The Financial Accelerator in Household Spending: Evidence from International Housing Markets

Abstract

This paper explores contractual features of housing finance and uses data from international housing markets to provide evidence supporting the “financial accelerator” (Bernanke et al. 1996, 1999). Among households whose housing demand is constrained by the availability of collateral, those who can borrow against a larger fraction of the housing value (achieve higher loan-to-value, or LTV ratio) have more procyclical debt capacity. This procyclicality in borrowing capacity is at the heart of the mechanism underlying the financial accelerator. Our empirical strategy uses international variation in maximum LTV ratios to show that housing prices as well as demand for new mortgages are more sensitive to income shocks in countries with higher LTV ratios, consistent with the dynamics of a collateral-based financial accelerator in household spending. We also find that the empirical relationship between maximum LTV ratios and income sensitivities is stronger in countries where housing prices are low relative to household income. Because collateral constraints are less likely to bind when housing is more expensive (an income constraint may bind instead), these latter results further suggest that a collateral-based accelerator is indeed behind the observed cross-country differences in income sensitivities.