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The Cost of Distorted Financial Advice: Evidence from the Mortgage Market

Listed author(s):
  • Gambacorta, Leonardo
  • Guiso, Luigi
  • Mistrulli, Paolo Emilio
  • Pozzi, Andrea
  • Tsoy, Anton

Many households lack the sophistication required to make complex financial decisions and risk being exploited when seeking advice from intermediaries. We build a model of financial advice, in which banks attain their optimal mortgage portfolio by setting rates and providing advice to their clientele. “Sophisticated” households know which mortgage type is best for them; “naive” are susceptible to the bank's advice. Using data on the universe of Italian mortgages, we estimate the model and quantify the welfare implications of distorted financial advice. The average cost of the distortion is equivalent to an increase in the annual mortgage payment by 11%. However, since even distorted advice conveys information, banning advice altogether results in a loss of 998 euros per year on average. A financial literacy campaign is beneficial for naive households, but hurts sophisticated ones.

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File URL: http://www.cepr.org/active/publications/discussion_papers/dp.php?dpno=12115
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Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 12115.

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Date of creation: Jun 2017
Handle: RePEc:cpr:ceprdp:12115
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  1. Crawford, Gregory S. & Pavanini, Nicola & Schivardi, Fabiano, 2015. "Asymmetric Information and Imperfect Competition in Lending Markets," CEPR Discussion Papers 10473, C.E.P.R. Discussion Papers.
  2. Barone, Guglielmo & Felici, Roberto & Pagnini, Marcello, 2011. "Switching costs in local credit markets," International Journal of Industrial Organization, Elsevier, vol. 29(6), pages 694-704.
  3. Danilo Liberati & Valerio Vacca, 2016. "With (more than) a little help from my bank. Loan-to-value ratios and access to mortgages in Italy," Questioni di Economia e Finanza (Occasional Papers) 315, Bank of Italy, Economic Research and International Relations Area.
  4. Victor Aguirregabiria & Robert Clark & Hui Wang, 2016. "Diversification of geographic risk in retail bank networks: evidence from bank expansion after the Riegle-Neal Act," RAND Journal of Economics, RAND Corporation, vol. 47(3), pages 529-572, August.
  5. Esposito, Lucia & Nobili, Andrea & Ropele, Tiziano, 2015. "The management of interest rate risk during the crisis: Evidence from Italian banks," Journal of Banking & Finance, Elsevier, vol. 59(C), pages 486-504.
  6. Jason Allen & Robert Clark & Jean-François Houde, 2014. "Search Frictions and Market Power in Negotiated Price Markets," NBER Working Papers 19883, National Bureau of Economic Research, Inc.
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