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Subprime Lending and the Housing Bubble: Tail Wags Dog?
Abstract
The cause of the "housing bubble" associated with the sharp rise and then drop in home prices over the period 1998-2008 has been the focus of significant policy and research attention. The dramatic increase in subprime lending during this period has been broadly blamed for these market dynamics. In this paper we empirically investigate the validity of this hypothesis vs. several other alternative explanations. A model of house price dynamics over the period 1998-2006 is specified and estimated using a cross-sectional time-series data base across 20 metropolitan areas over the period 1998-2006. Results suggest that prior to early 2004, economic fundamentals provide the primary explanation for house price dynamics. Subprime credit activity does not seem to have had much impact on subsequent house price returns at any time during the observation period, although there is strong evidence of a price-boosting effect by investor loans. However, we do find strong evidence that a credit regime shift took place in late 2003, as the GSE's were displaced in the market by private issuers of new mortgage products. Market fundamentals became insignificant in affecting house price returns, and the price-momentum conditions characteristic of a "bubble" were created. Thus, rather than causing the run-up in house prices, the subprime market may well have been a joint product, along with house price increases, (i.e., the "tail") of the changing institutional, political, and regulatory environment characteristic of the period after late 2003 (the "dog").
... Explained the detailed home loan products in India. Vandell, Kerry D (2008) analyses the sharp upward push after which drop down domestic costs from the period 1998 to 2008. Changes in expenses are for the motives as such monetary basics, the trouble becomes not subprime lending in keeping with secure, but the dramatic reductions and subsequent will increase in interest quotes in the course of the early-mid-2000, the housing loan prosperous was focussed in the one's markets with full-size deliver-aspect regulations, which incline to be supplementary fee-unstable. ...
Different market players are providing Home loans to meet the necessity of possessing a home of an individual. In India, many public and private sector Banks offers different types of Home loans with different interest rates and standardized loan policy. The objective of this study is to study the satisfaction level of customers towards home loans, awareness of home loans products in Hyderabad, and empirical study on the housing loan industry. In this regard, primary data is used through a questionnaire. The issues related to drivers of demand in the housing, the evolution of home loans, Housing in India, importance, an home loans types have been discussed. Through this paper, the basics of housing loans are addressed and the basic difference between public sector banks and private sector banks is discussed.
... Cheap credit could potentially influence housing prices through high loan-to-value ratios, easy approval rates, and a whole range of phenomenon often associated with, but not limited to, subprime lending (Coleman, LaCour-Little, and Vandell 2008). We now turn to the effect of down payment requirements and approval rates. ...
Between 2000 and 2006, the CaseShiller/Standard and Poor’s Housing Price Index increased by 74 percent in real terms, as America experienced a massive housing bubble. Moreover prices in some metropolitan areas grew even faster. Prices in Los Angeles, for example, rose by 130 percent during this period while prices in greater Tampa rose by 97 percent over this time. As the bubble burst, that index dropped by a third and major financial institutions became insolvent, at least partially because of housing-related losses. What caused this great boom-bust cycle that tore through America’s housing markets?Many economists have argued that aspects of the credit market, including low interest rates, can explain the boom. According to this view, aggressive mortgage approvals and easy mortgage terms encouraged buyers to bid more for housing. During the boom, this logic led some to argue that home prices were appropriately higher. After the bust, this logic has led others to blame Alan Greenspan, former chairman of the Federal Reserve Board, and his successor Benjamin Bernanke for causing the bubble by spreading easy money.There is certainly some circumstantial evidence indicating a role for credit markets in this boom. Mortgages became more widely available and cheaper along a number of important dimensions from around 2001 through the peak of the housing market. There was a flood of global credit, much of which came to the U.S. Many buyers who took advantage of subprime loans paid top dollar for housing and are now delinquent on their mortgages.The evidence summarized in this Policy Brief casts doubt on the view that easy credit can explain the bubble. It isn’t that low interest rates don’t boost housing prices. They do. It isn’t that higher mortgage approval rates aren’t associated with rising home values. They are. But the impact of these variables, as predicted by economic theory and as estimated empirically over many years, is too small to explain much of the housing market event that we have just experienced.
