Causality relationship between housing prices and construction costs

The present study hypothesizes that the relationship between housing prices and construction costs is a dynamic long—term relationship. Results from an error correction model (ECM) and a standard causality model support the hypothesis that it is a lead—lag relationship. Results also suggest that construction costs do not lead to changes in housing prices, instead housing prices lead to changes in construction costs. The ECM result also suggests that the Hong Kong housing market is efficient because deviations between construction costs and housing prices disappear in the long—term equilibrium. If there is a short—run housing price shock, it is able to make quick adjustments and return to the long—term equilibrium level. This finding provides new insight into the housing market analysis, especially with respect to the supply side.