Essays on the Canadian Mortgage Market

Abstract

In this thesis, I investigate economic and policy issues presented in the Canadian mortgage market. In Chapter 2, I describe the institutional details and recent macroprudential regulations targeting the mortgage market--especially the mortgage stress tests. In Chapter 3, co-authored with Jason Allen, we develop a framework for investigating dynamic competition in markets where price is negotiated between an individual customer and multiple firms repeatedly. Using contract-level data for the Canadian mortgage market, we provide evidence of an “invest-then-harvest” pricing pattern: lenders offer relatively low interest rates to attract new borrowers and poach rivals' existing customers, and then at renewal charge interest rates which can be higher than what may be available through other lenders in the marketplace. We build a dynamic model of price negotiation with search and switching frictions to capture key market features. We estimate the model and use it to investigate (i) the effects of dynamic competition on borrowers' and banks' payoffs, (ii) the implications of dynamic versus static settings for merger-studies, and (iii) the impacts from stress tests on mortgage renewals. In Chapter4, co-authored with Robert Clark, we show that Canadian banks behaved strategically to limit the efficacy of the mortgage stress tests, which require borrower qualification based on the mode of 5-year rates posted by the Big 6 banks rather than negotiated transaction rates. The government aimed to cool credit markets, but since many mortgages are government-insured, Big 6 interests were not aligned. Using a difference-in-differences approach comparing the change in 5-year spreads with the change in 3-year spreads, unaffected by the policy, we find benchmark qualifying rates were lowered to encourage continued borrowing, muting the impact of the stress tests on borrower qualification.