Separating deposit-taking from investment banking: new evidence on an old question

Matthieu Chavaz and David Elliott

On 16 June 1933, as the nationwide banking crisis was reaching a new peak, freshly elected US President Franklin D. Roosevelt put his signature at the bottom of a 37-page document: the Glass-Steagall Act. Eight decades later, the debate still rages on: should retail and investment banking be separated, as Glass-Steagall required? In a recent paper, we shed new light on the consequences of this type of regulation by examining the recent UK ‘ring-fencing’ legislation. We show that ring-fencing has an important impact on banking groups’ funding structures, and find that this incentivises banks to rebalance their activities towards retail mortgage lending and away from capital markets, with important knock-on effects for competition and risk-taking across the wider banking system.

Continue reading “Separating deposit-taking from investment banking: new evidence on an old question”

How do lenders adjust their property valuations after extreme weather events?

Nicola Garbarino and Benjamin Guin

Policymakers have put forward proposals to ensure that banks do not underestimate long-term risks from climate change. To examine how lenders account for extreme weather, we compare matched repeat mortgage and property transactions around a severe flood event in England in 2013-14. We find that lender valuations do not ‘mark-to-market’ against local price declines. As a result valuations are biased upwards. We also show that lenders do not offset this valuation bias by adjusting interest rates or loan amounts. Overall, these results suggest that lenders do not track closely the impact of extreme weather ex-post.

Continue reading “How do lenders adjust their property valuations after extreme weather events?”

Bitesize: Fixing ideas – The Slowing of Interest-rate Pass-through to Mortgagors

Fergus Cumming

When choosing a mortgage, a key question is whether to choose a fixed or variable-rate contract. By choosing the former, households are unaffected by official interest-rate decisions for the length of the fixation period. We can use transaction data on residential mortgages to get a sense of how long it takes interest-rate decisions to filter through to people’s finances.

Continue reading “Bitesize: Fixing ideas – The Slowing of Interest-rate Pass-through to Mortgagors”

Diffraction through debt: the cash-flow effect of monetary policy

Fergus Cumming.

As the UK economy went into recession in 2008, the Monetary Policy Committee responded with a 400 basis point reduction in Bank Rate between October 2008 and March 2009. Although this easing lessened the impact of the recession across the whole economy, its cash-flow effect would have initially benefited some households more than others. Those holding large debt contracts with repayments closely linked to policy rates immediately received substantial boosts to their disposable income. Cheaper mortgage repayments meant more pounds in peoples’ pockets, and this supported both spending and employment in 2009. In this article I explore one element of the monetary transmission mechanism that works through cash-flow effects associated with the mortgage market, and show that it can vary across both time and space.

Continue reading “Diffraction through debt: the cash-flow effect of monetary policy”

What goes up must come down: modelling the mortgage cycle

Kristina Bluwstein, Michal Brzoza-Brzezina, Paolo Gelain and Marcin Kolasa.

Mortgages matter. For the individual, borrowing to buy a house can be the biggest debt decision of a lifetime. For the economy, mortgages make up a large fraction of total debt and are a main driver of the financial cycle. Mortgage debt exceeds 80% of UK household debt (see Figure 1), so it is important to understand mortgage market trends, how they link to the macroeconomy and the implications for monetary policy. This post uses a novel model to do just that. In particular, it introduces a rich description of the housing sector into an otherwise standard ‘DSGE’ Model. It focusses on the role of fixed rate mortgages, the mortgage cycle, and how they affect monetary policy transmission.

Continue reading “What goes up must come down: modelling the mortgage cycle”

Bitesize: The rise and fall of interest only mortgages

Sachin Galaiya

The interest-only product has undergone tremendous evolution, from its mass-market glory days in the run-up to the crisis, to its rebirth as a niche product. However, since reaching a low-point in 2016, the interest-only market is starting to show signs of life again as lenders re-enter the market.

Continue reading “Bitesize: The rise and fall of interest only mortgages”

Who’s driving consumer credit growth?

Ben Guttman-Kenney, Liam Kirwin, Sagar Shah

Consumer credit growth has raised concern in some quarters. This type of borrowing – which covers mainstream products such as credit cards, motor finance, personal loans and less mainstream ones such as rent-to-own agreements – has been growing at a rapid 10% a year. What’s been driving this credit growth, and how worried should policymakers be?

Continue reading “Who’s driving consumer credit growth?”

Unintended consequences: specialising in risky mortgages under Basel II

Matteo Benetton, Peter Eckley, Nicola Garbarino, Liam Kirwin and Georgia Latsi.

Do financial regulations change bank behaviour? Does this create new risks? Under Basel II, some banks set capital requirements based on their internal risk models; others use an off-the-shelf standardised approach. These two methodologies can produce very different capital requirements for similar assets. See Figure 1, which displays a snapshot of recent risk weights for UK mortgages. In a new working paper we show empirically that this discrepancy causes lenders to adjust their interest rates and to specialise in which borrowers they target.

Continue reading “Unintended consequences: specialising in risky mortgages under Basel II”