Consumer risk appetite, the credit cycle, and the housing bubble

Joseph L. Breeden and Jose J. Canals-Cerda

No 16-5, Working Papers from Federal Reserve Bank of Philadelphia

Abstract: We explore the role of consumer risk appetite in the initiation of credit cycles and as an early trigger of the U.S. mortgage crisis. We analyze a panel data set of mortgages originated between the years 2000 and 2009 and follow their performance up to 2014. After controlling for all the usual observable effects, we show that a strong residual vintage effect remains. This vintage effect correlates well with consumer mortgage demand, as measured by the Federal Reserve Board?s Senior Loan Officer Opinion Survey, and correlates well to changes in mortgage pricing at the time the loan was originated. Our findings are consistent with an economic environment in which the incentives of low-risk consumers to obtain a mortgage decrease when the cost of obtaining a loan rises. As a result, mortgage originators generate mortgages from a pool of consumers with changing risk profiles over the credit cycle. The unobservable component of the shift in credit risk, relative to the usual underwriting criteria, may be thought of as macroeconomic adverse selection.

Keywords: Credit risk; credit cycles; Mortgages; Lending standards; Financial crisis (search for similar items in EconPapers)
JEL-codes: G20 G21 G32 (search for similar items in EconPapers)
Pages: 34 pages
Date: 2016-02-18
New Economics Papers: this item is included in nep-cfn and nep-ure
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