A DSTI limit in an increasing interest rate environment: benefits across the LSTI distribution

Joana Passinhas and Isabel Proença

Working Papers from Banco de Portugal, Economics and Research Department

Abstract: In 2022, the euro area started to experience very high levels of inflation relative to its history, prompting the European Central Bank to raise reference rates by 450 basis points from July 2022 to September 2023. The market anticipated this, with the Euro Interbank Offered Rate, that frequently serves as the reference rate in housing loans, rising as early as March 2022. In this context, we study the benefits of a debt service-to-income (DSTI) limit, namely the Portuguese one set in 2018, in changing the loan service-to-income (LSTI) ratio distribution of new loans for house purchase in the low interest rate (before March 2022) and in the new increasing interest rate environment. Using instrumental variable quantile regressions, we obtain the benefits of the limit by comparing the LSTI distribution of loans under the DSTI limit versus the one of loans included in the exceptions (i.e. with DSTI ratios above the limit). Findings show that DSTI limits effectively keep risky loans from entering the market and reduce individuals effort rate in both the low and rising interest rate environment. The benefits of the DSTI limit became more pronounced after interest rates began rising, highlighting their role in maintaining stringent lending standards in a higher-interest environment.

JEL-codes: C21 C26 E58 G21 G28 (search for similar items in EconPapers)
Date: 2025
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Persistent link: https://EconPapers.repec.org/RePEc:ptu:wpaper:w02524

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