To securitize or to price credit risk?

Danny McGowan and Huyen Nguyen

No 2020-013, Jena Economics Research Papers from Friedrich-Schiller-University Jena

Abstract: We evaluate if lenders price or securitize mortgages to mitigate credit risk. Exploiting exogenous variation in regional credit risk created by differences in foreclosure law along US state borders, we find that financial institutions respond to the law in heterogeneous ways. In the agency market where Government Sponsored Enterprises (GSEs) provide implicit loan guarantees, lenders transfer credit risk using securitization and do not price credit risk into mortgage contracts. In the non-agency market, where there is no such guarantee, lenders increase interest rates as they are unable to shift credit risk to loan purchasers. The results inform the debate about the design of loan guarantees, the common interest rate policy, and show that underpricing regional credit risk leads to an increase in the GSEs’ debt holdings by $79.5 billion per annum, exposing taxpayers to preventable losses in the housingmarket.

Keywords: loan pricing; securitization; credit risk; GSEs (search for similar items in EconPapers)
JEL-codes: G21 G28 K11 (search for similar items in EconPapers)
Date: 2020-09-11
New Economics Papers: this item is included in nep-ban, nep-cfn, nep-fmk, nep-law and nep-ure
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Related works:
Journal Article: To Securitize or to Price Credit Risk? (2023)
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Persistent link: https://EconPapers.repec.org/RePEc:jrp:jrpwrp:2020-013

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