
uc0 t ð1
ψ st Þ 1 þ ψ qt qt ¼ uh0 t þ β Gc Et uc0 tþ1 ð1
ψ stþ1 Þ 1 þ ψ qtþ1 qtþ1 ð1
δh Þ þ Et λt
Rt
0
FOC w.r.t. bt :
 
0 uc0 tþ1 Rt
uc0 t ¼ β Gc Et þ λt
π tþ1
FOC w.r.t. nc0 t :

17
Z. Hu Economic Modelling 108 (2022) 105764

wc0 t
unc0 t ¼ uc0 t
Xwc0 t

FOC w.r.t. nh0 t :

wh0 t
unh0 t ¼ uh0 t
Xwh0 t
0
FOC w.r.t. mt :
 
0 uc0 tþ1
um0 t ¼ uc0 t
β Gc Et
π tþ1
The FOC for intermediate goods firms are as follows:
FOC w.r.t. nct :

Yt
ð1
μc Þα ¼ wct
Xn nct
FOC w.r.t. nc0 t :

Yt
ð1
μc Þα ¼ w c0 t
Xn nc0 t
FOC w.r.t. nht :

qt IHt
ð1
μh
μb
μl Þα ¼ wht
nht
FOC w.r.t. nh0 t :

qt IHt
ð1
μh
μb
μl Þα ¼ wh0 t
nh0 t
FOC w.r.t. kct
1 :

Yt
μc ¼ Rct Zct
Xn kct
1
FOC w.r.t. kht
1 :

qt IHt
μh ¼ Rht Zht
kht
1
FOC w.r.t. lt
1 :

qt IHt
μl ¼ Rlt
lt
1
FOC w.r.t. kbt :

qt IHt
μb ¼ Pbt
kbt
Wage Stickiness:
 
Xwct
ln ωct
lwc ln π t
1 ¼ βGc ðEt ln ωctþ1
lwc ln π t Þ
εwc ln ;
Xwc

 0 
0 0  0 0 X
ln ωct
lwc ln π t
1 ¼ β Gc Et ln ωctþ1
lwc ln π t
εwc ln wct ;
Xwc

 
Xwht
ln ωht
lwh ln π t
1 ¼ βGc ðEt ln ωhtþ1
lwh ln π t Þ
εwh ln ;
Xwh

 0 
0 0  0 0 X
ln ωht
lwh ln π t
1 ¼ β Gc Et ln ωhtþ1
lwh ln π t
εwh ln wht ;
Xwh

wit π t 0 0 0
where ωit ¼ wit
1 , εwc ¼ ð1
θwc Þð1
βGc θwc Þ=θwc ; εwc ¼ ð1
θwc Þð1
β Gc θwc Þ=θwc ; εwh ¼ ð1
θwh Þð1
βGc θwh Þ=θwh ; and εwh ¼ ð1
θwh Þð1

0
β Gc θwh Þ=θwh .
Price Stickiness:

18
Z. Hu Economic Modelling 108 (2022) 105764

 
Xt
ln π t
lπ ln π t
1 ¼ βGc ðEt ln π tþ1
lπ ln π t Þ
επ ln þ up;t ;
X

ð1
θπ Þð1
βGc θπ Þ
where. επ ¼ θπ :
The market-clearing conditions are as follows:

IKct
Ct þ þ IKht þ kbt þ Gt ¼ Yt
φt
Akt

0  0
ht þ ht
ð1
δh Þ ht
1 þ ht
1 ¼ IHt

0
bt þ bt ¼ 0

0 0
Mt Mt Mt
1 Mt
1 0
þ ¼ þ þ MTt þ MTt
Pt Pt Pt Pt
In equilibrium, the dividends paid to households are equal to

Xt
1 Xwct
1 Xwht
1
Divt ¼ Yt þ wct nct þ wht nht
Xt Xwct Xwht

0 0
0 Xwct
1 0 0 X
1 0 0
Divt ¼ 0 wwct nct þ wht0 wwht nht
Xwct Xwht

In addition, the capital adjustment cost and utilization rate are:

 2  2
φkc kct kct
1 φkh kht
φt ¼
GIKc t þ
GIKh kht
1 ;
2GIKc kct
1 ð1 þ γ AK Þ 2GIKh kht
1


aðZct Þ ¼ Rc ωZct2 2 þ ð1
ωÞZct þ ðω = 2
1Þ ;


aðZht Þ ¼ Rh ωZht2 2 þ ð1
ωÞZht þ ðω = 2
1Þ ;

where Rc and Rh are the steady-state values of the rental rates of the two types of capital and 0 < ζ ¼ 1þωω < 1.

7.2. Data Descriptions and Sources

Real Consumption
Nominal personal consumption expenditure divided by the implicit GDP deflator and then divided by the population. Source: China Statistical
Yearbooks.

Real Nonresidential Investment

Gross fixed capital formation times the share of nonresidential investment in total fixed asset investment divided by the implicit price deflator of
gross fixed capital formation and then divided by the population. Source: China Statistical Yearbooks.

Real Housing Investment

Gross fixed capital formation times the share of residential investment in total fixed asset investment divided by the implicit price deflator of gross
fixed capital formation and then divided by the population. Source: China Statistical Yearbooks.