... We took house prices to be exogenous, thereby shutting down any link between mortgage underwriting practices and house prices. This is a shortcoming, as it is possible that increasingly lax underwriting standards were a contributor to the price run-up that occurred in the decade prior to 2006 (see Coleman, LaCour-Little, and Vandell (2008) and Mian and Sufi (2009)). ...
We study optimal exercise by mortgage borrowers of the option to default. Also, we use an equilibrium valuation model incorporating default to show how mortgage yields and lender recovery rates on defaulted mortgages depend on initial loan-to-value ratios when borrowers default optimally. The analysis treats both the frictionless case and the case in which borrowers and/or lenders incur deadweight costs upon default. The model is calibrated using data on California mortgages. We find that the model's principal testable implication for default and mortgage pricing—that default rates and yield spreads will be higher for high loan-to-value mortgages—is borne out empirically.
... In the same quarter, the combined share of subprime and alternative mortgages peaked at 34.8% of all originations, an increase that roughly coincided with the peak in the housing market in the US. 2 Second, the securitization process that has aggregated large pools of non-performing and high-risk mortgages on banks balance sheets has led to the mortgages crisis contagion across the world. By early 2008, securitized mortgages losses have triggered significant contraction in the liquidity and the loss of market confidence in the quality of the assets held by the global financial institutions. ...
The global financial crisis of 2007-2009 crystallized the underlying imbalances that are currently acting to tear apart the Euro area monetary and fiscal systems by focusing markets and public attention on the core cause of the overall Euro crisis, the insolvency of the Euro area member-states model of debt financing of public and private expenditure and investment. Hence, any repair of the system will require addressing the twin malaises of the Euro area model of economic development: the private and public sectors debt trap and the social-economic model reliant on deficit financing of public and private consumption and expenditure.
... Subprime mortgages and home equity lines of credit (HELOCs), intended to increase homeownership and consumption levels, have been broadly blamed for the " housing bubble " in the United States in the early-to mid-2000s, and the subsequent crash and mortgage crisis. Other explanations, as investigated by Vandell (2008), include: (1) subprime lending largely was displacing other loans that would have been made; (2) the problem with prices was primarily in the supply of new housing, not with the availability and cost of mortgage credit; (3) the problem was not subprime lending per se, but the Fed's dramatic reductions, then increases in interest rates during the early-to mid-2000s; (4) the housing " boom " was concentrated in markets with significant supply-side restrictions, which tend to be more price-volatile; and (5) the problem was primarily one of fraud and/or misrepresentation on the part of aggressive mortgage underwriters or borrowers, not in the presence of subprime lending per se. In this paper, I offer a theoretical demand-side explanation for the " housing bubble, " and the subsequent crash and home equity lending losses. ...
Subprime mortgages, HELOCs, supply-side restrictions, fraud and misrepresentation have been postulated as causes of the "housing bubble" in the U.S. in the early- to mid-2000s, and the subsequent crash and mortgage crisis. In this paper, I offer a theoretical demand-side explanation instead. Utilizing a sunspot model of housing demand and home equity lending, I show how agent preferences generate sunspot equilibria which cause housing prices to be excessively volatile, and how this results in home equity lending losses. I also suggest how the Fed's dramatic reductions, then increases in interest rates during the early- to mid-2000s, could have played a role in increasing housing price volatility. In addition, I examine financial contagion (cross-country spillovers of housing price volatility). Finally, I suggest how tax policy could be used to eliminate sunspots in housing markets and possibly avert future mortgage crises.
