Loan-to-value Limits Research Articles

The impact of a macroprudential borrower-based measure on households’ leverage and housing choices

This paper investigates the impact of changes in lending limits on household leverage and housing choices. Using credit registry data and a difference-in-differences estimation strategy we determine how a change in the loan-to-value (LTV) ratio - a macroprudential policy tool - affected constrained households. Our results show that the policy change was effective in reducing households' leverage as constrained households took out smaller loans and had lower loan-to-income ratios. Such households also paid higher interest rate spreads and had higher loan-service-to-income ratios than the control group. Finally, we also show that the policy change affected households' housing choices, as constrained households bought less expensive houses. Our results highlight the improvement of the risk profile of households following the introduction of the LTV limits.

Digging Deeper—Evidence on the Effects of Macroprudential Policies from a New Database

AbstractThis paper introduces a comprehensive database of macroprudential policies, which covers 134 countries from January 1990. Using a novel numerical indicator of the tightness of loan‐to‐value (LTV) regulations, we estimate the policy effects of incremental tightening in LTV limits, employing a propensity score–based method to address endogeneity concerns. The results point to economically significant and nonlinear effects on household credit, with a declining per‐unit impact for larger tightening measures. The analysis indicates that policy leakage effects could be a factor behind the nonlinear effects. We finally find that the side effects of macroprudential policies on consumption and output are relatively small.

Adjusting to Macroprudential Policies: Loan-to-Value Limits and Housing Choice

Abstract This study provides novel evidence regarding the effects of loan-to-value (LTV) limits on housing choices. Using a detailed loan-level dataset, I exploit the introduction of LTV limits in Israel. I find that the LTV limits led borrowers to choose housing units that were more affordable, farther from the central business district, and in lower socioeconomic neighborhoods. Additionally, these LTV limits increase interest rates and decrease loan amounts. The findings of this study indicate that macroprudential policies, which focus on the stability of the financial system, have micro implications on location choices, commuting costs, and movement to less-advantaged areas.

House Price Dynamics, Optimal LTV Limits and the Liquidity Trap

Abstract This paper studies the optimal design of a macro-prudential instrument, a loan-to-value (LTV) limit, and its implications for monetary policy in a model with nominal rigidities and financial frictions. The analysis accounts for both an effective lower bound on the nominal interest rate and an upper bound on the ability of LTV limits to stimulate credit demand. The welfare-based loss function features a role for macro-prudential policy to enhance risk-sharing. Optimal LTV limits are strongly countercyclical. In a house price boom-bust episode, the active use of LTV limits alleviates debt-deleveraging dynamics and prevents the economy from falling into a liquidity trap.

Cooling the mortgage loan market: The effect of borrower-based limits on new mortgage lending

This paper studies the effects of regulatory measures concerning maximum loan-to-value (LTV), debt-to-income (DTI), and debt service-to-income ratios (DSTI) on new loans secured by residential property. It uses loan-level regulatory survey data on about 82,000 newly granted residential mortgage loans in Czechia from 2016 to 2019 to estimate the average effects of regulatory measures and their heterogeneous effects depending on borrower, loan, bank, and regional characteristics. We find that the LTV limits decreased the mortgage loan size only slightly, while the value of collateral securing the loans increased. Only the additional DTI and DSTI limits helped reduce the average loan size significantly and prompted more risk-sensitive pricing that heighten the average lending rate. The mortgage market response to the limits appears heterogeneous in loan size rather than pricing or collateralization. The loan size reduction varied with the borrower’s income, age, and location. High-income, high-repayment, and 25 to 35 years old borrowers reduced their contracted loan size more. Borrowers located in regions with higher GDP per capita and lower unemployment rates reduced the contracted loan size more. Longer-maturity loans showed a greater drop in the contracted loan size.

Loan-to-Value Regulations on Mortgages and the Use and Refinancing of Unsecured Debt

We study how loan-to-value (LTV) regulations on mortgages can change the use of unsecured debt and mortgage refinancing behaviors for households at or near the regulatory limits imposed. This study focuses on the differences in unsecured debt market participation between Norway and Sweden, where LTV regulations are in effect, and Denmark and earlier studies, where no LTV limits are imposed. We analyze the unsecured debt loan market using data from a repeated household survey from 2019 and 2021 with 4,010 and 3,023 respondents, respectively. We also explore mortgage lending and unsecured debt using a unique micro data set covering 7,385 Norwegian households. Our analysis shows that unsecured debt increases with LTV level but that households’ refinancing behaviors explain the lower increase in unsecured household debt at or near the regulatory limit for LTV on mortgages. We further demonstrate that an increasing number of households cannot refinance unsecured debt with mortgage debt. This lack of ability can lead to a rapid increase in the number of financially vulnerable households. We are the first to demonstrate that changes in different debt sources and refinancing patterns can increase the number of financially vulnerable households when LTV regulations are imposed solely on mortgage debt.

