Marta Cota, CERGE-EI (Job Market Seminar)

“Financial Skills and Search in the Mortgage Market”

Abstract

Are households with low financial skills disadvantaged in the mortgage market? Using stochastic record linking, we construct a unique U.S. dataset that encompasses a rich set of mortgage details and borrowers characteristics, including their objective financial literacy measure. We find that households with low financial skills search less, lock in at 15-20 b.p. higher rates, face a 12-16% higher mortgage delinquency, and end up with a 30% lower likelihood of refinancing. Overall, for a $100,000 loan, the potential losses from low financial literacy are more than $10,000 over the mortgage duration. To understand how financial education, more accessible mortgages, or mortgage rate changes affect households with low financial literacy, we formulate and calibrate a mortgage market model with search frictions and endogenous financial skills. Our model estimates show that search intensity and financial skill variations contribute to 55% and 10% of mortgage rate variations, respectively. We find that i) more accessible mortgages lower the search cost and lead to a higher delinquency risk among low-skilled households, ii) financial education mitigates the adverse effects of increased accessibility, and iii) low mortgage rates favor high-skilled homeowners and, by reinforcing refinancing activity, deepen consumption differences across different financial skill levels.

Contact person: Jeppe Druedahl