How do mortgage rate resets affect consumer spending and debt repayment? Canadian Consumer Testimonials

No. 2206

Katya Kartashova and Xiaoqing Zhou

Abstract: One of the most important channels through which monetary policy affects the real economy is the evolution of mortgage rates. This article investigates the effects of changes in mortgage rates resulting from changes in monetary policy on homeowner spending, debt repayment, and loan defaults. The Canadian institutional framework facilitates the design of identification strategies for causal inference, since the vast majority of mortgages in the country are subject to predetermined, periodic and automatic contract renewals, the mortgage rate being reset according to the rate of the current market. This allows us to exploit near-random variation in the timing of rate resets and present causal evidence for rate cuts and increases, using detailed and representative consumer credit panel data. We find asymmetric effects of rate changes on spending, debt repayment, and defaults. Our results may be rationalized by the conventional cash flow effect in conjunction with changes in consumer expectations regarding future interest rates upon reset. Given the ubiquity of Canadian-style mortgages in many other OECD countries, our findings have broader implications for the transmission of monetary policy to the household sector.


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