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Mortgages denominated in domestic and foreign currencies: Simple models

Author

Listed:
  • Julia Kiraly

    (International Business School Budapest)

  • Andras Simonovits

    (Institute of Economics, Centre for Economic and Regional Studies, Hungarian Academy of Sciences, also Mathematical Institute of Budapest University of Technology, and Department of Economics of CEU)

Abstract

After the short temporary popularity of FX denominated loans, during the Great Financial and Economic Recession (2007–2013), the burden of these loans has become unaffordable for a lot of borrowers. We have designed a family of simple models to compare the cash flows of installments and the paths of outstanding debts denominated in domestic and foreign currencies, respectively. Having these models, we are able to draw several conclusions relevant to the recent debates about the foreign currency denominated loans. Our study demonstrates the key role played by the uncovered interest rate parity in comparisons. Moreover, we give a closed-form solution for the trade-off between the depreciation and the unilateral interest rate increases by the banks. In a simple model, we determine the optimal size for domestic and foreign currency denominated loans, respectively.

Suggested Citation

  • Julia Kiraly & Andras Simonovits, 2015. "Mortgages denominated in domestic and foreign currencies: Simple models," CERS-IE WORKING PAPERS 1513, Institute of Economics, Centre for Economic and Regional Studies.
    • Handle: RePEc:has:discpr:1513
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    References listed on IDEAS

    as
    1. Stanley Fischer & Franco Modigliani, 1978. "Towards an understanding of the real effects and costs of inflation," Review of World Economics (Weltwirtschaftliches Archiv), Springer;Institut für Weltwirtschaft (Kiel Institute for the World Economy), vol. 114(4), pages 810-833, December.
    2. Fidrmuc, Jarko & Hake, Mariya & Stix, Helmut, 2013. "Households’ foreign currency borrowing in Central and Eastern Europe," Journal of Banking & Finance, Elsevier, vol. 37(6), pages 1880-1897.
    3. Martin Brown & Ralph De Haas, 2012. "Foreign banks and foreign currency lending in emerging Europe [Capital structure and financial risk: evidence from foreign debt use in East Asia]," Economic Policy, CEPR, CESifo, Sciences Po;CES;MSH, vol. 27(69), pages 57-98.
    4. A. Bethlendi, 2011. "Policy measures and failures on foreign currency household lending in central and eastern Europe," Acta Oeconomica, Akadémiai Kiadó, Hungary, vol. 61(2), pages 193-223, June.
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    More about this item

    Keywords

    mortgage; currency denominated loan; credit crisis; payback models with annuity;
    All these keywords.

    JEL classification:

    • C63 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Computational Techniques
    • D14 - Microeconomics - - Household Behavior - - - Household Saving; Personal Finance
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages

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