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Signal Extraction with Kalman Filter: A Study of the Hong Kong Property Price Bubbles

Department of Economics, Nanyang Technological University, S3-Olc-120 Nanyang Avenue, Singapore 639798, cqxiao{at}ntu.edu.sg

Gee Kwang Randolph Tan

Department of Economics, Nanyang Technological University, S3-Olc-120 Nanyang Avenue, Singapore 639798, arandolph@ ntu.edu.sg

Since the early 1980s, the debate surrounding speculative bubbles has never subsided. A key obstacle to resolving this issue is the identification problem. A bubble is usually inferred from some assumed fundamental determinants of a price. These assumptions could be oversimplified. Furthermore, there might be data measurement errors. This paper attempts to capture such errors with a latent state variable. This variable is extracted using the Kalman filter. Based on the empirical comparisons, it is found that it is possible to attribute the observed large price swings in the property market of Hong Kong during the 1980s and 1990s to a periodically collapsing rational speculative bubble.

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