Market Power in Mortgage Pricing: the Role of Referral Lending

Despite intense competition among mortgage lenders, borrowers continue to face elevated rate spreads and substantial price dispersion. We argue that realtor–loan officer referral networks are a key source of lender market power: by steering homebuyers toward a limited set of loan officers, these networks restrict effective borrower choice even in otherwise competitive markets. Using a novel dataset linking 81,306 realtors to 102,860 loan officers in 41 states, we document that such networks are both pervasive and highly concentrated: 85% of realtors direct over 40% of their clients to fewer than four loan officers. Strikingly, the lender concentration among realtors persists and even increases in markets with more lenders, suggesting that referrals constrain choices regardless of market structure. IV estimates indicate that borrowers working with referred loan officers pay 18.6 basis points higher interest rates, equivalent to $2,609 in upfront costs for the average loan of $306k. The referral premium is nearly three times as high for Hispanic borrowers as for White borrowers, and is systematically higher for Black borrowers and financially constrained households. On average, referral lending raises rate spreads by 36.5% and explains half of the (residual) standard deviation of rate spreads after controlling for lender, market, and time fixed effects. We identify two mechanisms: referrals reduce borrowers' search intensity for lenders, and referred loan officers exercise pricing power relative to other officers within the same lending institution. Efficiency arguments (faster processing) and mediation of denial risks don't fully justify the referral premium. Our findings reveal referral networks as a hidden source of market power, imposing substantial financial costs and raising equity concerns for borrowers.