Understanding the pattern and nature of house price dynamics is an important element in assessing the macroeconomic situation and outlook, especially at the current juncture, as the bursting of the housing bubbles in a number of euro area countries and the United States has been a key contributing factor to the current global financial crisis. When and the extent to which house prices will recover, in some cases from still negative real rates of growth, will depend on both developments in the housing sector itself and a number of factors that drive the business cycle. This article analyses the house price cycle in the euro area, its interlinkages with the business cycle and its alignment with developments in income, rents and credit. It also compares developments in house prices and their underlying factors with those in the US economy and investigates the heterogeneity across countries in the euro area and regions in the United States. The main conclusions are that the starting point of the recovery in house prices in the euro area was not as weak as it will be in the United States and that developments in house prices are currently more heterogeneous across the countries of the euro area than they are across the regional areas of the United States.

Monitoring and assessing house price developments is important for monetary policy and financial stability because of the strong impact that they can have on aggregate expenditure on the one hand and on private sector balance sheets on the other. This applies during times of normal cyclical developments and becomes particularly relevant when the emergence and subsequent bursting of house price bubbles inflicts high economic costs (see Box 1 for a synopsis of the key macroeconomic consequences of house price developments). The past few years have highlighted the importance of assessing house price dynamics, as they have played a key role in the current financial crisis and the associated economic downturn. This applies both to some euro area countries and the United States.