Session 20: Financial Regulation

Despite growing climate losses, Americans are increasingly moving to high-risk areas. This paper examines how mispricing of climate risk in mortgages and homeowners insurance distorts household location choices. We use novel data on both mortgages and insurance to analyze these dynamics in Florida from 2009-2018. We begin by documenting a breakdown in the quality of insurance provision, with new under-capitalized and under-diversified insurers dominating insurance markets. These insurers have high rates of insolvency, which elevate mortgage defaults after natural disasters. We argue that the government-sponsored enterprises (GSEs) do not sufficiently screen property insurers, leading to a mispricing of insurer counterparty risk. This mispricing creates an implicit transfer with large taxpayer exposures and results in a misallocation of credit towards high-risk areas. Our estimates suggest that, every year, there are over 8,000 excess loans and close to $2 billion in excess origination in high risk areas of Florida.

How do inaccurate priors about the distribution of interest rates affect search and outcomes in consumer credit markets? In collaboration with Chile's financial regulator, we conducted a randomized controlled trial with 112,063 loan seekers where we showed treated participants a price comparison tool that we built using administrative data from Chile's financial regulator. The tool shows loan seekers a conditional distribution of interest rates based on similar loans obtained recently by similar borrowers, using data on the universe of consumer loans merged with borrower characteristics. We find that consumers thought interest rates were lower than they actually were, and the price comparison tool caused them to increase their expectations about the interest rate they would obtain by 56%. Consumers also underestimated price dispersion, and our price comparison tool caused them to increase their estimates of dispersion by 69%. The price comparison tool did not cause people to search or apply at more institutions, but it did cause them to be 28% more likely to negotiate with their lender, to receive 13% more offers and 11% lower interest rates, and to be 5% more likely to take out a loan. We also cross-randomized whether we asked participants their priors about the distribution of interest rates, and find that merely asking these questions led them to search at 4% more institutions and obtain 9% lower interest rates.

This paper demonstrates that unpaid rent risk makes landlords reluctant to supply housing services to fragile tenants; and that insuring owners against it improves the access of renters to high-opportunity neighborhoods. We study the implementation of Visale, a publicly funded rent guarantee insurance policy in France, free of charge to eligible tenants and landlords. We exploit exhaustive registry information on all French households, data on the universe of Visale beneficiaries and claim payouts, and quasi- experimental eligibility variation across renters. We demonstrate that the non-payment guarantee increased access to private-sector rental housing for eligible tenants. The effects are stronger for immigrants and those with low or volatile incomes, who often do not satisfy standard screening criteria for landlords. The scheme eased the spatial mobility of low-income renters towards higher-wage, higher-rent locations. It led to new household formation and some reallocation of the vacant housing stock, but may have displaced ineligible households in tighter housing markets.

In many countries, the cost of housing has greatly out-paced income growth, leading to a housing affordability crisis. Leveraging Canadian loan-level data, and quasi-experimental variation in payment-to-income constraints, we document an increasing reliance of first-time-home-buyers on financial help from their parents, through mortgage co-signing. We show that parental support can effectively relax borrowing constraints---potentially to riskier borrowers.

We develop a theoretical and empirical framework to estimate bank franchise value. In contrast to regulatory guidance and some existing models, we show that sticky deposits combined with low deposit rate betas do not imply a negative duration for franchise value. Operating costs could in principle generate negative duration, but they are more than offset by fixed interest rate spreads that arise largely from banks’ lending activity. As a result, bank franchise value declines as interest rates rise, and this decline exacerbates, rather than offsets, losses on banks’ security holdings. We also show that in the cross- section, banks with the least responsive deposit rate tend to invest the most in long-term securities, suggesting that they are motivated to hedge cash flows rather than market value. Finally, despite significant losses to both asset and franchise values stemming from recent rate hikes, our analysis suggests that most U.S. banks still retain sufficient franchise value to remain solvent as ongoing concerns.

This paper develops a general equilibrium model to examine the role of information technology when intermediaries facilitate the origination and distribution of assets given information asymmetry. Information technology measures the informativeness of asset-quality signals received by intermediaries, who purchase assets produced by originators and then resell them to uninformed investors. Allowing intermediaries to operate has a mixed social welfare effect: Uninformed intermediation can be welfare reducing when adverse selection is severe in the economy, while informed intermediation always improves social welfare.

