Moneyed interest
Federal Reserve Structure, Economic Ideas, and Monetary and Financial Policy
Michael Bordo & Edward Prescott
NBER Working Paper, July 2019
Abstract:
The decentralized structure of the Federal Reserve System is evaluated as a mechanism for generating and processing new ideas on monetary and financial policy. The role of the Reserve Banks starting in the 1960s is emphasized. The introduction of monetarism in the 1960s, rational expectations in the 1970s, credibility in the 1980s, transparency, and other monetary policy ideas by Reserve Banks into the Federal Reserve System is documented. Contributions by Reserve Banks to policy on bank structure, bank regulation, and lender of last resort are also discussed. We argue that the Reserve Banks were willing to support and develop new ideas due to internal reforms to the FOMC that Chairman William McChesney Martin implemented in the 1950s. Furthermore, the Reserve Banks were able to succeed at this because of their private-public governance structure, a structure set up in 1913 for a highly decentralized Federal Reserve System, but which survived the centralization of the System in the Banking Act of 1935. We argue that this role of the Reserve Banks is an important benefit of the Federal Reserve’s decentralized structure by allowing for more competition in ideas and reducing groupthink.
Policy Uncertainty and Bank Mortgage Credit
Gazi Kara & Youngsuk Yook
Federal Reserve Working Paper, July 2019
Abstract:
We document that banks reduce supply of jumbo mortgage loans when policy uncertainty increases as measured by the timing of US gubernatorial elections in banks' headquarter states. The reduction is larger for more uncertain elections. We utilize high-frequency, geographically granular loan data to address an identification problem arising from changing demand for loans: (1) the microeconomic data allow for state/time (quarter) fixed effects; (2) we observe banks reduce lending not just in their home states but also outside their home states when their home states hold elections; (3) we observe important cross-sectional differences in the way banks with different characteristics respond to policy uncertainty. Overall, the findings suggest that policy uncertainty has a real effect on residential housing markets through banks’ credit supply decisions and that it can spill over across states through lending by banks serving multiple states.
FHA, Fannie Mae, Freddie Mac, and the Great Recession
Wayne Passmore & Shane Sherlund
Real Estate Economics, forthcoming
Abstract:
Did government mortgage programs mitigate the adverse economic effects of the 2007-2009 Great Recession? We find that counties with greater participation in pre‐crisis government mortgage programs experienced less‐severe economic downturns during the Great Recession. In particular, counties with higher proportions of FHA, Fannie Mae, and Freddie Mac lending prior to the financial crisis had smaller increases in serious delinquency and foreclosure rates; smaller declines in mortgage purchase originations, house prices, and new automobile purchases; and smaller increases in unemployment rates. Some of these effects were still evident in 2014 despite numerous new government policies and programs designed to promote economic recovery. We conclude that pre‐existing mortgage programs with more stable underwriting standards, credit risk pricing, and liquidity played a key role in supporting economic conditions during the Great Recession.
Regulating Household Leverage
Anthony DeFusco, Stephanie Johnson & John Mondragon
Review of Economic Studies, forthcoming
Abstract:
This paper studies how credit markets respond to policy constraints on household leverage. Exploiting a sharp policy-induced discontinuity in the cost of originating certain high-leverage mortgages, we study how the Dodd-Frank “Ability-to-Repay” rule affected the price and availability of credit in the U.S. mortgage market. Our estimates show that the policy had only moderate effects on prices, increasing interest rates on affected loans by 10-15 basis points. The effect on quantities, however, was significantly larger; we estimate that the policy eliminated 15 percent of the affected market completely and reduced leverage for another 20 percent of remaining borrowers. This reduction in quantities is much greater than would be implied by plausible demand elasticities and indicates that lenders responded to the policy not only by raising prices but also by exiting the regulated portion of the market. Heterogeneity in the quantity response across lenders suggests that agency costs may have been one particularly important market friction contributing to the large overall effect as the fall in lending was substantially larger among lenders relying on third parties to originate loans. Finally, while the policy succeeded in reducing leverage, our estimates suggest this effect would have only slightly reduced aggregate default rates during the housing crisis.
Bank Deposits and the Stock Market
Leming Lin
Review of Financial Studies, forthcoming
Abstract:
I show that households' demand for retail deposits decreases during stock market booms, which induces a contraction in bank lending and a decrease in real activity in bank-dependent firms. I identify this channel using geographic heterogeneity in households' stock market participation. Banks in areas with greater stock ownership see a greater reduction in deposit growth when stock returns are high. This holds even across branches of the same bank and across ZIP codes within counties. Counties served by banks financed by more stock-active depositors see a greater decline in bank lending and bank-dependent-firm employment following high stock returns.
