Residential Mortgages

Abstract

This chapter provides an overview of residential mortgages. Mortgages are loans to households secured by real property. Mortgage banking has historically comprised three functions: origination (the extension of credit), servicing (payment collection), and funding (financing the loans). When extending credit, lenders consider property value, leverage, the borrower’s payment-to-income ratio and the history of repaying debt. Laws regulating the seizure of the home affect the equilibrium provision of credit. Households choose how much to borrow, between fixed- and adjustable-rate mortgages, and an amortization schedule. After origination, households may refinance or default. Recent evidence supports the view that household default is driven by liquidity constraints rather than strategic considerations. Investors value mortgages like any other fixed income security with embedded options. Bank capital regulations seek to align regulatory capital with economic capital. Mortgage credit risk varies widely across mortgage types and is highly correlated with house prices. In several jurisdictions, residential mortgage underwriting standards can now be adjusted over time by the authorities as part of these jurisdictions’ macroprudential policy framework.