Using a newly comprehensive merge between firm data and corporate bond issuance and holdings data, we show that firms face a trade-off between minimizing their capital costs and diversifying their investor base when choosing bonds to issue. Due to investor specialization in certain bond types, firms effectively determine their bond- holder composition through their issuance decisions. Firms with higher heterogeneityin their bondholder composition are more resilient to credit market shocks. We find that, accordingly, market timing in bond issuance serves not only as a tool to mini-mize capital costs but also as a means of diversification. Our findings underscore the significant role of these financially sophisticated firms in supplying assets in a market that increasingly relies on non-bank intermediaries.

We estimate an equilibrium model of housing demand and supply. The model allows us to quantify the distributional effects of leverage regulation on mobility and access to high-quality housing. We match the population of households in Norway in 2010-2018, with demographic and financial characteristics, to the universe of housing transactions. Our model features households’ dynamic renting and owning choices, speculators’ housing portfolio rebalancing, and equilibrium pricing across housing products via a market clearing condition. We recover households’ willingness to pay for housing quality and moving costs across the income distribution. Our counterfactuals quantify the regressive effects of tighter loan-to-income (LTI) limits, and document how these depend on household preferences and can be offset limiting speculators’ real estate trading.

Large-scale debt forbearance is a key policy tool during crises, yet targeting is challenging due to information asymmetries. Using transaction-level data from a Portuguese bank during COVID-19, we find financially fragile households are more likely to enter forbearance, irrespective of income shock. Mortgage payment suspension increases consumption and savings, but effects differ across households. Low-wealth and low-income households exhibit higher consumption sensitivity to forbearance, while high-wealth and high-income households show greater saving sensitivity. Additionally, ineligible households accessing forbearance show a higher consumption sensitivity than eligible ones. Our findings suggest considering observable household characteristics could enhance the effectiveness of debt relief policies.

Households’ attachment to nominal anchors in the housing market creates aggregate nominal rigidities, with material economic consequences. A new statistic, the prevalence of “paper losses” in the stock of residential properties, captures cross-regional variation in important housing market quantities; the share of properties facing paper losses explains housing transactions volumes more effectively than price growth rates. To rationalize these patterns and study housing-market fiscal policy, we develop and structurally estimate a dynamic search and matching model with reference-dependent agents, rich heterogeneity, and realistic financial constraints. Behavioral frictions dampen the tax elasticity of property prices, and increase the revenue-maximizing level of property taxes.

Why do banks fail? We create a panel covering most commercial banks from 1865 through 2023 to study the history of failing banks in the United States. Failing banks are characterized by rising asset losses, deteriorating solvency, and an increasing reliance on expensive non-core funding. Commonalities across failing banks imply that failures are highly predictable using simple accounting metrics from publicly available financial statements. Predictability is high even in the absence of deposit insurance, when depositor runs were common. Bank-level fundamentals also forecast aggregate waves of bank failures during systemic banking crises. Altogether, our evidence suggests that the ultimate cause of bank failures and banking crises is almost always and everywhere a deterioration of bank fundamentals. Bank runs can be rejected as a plausible cause of failure for most failures in the history of the U.S. and are most commonly a consequence of imminent failure. Depositors tend to be slow to react to an increased risk of bank failure, even in the absence of deposit insurance.

Instant payment systems have received considerable attention because of their integration with the banking system and their shared functionalities with CBDCs. We show that instant payments may have the unintended consequences of increasing the banking sector’s demand for liquidity and risk-taking incentives. Using administrative banking data and transaction- level payment data from Brazil’s Pix, one of the most widely adopted instant payment systems, we find that banks increased their liquid asset holdings and lent out more defaulting loans after the adoption of instant payments. We establish the causal relationship by con- structing a novel instrument based on passive payment timeouts. These findings arise because the convenience of instant payments to consumers comes at the expense of banks’ ability to delay and net payment flows. The inability to delay payments increases banks’ demand for holding liquid assets over transforming illiquid ones, lowers their profitability per unit equity, and exacerbates their risk-taking incentives. Our findings bear important financial stability implications in light of the global surge in adopting instant payment systems, e.g., FedNow in the US.