Building an understanding of the interrelations of housing, finance, policy, and the economy is a critical step toward developing a strategy that permits policymakers to leverage resources and enable the housing market to function better in the pursuit of economic, financial, social and environmental objectives. The wealth effect and the financial accelerator are two of the aspects that connect housing and the economy. Powerful real, legislative and financial circuits suggest that an enabling strategy for housing can support societal progress and wellbeing. By drawing on the existing literature in this area, this study examines the rationale for housing market regulation, investigates whether housing market corrections threaten macroeconomic stability, and asks whether policies are efficacious at controlling housing market outcomes. This study adds to the debate on how to optimize the housing-related policy toolbox by presenting critical concepts and shedding light on the interplay between housing and the economy.

Housing satisfies the need of humans for shelter (Denton, 1990), can be a major wealth component and is a key sector of the economy1. Housing also plays a critical role in labor economics and the urbanization process. Rapid urbanization and limited resources can place a strain on housing, especially in lower-income countries. Inadequate housing and poverty are linked. The United Nations Human Settlements Programme (UN-Habitat) estimates that about three billion people, i.e. 40 percent of the global population, will need adequate housing and access to basic infrastructure and services by 2030. A major Millennium Development Goal is to improve the lives of at least 100 million slum dwellers by 2020. Housing sector dynamics can affect the economy (Poterba and Noguchi, 1994), and help explain cross-country differences in macroeconomic performance (Muellbauer, 1992). Favorable finance conditions tend to promote investment and economic growth (e.g., Keynes, 1936; Levine, 2005), and unfavorable ones can do the opposite2. The housing market and the economy are intertwined through real, legal, regulatory and financial circuits (Mishkin, 2007). They are linked through the wealth effect (e.g., Keynes, 1936; Modigliani and Brumberg, 1954; Friedman, 1957; Blanchard, 1985; Deaton, 1992) as well as through the financial accelerator (e.g., Bernanke and Gertler, 1989, 1995; Bernanke et al., 1996).