Real Effects of Nominal Interest Rates

Joshua Hausman, John V. Leahy, John Mondragon and Johannes Wieland

No 2026-07, Working Paper Series from Federal Reserve Bank of San Francisco

Abstract: Nominal interest rates have real effects. Residential mortgages and other real world debt contracts require a sequence of constant nominal payments. Combined with payment-to-income constraints, these nominal payments force borrowers to take on less debt when nominal interest rates rise, regardless of the behavior of the real interest rate. Survey data shows that conditional on the real rate, higher nominal mortgage interest rates reduce home buying sentiment. And increases in nominal mortgage rates reduce mortgage origination more in cities where payment to-income constraints are more likely to bind. We explore the macroeconomic implications of payment-to-income constraints in a new Keynesian model modified to include a credit good. The payment-to-income constraint amplifies the effect of current short-term nominal interest rates on output and inflation, making the model less forward-looking than the standard new Keynesian model.

Pages: 37
Date: 2026-04-06
New Economics Papers: this item is included in nep-dge, nep-hre and nep-mon
Note: PDF date: March 26, 2026.
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Working Paper: Real Effects of Nominal Interest Rates (2026)
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DOI: 10.24148/wp2026-07

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