House Price Dynamics, Optimal Ltv Limits and the Liquidity Trap

The inception of macro-prudential policy frameworks in the wake of the global financial crisis raises questions about the effects of the newly available policy tools and their interaction with the existing ones. We study the optimal setting of a loan-to-value (LTV) limit, and its implications for optimal monetary policy, in a model with nominal rigidities and financial frictions. The welfare-based loss function implies a role for macro-prudential policy to enhance risk-sharing. Following a house price boom-bust episode, macro-prudential policy alleviates debt-deleveraging dynamics and prevents the economy from falling into a liquidity trap. In this scenario, optimal policy always entails countercyclical LTV limits, while the response of the nominal interest rate depends on the nature of the underlying shock driving house prices.

The Macroprudential Toolkit: Effectiveness and Interactions

We use a DSGE model with financial frictions, leverage limits on banks, loan to value (LTV) limits and debt‑service ratio (DSR) limits on mortgage borrowing to examine: i) the effects of different macroprudential policies on key macro aggregates; ii) their interaction with each other and with monetary policy; and iii) their effects on the volatility of key macroeconomic variables and on welfare. We find that capital requirements can nullify the effects of financial frictions and reduce the effects of shocks emanating from the financial sector on the real economy. LTV limits, on their own, are not sufficient to constrain household indebtedness in booms, though can be used with capital requirements to keep DSRs under control. Finally, DSR limits lead to a significant decrease in the volatility of lending, consumption and inflation, since they disconnect the housing market from the real economy. Overall, DSR limits are welfare improving relative to any other macroprudential tool.

Multiple Credit Constraints and Time-Varying Macroeconomic Dynamics

I explore the macroeconomic implications of borrowers facing both loan-to-value (LTV) and debt-service-to-income (DTI) limits, using an estimated DSGE model. I identify when each constraint dominated over the period 1984-2019: LTV constraints dominate in contractions, when house prices are relatively low – and DTI constraints dominate in expansions, when interest rates are relatively high. I also find that DTI standards were relaxed during the mid-2000s’ boom, and that lower DTI limits or higher interest rates, but not lower LTV limits, would have prevented the boom. Finally, county panel data attest to multiple credit constraints as a source of nonlinear dynamics.

Cross-border effects of prudential regulation: Evidence from the euro area

Using the Prudential Instruments Database (Cerutti et al., 2017b) and a unique confidential database on balance sheet items of euro area financial institutions, we analyse cross-border spillovers from prudential regulation for 248 banks from 16 euro-area countries over the period 2007Q3–2014Q4. We find that foreign branches increase lending following the tightening of sector-specific capital buffers, loan-to-value (LTV) limits or reserve requirements on deposits in local currencies in the countries where their parent banks reside. We also find that cross-border spillovers through lending of branches are stronger than through subsidiaries, possibly because it is easier for branches to reallocate lending across different jurisdictions, as they do not need to meet prudential requirements at a solo level. Finally, we find that also euro-area domestic banks increase lending, in particular to the real sector, when LTV limits are tightened abroad.

Loan-to-Value Limits and House Prices

This study evaluates the effect of loan-to-value (LTV) limits on house prices. The identification strategy exploits variation in LTV limits induced by Hong Kong Monetary Authorities’ decision to introduce differentiated LTV limits anchored on the value of the property, which allows us to observe the counterfactual house price development. We estimate that a one-percentage-point decrease in LTV limits reduces the house price growth by 0.8 percentage points. Overall, our results document that macro prudential policies, which regulate access to financing, are an effective policy tool to control house price growth.

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

AbstractModels 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 microdata, I explore an alternative arrangement where borrowers are constrained by a collateral constraint and by a debt‐service‐to‐income ratio. 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.

The costs of macroprudential policy

Central banks increasingly rely on macroprudential measures to manage the financial cycle. However, the effects of such measures on the core objectives of monetary policy to stabilise output and inflation are largely unknown. In this paper we quantify the effects of changes in maximum loan-to-value (LTV) ratios on output and inflation. We rely on a narrative identification approach based on detailed reading of policy-makers' objectives when implementing the measures. We find that over a four year horizon, a 10 percentage point decrease in the maximum LTV ratio leads to a 1.1% reduction in output. As a rule of thumb, the impact of a 10 percentage point LTV tightening can be viewed as roughly comparable to that of a 25 basis point increase in the policy rate. However, the effects are imprecisely estimated and the effect is only present in emerging market economies. We also find that tightening LTV limits has larger economic effects than loosening them. At the same time, we show that changes in maximum LTV ratios have substantial effects on credit and house price growth. Using inverse propensity weights to rerandomise LTV actions, we show that these effects are likely causal.

