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Mortgage choices and housing speculation

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Author Info

  • Gadi Barlevy
  • Jonas D. M. Fisher

Abstract

We describe a rational expectations model in which speculative bubbles in house prices can emerge. Within this model both speculators and their lenders use interest-only mortgages (IOs) rather than traditional mortgages when there is a bubble. Absent a bubble, there is no tendency for IOs to be used. These insights are used to assess the extent to which house prices in US cities were driven by speculative bubbles over the period 2000-2008. We find that IOs were used sparingly in cities where elastic housing supply precludes speculation from arising. In cities with inelastic supply, where speculation is possible, there was heavy use of IOs, but only in cities that had boom-bust cycles. Peak IO usage predicts rapid appreciations that cannot be explained by standard correlates and this variable is more robustly correlated with rapid appreciations than other mortgage characteristics, including sub-prime, securitization and leverage. Where IOs were popular, their use does not appear to have been a response to houses becoming more expensive. Indeed, their use anticipated future appreciation. Finally, consistent with the reason why lenders prefer IOs, these mortgages are more likely to be repaid earlier or foreclose. Combined with our model, this evidence suggests that speculative bubbles were an important factor driving prices in cities with boom-bust cycles.

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Bibliographic Info

Paper provided by Federal Reserve Bank of Chicago in its series Working Paper Series with number WP-2010-12.

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Date of creation: 2010
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Handle: RePEc:fip:fedhwp:wp-2010-12

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Keywords: Mortgage loans ; Mortgage-backed securities ; Housing - Prices;

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As found by EconAcademics.org, the blog aggregator for Economics research:
  1. Interest-only mortgages and house price bubbles
    by Economic Logician in Economic Logic on 2011-01-10 15:44:00
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Cited by:
  1. Landier, Augustin & Sraer, David & Thesmar, David, 2011. "The risk-Shifting Hypothesis," IDEI Working Papers 699, Institut d'Économie Industrielle (IDEI), Toulouse.
  2. Landier, Augustin & Sraer, David & Thesmar, David, 2011. "The risk-Shifting Hypothesis : Evidence from Subprime Originations," TSE Working Papers 11-279, Toulouse School of Economics (TSE).
  3. Benjamin J. Keys & Tomasz Piskorski & Amit Seru & Vikrant Vig, 2012. "Mortgage Financing in the Housing Boom and Bust," NBER Chapters, in: Housing and the Financial Crisis, pages 143-204 National Bureau of Economic Research, Inc.
  4. Jan K. Brueckner & Paul S. Calem & Leonard I. Nakamura, 2013. "House-price expectations, alternative mortgage products, and default," Working Papers 13-36, Federal Reserve Bank of Philadelphia.
  5. Craig Burnside & Martin Eichenbaum & Sergio Rebelo, 2011. "Understanding Booms and Busts in Housing Markets," NBER Working Papers 16734, National Bureau of Economic Research, Inc.
  6. Todd M. Sinai, 2012. "House Price Moments in Boom-Bust Cycles," NBER Working Papers 18059, National Bureau of Economic Research, Inc.
  7. Jack Favilukis & David Kohn & Sydney C. Ludvigson & Stijn Van Nieuwerburgh, 2012. "International Capital Flows and House Prices: Theory and Evidence," NBER Chapters, in: Housing and the Financial Crisis, pages 235-299 National Bureau of Economic Research, Inc.
  8. Andreas Fuster & Paul S. Willen, 2013. "Payment Size, Negative Equity, and Mortgage Default," NBER Working Papers 19345, National Bureau of Economic Research, Inc.
  9. Gadi Barlevy, 2008. "A leverage-based model of speculative bubbles," Working Paper Series WP-08-01, Federal Reserve Bank of Chicago.
  10. Giovanni Dell'Ariccia, 2012. "Property Prices and Bank Risk-taking," RBA Annual Conference Volume, in: Alexandra Heath & Frank Packer & Callan Windsor (ed.), Property Markets and Financial Stability Reserve Bank of Australia.
  11. Ben-David, Itzhak, 2011. "High Leverage and Willingness to Pay: Evidence from the Residential Housing Market," Working Paper Series 2011-17, Ohio State University, Charles A. Dice Center for Research in Financial Economics.
  12. Landier, Augustin & Sraer, David & Thesmar, David, 2010. "Going for broke: New Century Financial Corporation, 2004-2006," IDEI Working Papers 649, Institut d'Économie Industrielle (IDEI), Toulouse.
  13. James Kahn & Omer Acikgoz, 2013. "Mortgage Guarantees and House Price Inflation: A Quantitative Analysis," 2013 Meeting Papers 1075, Society for Economic Dynamics.

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  1. Economic Logic blog

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