Equilibrium foreign currency mortgages

Marcin Kolasa

No 2016-021, KAE Working Papers from Warsaw School of Economics, Collegium of Economic Analysis

Abstract: This paper proposes a novel explanation for why foreign currency denominated loans to households have become so popular in some emerging economies. Our argument is based on what we call the debt limit channel, which arises when multi-period contracts are offered to financially constrained borrowers against collateral that is established on newly acquired assets. Whenever the difference between domestic and foreign interest rates is positive, this channel biases borrowers' choices towards foreign currency, even if the exchange rate is known to depreciate as implied by the interest parity condition. We next use a small open economy DSGE model to analyze how the debt limit channel affects agents' choices under uncertainty. The model implies that, if first-order effects related to the debt limit channel are neutralized by appropriate adjustment in debt contracts, the equilibrium share of foreign currency loans is small.

Keywords: foreign currency loans; mortgages; portfolio choice; general equilibrium models (search for similar items in EconPapers)
JEL-codes: D58 E32 E44 F41 G11 G21 (search for similar items in EconPapers)
Pages: 41 pages
Date: 2016-12
New Economics Papers: this item is included in nep-dge and nep-mac
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (4)

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http://hdl.handle.net/20.500.12182/1155 (application/pdf)

Related works:
Journal Article: Equilibrium foreign currency mortgages (2022)
Working Paper: Equilibrium Foreign Currency Mortgages (2021)
Working Paper: Equilibrium foreign currency mortgages (2018)
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Persistent link: https://EconPapers.repec.org/RePEc:sgh:kaewps:2016021

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