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Mortgage Credit: Lending and Borrowing Constraints in a DSGE Framework

Author

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  • Elmer Sánchez León

    (Central Reserve Bank of Peru)

Abstract

This paper develops a Dynamic Stochastic General Equilibrium (DSGE) framework to evaluate the relative importance of the easing of lending and borrowing constraints in mortgage credit markets for business cycle fluctuations in small open emerging economies. Credit markets are characterized by partial dollarization and are subject to demand shocks, positive innovations to stochastic loan-to-value ratios imposed on borrowers, and supply shocks, negative innovations to stochastic bank capital-to-asset ratios imposed on financial intermediaries. In addition, the model features a set of real and nominal domestic shocks to demand, productivity, and fiscal and monetary policy, as well as foreign shocks. The model is calibrated and estimated using data on the Peruvian economy. A historical decomposition conducted on household leverage ratios reveals that these variables’ cyclical dynamics were mainly driven by borrowing constraint shocks or credit demand shifts, while lending constraint shocks played a residual role. Counterfactual simulations also provide evidence in favor of this channel: turning off the borrowing constraint shocks significantly attenuates the fluctuations of leverage ratios from their steady-state levels. The importance of the demand channel in Peru is consistent with mortgage demand-boosting public programs enacted in the 2000s. While applied in the Peruvian context here, the framework is easily adaptable to the historical evolution of credit markets in a large variety of emerging market economies.

Suggested Citation

  • Elmer Sánchez León, 2016. "Mortgage Credit: Lending and Borrowing Constraints in a DSGE Framework," IHEID Working Papers 15-2016, Economics Section, The Graduate Institute of International Studies.
  • Handle: RePEc:gii:giihei:heidwp15-2016
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    References listed on IDEAS

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    More about this item

    Keywords

    financial frictions; DSGE with banking sector.;

    JEL classification:

    • E37 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Forecasting and Simulation: Models and Applications
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

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