Via Mark Thoma, Janet Yellen:
Economist's View: I want to focus my remarks today on another longer-term issue, namely, the housing market ... The question is: ...Is there a house-price "bubble" that might collapse, and if so, what would that mean for the U.S. economy?... [A] bubble means that the price of an asset—in this case, housing—is significantly higher than its fundamental value. One common way of thinking about housing's fundamental value is to consider the ratio of housing prices to rents. ... Currently, the ratio for the U.S. is higher than at any time since data became available in 1970 ... Higher than normal ratios do not necessarily prove that there's a house-price bubble. House prices could be high for some good, fundamental reasons. ... Probably the most obvious candidate for a fundamental factor ... is low mortgage interest rates. ... While the fundamentals I've mentioned do play a role, the consensus seems to be that much of the unusually high price-to-rent ratio for housing remains unexplained. Moreover, with controversy over exactly why long-term interest rates have remained so low, we can't rule out the possibility that they would rise to a more normal relationship with short-term rates, and this obviously might take some of the "oomph" out of the housing market. So, while I'm certainly not predicting anything about future house price movements, I think it's obvious that the housing sector represents a risk to the U.S. outlook....
In answer to the third question on whether monetary policy is the best tool to deflate a house-price bubble... no one can predict exactly how much tightening would be needed... a tighter policy to deflate a housing bubble could impose substantial costs on other sectors of the economy that would lead to equally unwelcome imbalances... other strategies, such as tighter supervision or changes in financial regulation, would not only be more tailored to the problem, but also less costly to the economy. Taking all of these points into consideration, it seems that the arguments against trying to deflate a bubble [through monetary policy] outweigh those in favor of it.... But let me stress that the debate surrounding these issues is still very much alive...
