On the Effectiveness of Loan‐to‐Value Regulation in a Multiconstraint Framework

Abstract

Models in the infinite horizon macro-housing literature often assume that borrowers are constrained exclusively by the loan-to-value (LTV) ratio. Motivated by the Swedish micro-data, I explore an alternative arrangement where borrowers are constrained by the feasibility of repayment, but choose a house of maximum permissible size conditional on the LTV restriction. While stricter LTV limits are often considered as a measure to tackle the rise in household indebtedness, I find that policy designed to lower the maximum permissible LTV ratio may actually leave the debt-to-GDP ratio unchanged and increase housing prices in equilibrium if borrowers are bound by two constraints at the same time. In a model with occasionally binding constraints, I show that also for the analysis of the short-run effects of different policies, the consideration of multiple constraints, possibly binding at the same time, is important. The effectiveness of LTV as a measure to tackle the rise in indebtedness has to be reassessed and is likely lower than previously shown.

Loan‐to‐value limits as a macroprudential policy tool: Developments in theory and practice

“…21 A loan is classified as nonperforming when a borrower fails to make the regular payments, typically over more than 90 days. 22 See Grodecka (2020) for an analysis of the implications of multiple constraints on macroeconomic outcomes. 23 Although the fixed-effect estimate also yields the same qualitative result, the estimate is also lower in absolute terms and not statistically significant.…”

“…Moreover, it focused almost exclusively on LTV ratio limits, although in practice, these are used together with other limits. Grodecka (2020) simultaneously embeds both an LTV and a DSTI constraint in a New Keynesian model, and shows that tighter LTV ratios may have no effect on lowering household indebtedness if the DSTI constraint is also binding. Moreover, in an economy where all borrowers are constrained by both LTV and DSTI limits, tighter LTV limits may actually raise house prices, as a lower fraction of housing wealth has to back the same amount of outstanding debt.…”

“…2222See Grodecka (2020) for an analysis of the implications of multiple constraints on macroeconomic outcomes.…”

Interest‐only Mortgages and Consumption Growth: Evidence From a Mortgage Market Reform

“…Figure 1 consumption, mortgage debt, and io-mortgage share borrowers with loans on average larger than the amortizing-mortgage loans. In this article, we focus on two constraints immediately related to mortgage borrowing, payment-to-income (PTI) and loan-to-value (LTV) constraints (Greenwald, 2018;Grodecka, 2020;Kaplan et al, 2020), to investigate the impact of the introduction of IO mortgages on consumption expenditure empirically and to quantify the importance of the constraints for consumption growth.…”

Interest-Only Mortgages and Consumption Growth: Evidence from a Mortgage Market Reform

“…In particular, we analyze the introduction of interest-only mortgages using detailed household-level data combined with insights from recent macroeconomic models that incorporate a payment-to-income constraint for borrowing. In such models, amortization payments directly enter the borrowing constraint, which allows a reduction in monthly payments either through lower amortization payments or lower interest rates to directly influence borrowing capacity (Grodecka, 2019;Kaplan et al, 2017;Greenwald, 2018). These models stand in contrast to traditional collateral-based models of credit constraints, where amortization payments do not affect borrowing directly.…”