... Nonetheless, the combination of a historically unprecedented run-up in housing prices; large disconnects between house prices, rents, incomes, and construction costs; the widespread discussion of the existence of a housing bubble in the popular and financial press; and academic research findings of beliefs that would underpin a bubble (Case & Shiller, 2004) are powerful evidence of a housing bubble. We agree that the expansion of credit to the subprime sector was unlikely to have been the principal cause of the bubble, because there was a general rise in all sectors of the real estate market, including those unlikely to be much affected by subprime lending (Coleman, LaCour-Little, & Vandell, 2008). ...
This paper studies the evolution of property values and the connections between shadow banking and property markets in China. We use Pooled Mean Group estimation to analyze Chinese house prices in 65 cities from 2007-2014, defining the " fundamentals " of housing prices with the Gordon dividend discount model, and using lagged rents, prices, real, nominal interest rates, and shadow banking activity as short term explanatory factors. We find that the cities tend to share long run fundamentals and adjust relatively quickly to deviations from the fundamentals; we do not find anything close to bubbles. We also find that house prices grow more rapidly with availability of shadow banking funds, which have grown rapidly. A policy implication for the Chinese government is to focus on regulatory monitoring in this funding sector.
This paper investigates the relationship between property demand and property price in China. Using a unique database that
includes information for 29 provinces, autonomous regions and municipalities from 1998 to 2009, the author finds evidence
that residential demand is the basic driver of Chinese property price rise, which is more obvious in lower per capita GDP
area than in higher one. Therefore, the author believes that “Limit to Buy” can only work in a short time, but in a long run
it is effective to increase supply.
This paper establishes a theoretical and empirical link between the use of aggressive mortgage lending instruments, such as interest only, negative amortization or subprime, mortgages, and the underlying house price volatility. Such instruments, which come into existence through innovation or financial deregulation, allow more borrowing than otherwise would occur in previously affordability constrained markets. Within the context of a model with endogenous rent-buy decision, we demonstrate that the supply of aggressive lending instruments temporarily increases the asset prices in the underlying market because agents find it more attractive to own or because their borrowing constraint is relaxed, or both. This result implies that the availability of aggressive mortgage lending instruments magnifies the real estate cycle and the effects of fundamental demand shocks. We empirically confirm the predictions of the model using recent subprime origination experience. In particular, we find that counties and cities that receive a high concentration of aggressive lending instruments experience larger price increases and subsequent declines than areas with low concentration of such instruments. This result holds in the presence of various controls and instrumental variables.
This article analyzes the bubble in property values across cities in the United States from 1999 through 2005. We find evidence of momentum in house price growth (relative to growth in rents) away from the underlying fundamentals throughout the 1980–2005 period; however, momentum increased after 1999. We find that the bubble happened mostly after 2003; it was for a relatively short period and was characterized by a series of positive, seemingly random, shocks that were associated with the surge in the subprime market and the decline in short-term interest rates. Before that price changes were reasonably well explained by the fundamentals, particularly the decline in long‐term interest rates in the early part of the bubble period. We do not find evidence of a tendency for prices relative to rents to revert to a long‐run trend.
This paper establishes a theoretical and empirical link between the use of aggressive mortgage lending instruments, such as interest only, negative amortization or subprime, mortgages, and the underlying house prices. Such instruments, which come into existence through innovation or financial deregulation, allow more borrowing than otherwise would occur in previously affordability constrained markets. Within the context of a model with an endogenous rent-buy decision, we demonstrate that the supply of aggressive lending instruments temporarily increases the asset prices in the underlying market because agents find it more attractive to own or because their borrowing constraint is relaxed, or both. This result implies that the availability of aggressive mortgage lending instruments magnifies the real estate cycle and the effects of fundamental demand shocks. We empirically confirm the predictions of the model using recent subprime origination experience. In particular, we find that regions that receive a high concentration of aggressive lending instruments experience larger price increases and subsequent declines than areas with low concentration of such instruments. This result holds in the presence of various controls and instrumental variables.
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