Abstract: In the last decade the United States experienced a large sudden drop in both the stock market and house prices. These two episodes have been referred to as the burst of the Dot-Com and the Housing Bubbles. In this paper I develop a model to study the relationship between international trade and the emergence of rational bubbles and analyze how the effect of globalization on house prices depends on the type of bubble. The model is a three-period OLG economy in which young agents borrow to purchase a house and middle-aged agents save to consume when they are old. Agents can only borrow a fraction of the value of the house. The quality of financial institutions determines this fraction. Bubbles cannot arise in a financially developed country in autarky. In contrast, pure asset price and/or housing bubbles can appear when a financially developed country opens up to trade with a financially underdeveloped country. As globalization progresses, the possibility of having a bubble in the financially developed country increases. I also show that an increase in globalization raises house prices when there is a housing bubble but it has no effect on house prices if the bubble is not attached to houses. This prediction is consistent with empirical evidence on house prices for U.S. metropolitan areas. An increase in U.S. current account defi cit (over GDP) has a signi ficant effect on real house price appreciation during the Housing Bubble. This effect is larger, the lower the housing supply elasticity is. However, an increase in U.S. current account de ficit does not have a significant effect on house price appreciation during the Dot-Com Bubble.

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