How Resilient Is Mortgage Credit Supply? Evidence from the COVID-19 Pandemic

Abstract

We study the evolution of USmortgage credit supply during the COVID-19 pandemic. Although the mortgage market experienced a historic boom in 2020, we show there was also a large and sustained increase in intermediation markups that limited the pass-through of lowrates to borrowers. Markups typically rise during periods of peak demand, but this historical relationship explains only part of the large increase during the pandemic. We present evidence that pandemic-related labor market frictions and operational bottlenecks contributed to unusually inelastic credit supply, and that technology-based lenders, likely less constrained by these frictions, gained market share. Rising forbearance and default risk did not significantly affect rates on “plainvanilla” conforming mortgages, but it did lead to higher spreads on mortgages without government guarantees and loans to the riskiest borrowers. Mortgage-backed securities purchases by the Federal Reserve also supported the flow of credit in the conforming segment.

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“…Fed interventions in the MBS market meant that rates fell again in the beginning of April. However, as documented by Fuster et al (2021), capacity constraints among originators meant that the spread between the primary market rates charged by originators and rates in the MBS market remained wide for an extended period, as illustrated in panel B of figure 1. Rates were historically low but most likely about 20 or 30 basis points higher than they would have been in the absence of binding capacity constraints in the mortgage origination industry, driven by a shortage of qualified workers and operational frictions such as how to complete appraisals and closings while maintaining social distancing.…”

“…However, as a method for offsetting the shock of the pandemic, its effectiveness was limited. Low mortgage rates were slow to diffuse through the economy, and intermediaries captured a significant portion of the benefits, at least initially (Fuster et al (2021)). Figure 4 shows that the benefits of lower rates went into effect gradually over the course of six quarters.…”

“…10-year CMT is the constant-maturity yield on a 10-year bond as reported in FRB H-15. For details, see Fuster et al (2021). component of the program, and Fuster et al (2021) show that they indeed lowered mortgage rates and spurred a significant wave of refinancing.…”

“…For details, see Fuster et al (2021). component of the program, and Fuster et al (2021) show that they indeed lowered mortgage rates and spurred a significant wave of refinancing. Although borrowers who were enrolled in forbearance were unable to refinance, we show that a large fraction of borrowers who remained current on their loans during the height of the pandemic took advantage of the refinancing opportunity and significantly lowered their payments.…”

“…Although forbearance was very effective in mitigating mortgage market distress, we argue that the Federal Reserve's LSAPs, implemented at the onset of the pandemic, had more modest effects. Although empirical evidence suggests that LSAPs lowered mortgage rates (Fuster et al (2021)) and spurred a refinancing boom in the spring and summer of 2020, most borrowers experiencing pandemic-related financial distress were likely unable to refinance. A first-order impediment was forbearance itself, as borrowers enrolled in a forbearance plan were required to exit the plan and make three consecutive mortgage payments in order to qualify for refinancing.…”