Inflation
Log differences in the implicit GDP deflator. Demeaned. Source: China Statistical Yearbooks.

Nominal Short-term Interest Rates

Call money/interbank rate for China. Demeaned. Source: Federal Reserve Bank at Saint Louis.

Real Money Supply

M1, the basic money supply in China divided by the implicit GDP deflator and then divided by the population. Source: China Statistical Yearbooks.

Real Housing Prices

Average selling price of residential buildings divided by the implicit of GDP deflator. Sources: China National Knowledge Infrastructure (CNKI) and
China Statistical Yearbooks. The alternative measure is the real residential property price index in 70 large- and medium-sized cities. Source: China
Statistical Yearbooks.

19
Z. Hu Economic Modelling 108 (2022) 105764

Hours Worked in the Housing Sector

All employees in the construction sector times the average weekly hours of construction workers divided by the population. Demeaned. Sources:
China Labor Statistical Yearbooks and ILOSTAT Database.

Hours Worked in the Non-housing Sector

Total employees less all of the employees in the construction sector times the average weekly hours of construction workers divided by the pop-
ulation. Demeaned. Sources: China Labor Statistical Yearbooks and ILOSTAT Database.

Wage Inflation in the Housing Sector

Log difference in the average yearly earnings of the construction workers. Demeaned. Source: China Labor Statistical Yearbooks.

Wage Inflation in the Non-housing Sector

Log difference in the average yearly earnings of the workers. Demeaned. Source: China Labor Statistical Yearbooks.

7.3. Data Constructions

Before estimation, we transform the model equations, as seen in Appendix 7.1, into their stationary ones along the balanced growth path. For
example, Equation (6), which is the budget constraint for patient households in the model, is transformed as

~kc;t  ~ht
1  w   ~
~ t
1 
m ~ c;t ~ h;t
w ~ c;t zc;t þ ð1
δh Þ k c;t
1
~ct þ þ ~k h;t þ ~k b;t þ m ~t
þ 1 þ ψ q;t ~qt ~ht
ð1
δh Þ ¼ nc;t þ nh;t þ R
ak;t π t Gc Gh Xc;t Xh;t ak;t GKC
~k h;t
1 Rt
1 ~bt
1 ~ aðZc;t Þ ~kc;t
1 aðzh;t Þ ~k h;t
1
þðRh;t zh;t þ 1
δkh Þ ~ g g
þ Pb;t kb;t þ Divt þ MTt þ
bt


φ g
~ t
GTt ;
Gc π t Gc ak;t GKC ah;t Gc
ct mt f IHt f IKt qt kct kht kbt
Where ~ct ¼ ~ t ¼ t ; IH
; m t ¼ ; IK t ¼ t ; ~qt ¼ t ; ~k ct ¼ t ; ~kht ¼ t ; ~k bt ¼ t ;
Gtc Gm GtIH GIK Gq GKC Gc Gc

~ ht φ g Divt wct wht g MTt f GTt

~ ¼ t ; Div
ht ¼ t ; φ t ¼ ~ ct ¼ t ; w
; w ~ ht ¼ t ; MT t ¼ ; GT t ¼ t ;
Gh t Gtc Gtc Gc Gc Gtc Gc

~ ct ¼ Rct Γ tAK ; given GtKC ¼ Γ tAK Gic and Akt

and R ¼ akt :
Γ iAK

When preparing our data, we keep the trend and remove the level information from the series that we use in the estimation. Specifically, we demean
price inflation, wage inflation, and hours worked from their average levels. For the trending series, including real consumption (Ct ), real residential
0
investment (IHt ), real nonresidential investment (IKt ), real housing prices (qt ), and real money supply (m 0t ), we log-transform each of them and then
normalize their values in 1991 to zero. Then, we take the transformed data to the model, estimating the parameters that determine the steady-state
growth rates of the trending variables as well as the dynamics of all the observable variables as they fluctuate around the steady-state growth path.
00
Thus, the measurement equations are shown below; where C ~ t ¼ Ctt ; IH
f t ¼ IHt ; IK
ft ¼ IKt t ; q
~t ¼ qt ; and m~00t ¼ mtt ; a superscript d denotes the data, and a hat
Gc GIH GIk Gq Gm

over a variable denotes its logarithmic deviation from the steady-state detrended value.

log Ctd
log C1991

d ~ t þ ðGc
1Þt
¼C
c
f t þ ðGIk
1Þt
log IKtd
log IK1991
d
¼ IK
c
f t þ ðGIH
1Þt
log IHtd
log IH1991
d
¼ IH

log qdt
log qd1991 ¼ ~
qt þ Gq
1 t
0 d 0 d c
f0 0 þ ðG
1Þt
log m 0 t
log m 0 1991 ¼ m t m
0
log Nctd ¼ α~
nct þ ð1
αÞb
n ct
0
log Nhtd ¼ αb
n ht þ ð1
αÞb
n ht
π dt ¼ b
πt
0
ωc ωc 0
ωdct ¼ 0 ω
b ct þ 0 ω
bc
ωc þ ωc ωc þ ωc
0
ωh ωh 0
ωdht ¼ 0 ω
b ht þ 0 ω
b ht
ωh þ ωh ωh þ ωh

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