Working Paper: NBER ID: w19421
Authors: Hui Chen; Michael Michaux; Nikolai Roussanov
Abstract: We estimate a structural model of household liquidity management in the presence of long-term mortgages. Households face counter-cyclical idiosyncratic labor income uncertainty and borrowing constraints, which affect optimal choices of leverage, precautionary saving in liquid assets and illiquid home equity, debt repayment, mortgage refinancing, and default. Taking the observed historical path of house prices, aggregate income, and interest rates as given, the model quantitatively accounts for the run-up in household debt and consumption boom prior to the financial crisis, their subsequent collapse, and mild recovery following the Great Recession, especially among the most constrained households.
Keywords: Mortgage Refinancing; Household Liquidity Management; Macroeconomic Uncertainty
JEL Codes: E21; E44; G21
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| increase in consumer indebtedness during the housing price run-up in the mid-2000s (G51) | liquidity-constrained households taking advantage of relaxed collateral constraints (G59) |
| liquidity-constrained households taking advantage of relaxed collateral constraints (G59) | varied consumption responses among households with different leverage levels (D12) |
| liquidity constraints faced by households (D14) | effectiveness of monetary policy in stimulating refinancing activity (E52) |
| households preemptively refinance to build liquid asset buffers (G51) | anticipation of increased labor income risk during economic downturns (E24) |
| long-term nature of mortgages (G21) | slow deleveraging process experienced by households during the Great Recession (G59) |