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Equilibrium foreign currency mortgages

Author

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  • Marcin Kolasa

    (Warsaw School of Economics)

Abstract

This paper proposes a novel explanation for why foreign currency denominated loans to households have become so popular in some emerging economies. Our argument is based on what we call the debt limit channel, which arises when multi-period contracts are offered against collateral that is established on newly acquired assets. Whenever the difference between domestic and foreign interest rates is positive, this effect allows financially constrained agents to backload the real payments on their loans if they choose to borrow in foreign currency. We demonstrate in a structural macroeconomic framework that the debt limit channel is quantitatively important and can result in dollarization of debt despite realistic and correctly perceived exchange rate risk. Comparing this outcome to allocations under constrained-optimal policy reveals that much of the identified bias towards foreign currency is due to a pecuniary externality, i.e. borrowers' failure to internalize how their currency choice affects house prices. (Copyright: Elsevier)

Suggested Citation

  • Marcin Kolasa, 2022. "Equilibrium foreign currency mortgages," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 45, pages 168-186, July.
  • Handle: RePEc:red:issued:20-233
    DOI: 10.1016/j.red.2021.06.003
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    Blog mentions

    As found by EconAcademics.org, the blog aggregator for Economics research:
    1. Equilibrium foreign currency mortgages
      by Christian Zimmermann in NEP-DGE blog on 2018-10-26 17:52:41

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    Cited by:

    1. Małgorzata Skibińska, 2018. "Transmission of monetary policy and exchange rate shocks under foreign currency lending," Post-Communist Economies, Taylor & Francis Journals, vol. 30(4), pages 506-525, July.
    2. Brzoza-Brzezina, Michał & Kolasa, Marcin & Makarski, Krzysztof, 2017. "Monetary and macroprudential policy with foreign currency loans," Journal of Macroeconomics, Elsevier, vol. 54(PB), pages 352-372.
    3. Marcin Kolasa, . "Equilibrium foreign currency mortgages," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics.

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    More about this item

    Keywords

    foreign currency loans; mortgages; portfolio choice; pecuniary externality;
    All these keywords.

    JEL classification:

    • D58 - Microeconomics - - General Equilibrium and Disequilibrium - - - Computable and Other Applied General Equilibrium Models
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages

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