Between 2003 and 2006, the Fed raised rates by 4.25%. This tightening induced a large contraction in deposits, leading banks to substantially reduce their portfolio mortgage lending. Yet, this contraction did not translate into a substantial reduction in total mortgage lending. Rather, an unprecedented expansion in private-label securitization (PLS), led by nonbank mortgage originators, substituted for most of the reduction in bank portfolio lending and thus largely undid the impact of Fed tightening on the mortgage lending boom.
Edit: it isn't so clear in my excerpt, but what is interesting in this paper is how they isolated the sensitivity of bank deposit rates to the fed target rate to show that banks systematically substituted securitized lending for portfolio lending. In other words, tightening monetary policy was a key factor leading to the growth of private securitizations. The Fed was tightening, in part, to slow down mortgage lending, but what they ended up doing was slowing down everything else. I have a brief coming out soon explaining how it was unlikely to be any other way.
Great post, but egads what is what anymore?
ReplyDeleteWhat does this say about the Fed's ability to control the endogenous supply of money? Or to control the level of lending through interest rates?
Not sure anyone was claiming the Fed can control the amount of lending to any specific sectors? They might still be able to broadly control overall lending, though.
DeleteWhat is interesting is that they find a clever way to estimate the effect of rising rates on portfolio vs securitized lending. The rise of private securitization may have been largely due to tight monetary policy.
DeleteThey largely left the GSEs aside, but I would suppose that pressure on the gses was part of this. In the past they would have filled the gap.
The rise in systemically destabilizing lending is partly due to contractionary forces, going back as far as 2004.
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