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Credit cycles with market-based household leverage

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  • Diamond, William
  • Landvoigt, Tim

Abstract

We develop a general equilibrium model in which households’ mortgage leverage is determined by supply and demand forces, where the price of credit impacts the quantity of leverage households choose. Mortgages are supplied by financial intermediaries, who offer households a menu of mortgage contracts whose pricing varies with intermediaries’ equity capital. In the model, growth in the demand for safe assets that replicates the falling interest rates in the 2000s causes an empirically realistic boom in household borrowing, debt-financed consumption, and house prices. This boom results in a larger bust in asset prices and household borrowing in future financial crises.

Suggested Citation

  • Diamond, William & Landvoigt, Tim, 2022. "Credit cycles with market-based household leverage," Journal of Financial Economics, Elsevier, vol. 146(2), pages 726-753.
    • Handle: RePEc:eee:jfinec:v:146:y:2022:i:2:p:726-753
    DOI: 10.1016/j.jfineco.2021.11.001
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    More about this item

    Keywords

    Credit constraints; Household leverage; Financial intermediaries; Housing boom; Credit crises; Safe assets;
    All these keywords.

    JEL classification:

    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • G01 - Financial Economics - - General - - - Financial Crises
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G51 - Financial Economics - - Household Finance - - - Household Savings, Borrowing, Debt, and Wealth

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