Question

Which of the following is not correct about residential investment?

• A. It depends on the net real return obtained by owning housing.
• B. The combination of high nominal interest rates and high inflation strongly encourages housing investment.
• C. The demand for housing is insensitive to the nominal interest rate.
• D. The cost of owning a house rises almost proportionately with the real interest rate.

Hint:

Housing demand is highly sensitive to interest rates, as higher rates make mortgages more expensive.

Answer 1

The Correct Option is C

Step 1: Defining Residential Investment.
Factors influencing residential investment include real returns, interest rates, inflation, and ownership costs.

Step 2: Evaluating Investment Scenarios.
- (A) Dependent on Net Real Return of Ownership: Correct. Residential investment is contingent upon the net return from property ownership, accounting for rental income and capital appreciation.
- (B) High Nominal Rates and Inflation Incentivize Housing Investment: Incorrect. Elevated nominal interest rates generally deter housing investment due to increased borrowing expenses.
- (C) Housing Demand Unaffected by Nominal Interest Rate: Incorrect. Housing demand is highly responsive to nominal interest rates, as higher rates escalate borrowing costs.
- (D) House Ownership Cost Increases Proportionately with Real Interest Rate: Correct. An escalation in real interest rates correlates with an increase in the cost of homeownership, primarily through mortgage payments.

Step 3: Determination.
Statement (C) is erroneous as housing demand is demonstrably sensitive to interest rate fluctuations.