Digging Deeper--Evidence on the Effects of Macroprudential Policies from a New Database

This paper introduces a new comprehensive database of macroprudential policies, which combines information from various sources and covers 134 countries from January 1990 to December 2016. Using these data, we first confirm that loan-targeted instruments have a significant impact on household credit, and a milder, dampening effect on consumption. Next, we exploit novel numerical information on loan-to-value (LTV) limits using a propensity-score-based method to address endogeneity concerns. The results point to economically significant and nonlinear effects, with a declining impact for larger tightening measures. Moreover, the initial LTV level appears to matter; when LTV limits are already tight, the effects of additional tightening on credit is dampened while those on consumption are strengthened.

Digging Deeper--Evidence on the Effects of Macroprudential Policies from a New Database

This paper introduces a new comprehensive database of macroprudential policies, which combines information from various sources and covers 134 countries from January 1990 to December 2016. Using these data, we first confirm that loan-targeted instruments have a significant impact on household credit, and a milder, dampening effect on consumption. Next, we exploit novel numerical information on loan-to-value (LTV) limits using a propensity-score-based method to address endogeneity concerns. The results point to economically significant and nonlinear effects, with a declining impact for larger tightening measures. Moreover, the initial LTV level appears to matter; when LTV limits are already tight, the effects of additional tightening on credit is dampened while those on consumption are strengthened.

SOVEREIGN DEBT CRISIS IN A MONETARY UNION: ACCOUNTING FOR EXCESSIVE DEBT, HOUSING BUBBLES, AND THE TRANSMISSION OF CRISES

Despite vast empirical documentation of the recent sovereign debt crisis in southern Europe, there is little research accounting for the following stylized facts in a single coherent framework: continuous borrowing, high growth, housing bubbles, and current account deficits since the beginning of the European Monetary Union ending with a sudden crisis and subsequent contagion of crisis. We fill this gap by proposing a model and fitting it to the data. Using a growth model with collateral constraints of small peripheral economies in the institution of a monetary union, we analyze the multilayer moral hazards underlying excessive borrowing. Since housing bubbles can support a constant loan‐to‐value (LTV) ratio lower than LTV limits, peripheral economies can lock into a steady‐state Ponzi growth equilibrium with high growth and current account deficits, but these economies become vulnerable to crises. We identify the “self‐fulfilling crisis region” (SFCR), in which the economy grows fast with a seemingly safe LTV ratio, but with a vulnerability to crises. Moreover, a crisis in one sector propagates to other sectors by endogenously expanding their SFCRs. We derive some policy implications on LTV regulations and market psychology. Finally, our calibration exercise presents how bubbles develop and burst along with contagion across sectors, accounting for the data. (JEL E44, F34, O16)

The Macroeconomic Effects of Macroprudential Policy

Central banks increasingly rely on macroprudential measures to manage the financial cycle. However, the effects of such policies on the core objectives of monetary policy to stabilise output and inflation are largely unknown. In this paper we quantify the effects of changes in maximum loan-to-value (LTV) ratios on output and inflation. We rely on a narrative identification approach based on detailed reading of policy-makers’ objectives when implementing the measures. We find that over a four year horizon, a 10 percentage point decrease in the maximum LTV ratio leads to a 1.1% reduction in output. As a rule of thumb, the impact of a 10 percentage point LTV tightening can be viewed as roughly comparable to that of a 25 basis point increase in the policy rate. However, the effects are imprecisely estimated and the effect is only present in emerging market economies. We also find that tightening LTV limits has larger economic effects than loosening them. At the same time, we show that changes in maximum LTV ratios have substantial effects on credit and house price growth. Using inverse propensity weights to rerandomise LTV actions, we show that these effects are likely causal.

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

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.

The effects of macroprudential policies on house prices: Evidence from an event study using Korean real transaction data

This study analyzes the impact on housing price growth of targeted macroprudential policies—specifically limits on the loan-to-value (LTV) and debt-to-income (DTI) ratios in Korea, one of the few developed countries with relatively long and successful experience in implementing these policies. Using an event study methodology with real-transaction data for a monthly panel of 73 districts, we find that DTI limits play important roles in stabilizing housing prices than LTV limits. The loosening of both DTI and LTV limits boosts house price growth whereas the tightening only of DTI limits reverses it. After factors other than implementation of these regulations are controlled for, the results are robust except for the cases of LTV loosening. Furthermore, we uncover that the levels of and extents of changes LTV limits are important factors that can amplify or reduce the regulation effects. Overall, the results suggest that macroprudential policies, especially DTI limits, can be useful tools for curbing excessive household debt and subsequent house price bubbles.

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

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.