Essays in household finance and banking

• Main Author: Benetton, Matteo
• Published: London School of Economics and Political Science (University of London) 2018
• Subjects: HG Finance
• Online Access: https://ethos.bl.uk/OrderDetails.do?uin=uk.bl.ethos.755858

This thesis consists of three chapters that belong to the realm of household finance and banking. The first essay develops a structural model of mortgage demand and lender competition to study how leverage regulation a affects the equilibrium in the UK mortgage market. Using variation in risk-weighted capital requirements across lenders and across mortgages with differential loan-to-values, I show that a one-percentagepoint increase in risk-weighted capital requirements increases the interest rate by 10 percent for the average mortgage product. The estimated model implies that heterogeneous leverage regulation increases the concentration of mortgage originations, as large lenders exploit a regulatory cost advantage. Counterfactual analyses uncover potential unintended consequences of policies regulating household leverage, since banning the highest loan-to-value mortgages may reduce large lenders’ equity buyers, thereby affecting risk. The second essay, co-authored with Davide Fantino, exploits an allocation rule by the ECB for Targeted Long-Term Refinancing Operations on banks’ borrowing limit as an instrument to identify the effects of an expansion in banks’ funding availability on the cost of credit. Using transaction-level data from the Italian credit register and a difference-in-difference identification strategy, we show that treated banks decrease loan rates to the same firm by approximately 20 basis points relative to control banks. We then study how the effects of the liquidity injection vary with competition in the banking sector, exploiting the local nature of bank-firm lending relationships and exogenous variation from the historical development of Italian cities during the Renaissance. Our results suggest that banks’ market power can significantly impair the effectiveness of unconventional monetary policy, especially for safer and smaller firms. The third essay, co-authored with Philippe Bracke and Nic Garbarino, presents new evidence that lenders use down payment size to price unobservable borrower risk. We exploit the contractual features of a UK scheme that helps home buyers top up their down payments with equity loans. A 20 percentage point smaller down payment is associated with a 22 basis point higher interest rate at origination, and a higher ex-post default rate. Lenders see down payment as a signal for unobservable borrower risk, but the relative importance of this signal is limited, as it accounts for only 10% of the difference in interest rates between standard mortgages with 5% relative to 25% down payment.