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Real Effects of Nominal Interest Rates

Author

Listed:
  • Joshua Hausman
  • John V. Leahy
  • John Mondragon
  • Johannes F. Wieland

Abstract

Nominal interest rates have real effects. Residential mortgages and other real world debt contracts require a sequence of constant nominal payments. Combined with payment-to-income constraints, these nominal payments force borrowers to take on less debt when nominal interest rates rise, regardless of the behavior of the real interest rate. Survey data shows that conditional on the real rate, higher nominal mortgage interest rates reduce home buying sentiment. And increases in nominal mortgage rates reduce mortgage origination more in cities where payment to-income constraints are more likely to bind. We explore the macroeconomic implications of payment-to-income constraints in a new Keynesian model modified to include a credit good. The payment-to-income constraint amplifies the effect of current short-term nominal interest rates on output and inflation, making the model less forward-looking than the standard new Keynesian model.

Suggested Citation

  • Joshua Hausman & John V. Leahy & John Mondragon & Johannes F. Wieland, 2026. "Real Effects of Nominal Interest Rates," Working Paper Series 2026-07, Federal Reserve Bank of San Francisco.
    • Handle: RePEc:fip:fedfwp:103060
    DOI: 10.24148/wp2026-07
    Note: PDF date: March 26, 2026.
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    JEL classification:

    • E4 - Macroeconomics and Monetary Economics - - Money and Interest Rates
    • E50 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - General
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • R21 - Urban, Rural, Regional, Real Estate, and Transportation Economics - - Household Analysis - - - Housing Demand

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