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Housing Debt, Employment Risk and Consumption

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  • Viola Angelini
  • Peter Simmons

Abstract

We consider the interaction between the risk of unemployment, random house prices, consumption and savings. A critical decision is that of refinancing house purchase, up to 100% mortgages are possible. There is also a fixed transaction cost of refinancing. In a CARA framework we derive the value function for a finite horizon, the policy of refinance and the consumption function. Either there is a maximum mortgage or a zero mortgage depending on interest rates, house prices and the transaction cost. The consumption function is linear in wealth and in the uncertainty caused by employment status and house prices of the future. Since there is either 100% or 0% equity withdrawal, consumption jumps when there is refinancing.

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Bibliographic Info

Paper provided by Department of Economics, University of York in its series Discussion Papers with number 05/07.

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Handle: RePEc:yor:yorken:05/07

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Postal: Department of Economics and Related Studies, University of York, York, YO10 5DD, United Kingdom
Phone: (0)1904 323776
Fax: (0)1904 323759
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Web page: http://www.york.ac.uk/economics/
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Keywords: Precautionary savings; employment risk; mortgages; housing;

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References

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  1. Gabriella Berloffa & Peter Simmons, 2003. "Unemployment Risk, Labour Force Participation and Savings," Review of Economic Studies, Oxford University Press, vol. 70(3), pages 521-539.
  2. Campbell, John & Cocco, Joao, 2003. "Household Risk Management and Optimal Mortgage Choice," Scholarly Articles 3157876, Harvard University Department of Economics.
  3. Martin Browning & Thomas F. Crossley, 2000. "The Life Cycle Model of Consumption and Saving," Social and Economic Dimensions of an Aging Population Research Papers 28, McMaster University.
  4. Orazio Attanasio & Susanne Rohwedder, 2001. "Pension wealth and household saving: evidence from pension reforms in the UK," IFS Working Papers W01/21, Institute for Fiscal Studies.
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Cited by:
  1. Angelini, Viola, 2009. "Consumption and habit formation when time horizon is finite," Economics Letters, Elsevier, vol. 103(2), pages 113-116, May.
  2. Ebner, André, 2013. "A micro view on home equity withdrawal and its determinants: Evidence from Dutch households," Journal of Housing Economics, Elsevier, vol. 22(4), pages 321-337.
  3. Andrew Benito & Haroon Mumtaz, 2006. "Consumption excess sensitivity, liquidity constraints and the collateral role of housing," Bank of England working papers 306, Bank of England.
  4. Viola Angelini, 2006. "Mortgage Refinancing and Consumption Smoothing," Discussion Papers 06/26, Department of Economics, University of York.
  5. Andrew Benito, 2007. "Housing equity as a buffer: evidence from UK households," Bank of England working papers 324, Bank of England.

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