Credit Constraints and Labor Supply: Evidence from Bank Branching Deregulation
Kien Dao Bui & Ejindu Ume
Economic Inquiry, forthcoming
Abstract:
This paper examines labor supply adjustment‐both at the intensive and extensive margins‐following financial market development. Specifically, we exploit the staggered passage of bank branching deregulation in the United States to study the impact of relaxing credit constraints on labor supply decisions. We find strong evidence that improvements in how credit markets function decrease weekly hours worked, and that the effect is most significant for the lower‐middle (marginal) income group. Furthermore, we observe heterogeneous responses across demographic groups (race and income). In contrast, we find little to no evidence that deregulation has a significant impact on the extensive margin of participation.
The Long-Run Influence of Local Economic Conditions on Financial Decision-Making
Erin McGuire
NBER Working Paper, May 2019
Abstract:
A growing literature in economics explores the relationship between personal experiences with the business cycle and belief/preference formation. There exists substantial evidence using national variation in business cycles that personal experiences hold substantial weight in decision-making. However, the use of national aggregates limits researchers to the use of variation in decisions across birth-cohorts. Using state-level personal income for the majority of the 20th century, I investigate whether individual investment decisions are altered by sub-national economic fluctuations. Along with providing evidence that preferences/beliefs about investment begin to form in late childhood, my results suggest that children who grew up in states with lower average personal income invest less in risky assets throughout their lives, invest more in property, and are less likely to be self employed.
Overreaction in Credit Spreads: The Role of Lenders' Personal Economic Experiences
Daniel Carvalho, Janet Gao & Pengfei Ma
Indiana University Working Paper, May 2019
Abstract:
We provide micro-level evidence that credit spreads overreact to lenders’ recent personal economic experiences. Using unique data on the location of the real estate properties of loan officers originating large corporate loans, we show that credit spreads overweight recent economic conditions in officers’ local neighborhoods, that we capture using local housing price growth. Higher local growth in officers’ areas is associated with significantly lower credit spreads. The analysis suggests that these effects cannot be explained by borrower and bank fundamentals, or changes in officer wealth, and that they capture officers’ responses to their local economic experiences. Overall, the evidence is most consistent with the view that lenders’ beliefs drive this overreaction in credit spreads to their recent personal experiences.
Credit Counseling and Consumer Credit Trajectories
Stephen Roll & Stephanie Moulton
Economic Inquiry, October 2019, Pages 1981-1996
Abstract:
Nonprofit credit counseling provides consumers with financial education, individualized financial counseling, and debt restructuring. Despite potential benefits, relatively little is known about its efficacy. This study uses administrative data to assess the relationship between counseling and consumer credit outcomes. We estimate difference‐in‐difference models to analyze credit outcomes for a counseled group relative to a matched comparison group for six quarters after a baseline period. We find evidence of a substantial credit shock around the time of counseling. Post‐treatment, counseling is associated with a persistent reduction in debt even after accounting for bankruptcies, foreclosures, debt charge‐offs, or participation in debt consolidation programs.
Deposit Market Power, Funding Stability and Long-Term Credit
Lei Li, Elena Loutskina & Philip Strahan
NBER Working Paper, August 2019
Abstract:
This paper shows that banks raising deposits in more concentrated markets have more funding stability, which enhances banks’ ability to extend longer-maturity loans. We show that banks raising deposits in concentrated markets exhibit less pro-cyclical financing costs and profits, which in turn reduces the funding risk of originating long-term illiquid loans. Consistently, banks with deposit HHI one standard deviation above average extend loans with about 20% longer maturity than those with deposit HHI one standard deviation below average. Deposit concentration also allows banks to charge lower maturity premiums. Access to banks raising funds in concentrated markets improves growth in industries traditionally reliant on long-term credit.
When Words Sweat: Identifying Signals for Loan Default in the Text of Loan Applications
Oded Netzer, Alain Lemaire & Michal Herzenstein
Journal of Marketing Research, forthcoming
Abstract:
The authors present empirical evidence that borrowers, consciously or not, leave traces of their intentions, circumstances, and personality traits in the text they write when applying for a loan. This textual information has a substantial and significant ability to predict whether borrowers will pay back the loan above and beyond the financial and demographic variables commonly used in models predicting default. The authors use text-mining and machine learning tools to automatically process and analyze the raw text in over 120,000 loan requests from Prosper, an online crowdfunding platform. Including in the predictive model the textual information in the loan significantly helps predict loan default and can have substantial financial implications. The authors find that loan requests written by defaulting borrowers are more likely to include words related to their family, mentions of God, the borrower’s financial and general hardship, pleading lenders for help, and short-term-focused words. The authors further observe that defaulting loan requests are written in a manner consistent with the writing styles of extroverts and liars.