Through the collateral channel for entrepreneurs, a positive housing demand shock in Liu et al. [(2013) Econometrica 81, 1147–1184.] increases land prices and business investment, but consumption decreases on impact and there is thus a comovement problem. This paper improves Liu et al. [(2013) Econometrica 81, 1147–1184.] by adding general household preferences with broader intratemporal and intertemporal substitutions Bayesian estimation of our structural model based on aggregate US data suggests that the intratemporal substitution is larger than unity and the intertemporal substitution is smaller than unity. Our impulse responses show that a positive housing demand shock increases land prices, business investment, and consumption, which resolves the comovement problem. Moreover, the strength of the collateral channel linking land prices and business investment in our Bayesian DSGE model is larger than that in Liu et al. [(2013) Econometrica 81, 1147–1184.]. Housing demand shocks explain 39−43% of the variance of output and 41−47% of the variance of investment in our model, but the same shocks explain only 17−31% of the variance of output and 30−41% of the variance of investment in Liu et al. [(2013) Econometrica 81, 1147–1184.]. Variance decomposition reveals that housing demand shocks account for a larger share of the fluctuations in land prices, investment, employment, and output than other shocks. Using the marginal data density as the measure of fit for models, we find that our model can better explain the same US aggregate data.

In this paper, I explore the dynamics of real estate market fluctuations and business cycle co-movements in a neoclassical setting. Applying a dynamic stochastic general equilibrium model of collateral constraints with asset reallocation to Japan, I find that public policy shocks account well for the business cycle dynamics. In particular, taxes on land holdings of households mimic the impact of a housing preference shock, and if volatile enough, can trigger large asset price fluctuations. However, in the absence of volatility, the impact on prices is intrinsically linked to the persistence of shocks. Dependence on fixed assets such as real estate to secure collateral-based financing significantly amplifies the effect of initial shocks on the real macro aggregates. The financial accelerator works through the “redistribution channel,” shifting a large fraction of the collateral between constrained and unconstrained agents in response to an external stimuli.