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This paper evaluates business cycle effects of asymmetric cross‐country mortgage market developments in a monetary union. By employing a two‐country New Keynesian DSGE model with collateral constraints tied to housing values, we show that a change in institutional characteristics of mortgage markets, such as the loan‐to‐value (LTV) ratio, is an important driver of asymmetric developments in housing markets and economic activity. Our analysis suggests that the home country where credit standards are lax booms, while the rest of European Monetary Union faces a negative output gap. Overall welfare is lower if LTV ratios are higher.

We develop an extended real business cycle model with financially constrained firms and non-pledgeable intangible capital. Based on a model-consistent series for firms’ borrowing conditions, we find, within a structural vector autoregression framework, that, in response to an adverse financial shock, tangible investment falls more than intangible investment. This positive co-movement between tangible and intangible investment as well as the relative resilience of intangible investment pose a challenge for the theoretical model. We show that investment-specific adjustment costs help in reconciling the model with the observed empirical evidence. The estimation of the theoretical model using a Bayesian limited information approach yields support for the presence of much larger adjustment costs for intangible investment than for tangible investment.