The Impact of Credit Rationing on Housing Investment: A Multi-Market Disequilibrium Approach

Abstract

The recent interest in the economics of market disequilibrium has generated a parallel literature on the estimation of models of markets in disequilibrium (see Quandt [1982a] for a recent survey). Two markets that are often cited as examples are the housing and mortgage markets. Disequilibrium models have been proposed and estimated which view each of these markets in isolation from the other. This paper presents a model of both markets interlocked in a way that quantity rationing in one market spills over into the other market and creates quantity rationing in the other market as well. There is an extensive literature dealing with quantity rationing in financial markets, dubbed credit rationing. The seminal paper of Jaffee and Modigliani [1969] defines a taxonomy of two types of credit rationing. Equilibrium credit rationing arises due to the inability of lenders to use price terms to discriminate prefectly with respect to borrowers with differential risk characteristics. Thus, some borrowers may be unsatisfied with their allocation of credit. But from the point of view of a lender with imperfect information, the price terms are profit maximizing. Dynamic credit rationing is defined as the difference between equilibrium credit rationing and the rationing that occurs when the prevailing rate differs from the equilibrium rate. There is as yet no generally accepted theory of how the prevailing rate gets out of line with the equilibrium rate for extended periods of time. The literature on the subject refers to usury ceilings, pressure from various government agencies, even social mores. Rigorous microfoundations are usually absent. However, the empirical evidence of quantity rationing in a wide variety of financial markets is impressive, at least during periodic credit crunches.2 Jaffee and Modialiani maintain that of the two types of credit rationing, dynamic rationing will dominate equilibrium rationing in time series variations. It is this dynamic form that the analysis below refers to and no further distinction between the two will be made. In the case of the mortgage market, interest in non-price rationing has been keen ever since the renowned credit drought of 1966. Mortgage market experts in both the public and private sectors have most often laid the blame on a complex