Housing is One Reason Not All Countries Feel Same Pinch of Higher Interest Rates
IMF Blog, April 8, 2024
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- Authors: Mehdi Benatiya Andaloussi, Nina Biljanovska, Alessia De Stefani, Rui-Mano
- Published: April 8, 2024
Overview
- Central banks have raised interest rates significantly over the past two years to combat post-pandemic inflation.
- Global growth has held broadly steady, with deceleration only materializing in some countries.
- Differences in mortgage and housing market characteristics help explain why some countries feel the pinch of higher rates more than others.
- This content is based on Chapter 2 of the April 2024 World Economic Outlook, “Feeling the pinch? Tracing the effects of monetary policy through housing markets.”
Housing and mortgage channels of monetary policy
- Housing is an important channel of monetary policy transmission because:
- Mortgages are the largest liability for households.
- Housing often serves as households’ only significant form of wealth.
- Real estate accounts for a large share of consumption, investment, employment, and consumer prices in most economies.
- New cross-country data on housing and mortgage markets reveal large variation in characteristics:
- The share of fixed-rate mortgages can vary from close to zero in South Africa to more than 95 percent in Mexico or the United States.
- Key mechanisms:
- Where the share of fixed-rate mortgages is low, monetary policy has greater effects on activity because homeowners see monthly payments rise as mortgage rates adjust.
- Households with fixed-rate mortgages do not see immediate changes in monthly payments when policy rates change.
Findings on exposure and amplification
- Monetary policy effects are stronger where:
- Mortgages are larger compared to home values.
- Household debt is high as a share of GDP.
- Housing supply is more restricted (lower supply amplifies price responses to demand changes).
- Home prices have recently been overvalued and accompanied by excessive leverage.
- Amplification channels described:
- Lower rates reduce borrowing costs for first-time buyers and increase demand; constrained supply leads to home price appreciation, increasing existing owners’ wealth and consumption.
- Overvaluation plus excessive leverage can cause spirals of falling home prices and foreclosures when policy tightens, leading to starker income and consumption declines.
Weaker or delayed transmission since the global financial crisis and pandemic
- Structural shifts since the global financial crisis and the pandemic affected housing transmission:
- At the beginning of the recent hiking cycle, mortgage interest payments were historically low, average maturity was long, and the average share of fixed-rate mortgages was high in many countries.
- Pandemic-related population shifts away from city centers moved demand toward relatively less-supply-constrained areas.
- Consequence:
- Housing channels of monetary policy may have weakened, or at least been delayed, in several countries.
- Country-level examples of changing transmission strength:
- Strengthening: Canada and Japan — driven mainly by a declining share of fixed-rate mortgages, an increase in debt, and more constrained housing supply.
- Weakening: Hungary, Ireland, Portugal, and the United States — characteristics moved in the opposite direction.
Calibrating policy — recommendations and implications
- A deep, country-specific understanding of housing channels is important to calibrate and adjust monetary policy:
- In countries where housing channels are strong:
- Monitor housing market developments and changes in household debt service to identify early signs of overtightening.
- Where monetary policy transmission is weak:
- More forceful early action can be taken when signs of overheating and inflationary pressures first emerge.
- Current risk considerations:
- Most central banks have made significant progress toward their inflation target.
- While weak transmission might suggest erring on the side of too much tightening is less costly, overtightening or leaving rates higher for longer could nevertheless be a greater risk now.
- Fixed-rate mortgages have become more common in many countries, but fixation periods are often short:
- As these mortgages reset over time, monetary policy transmission could suddenly become more effective and depress consumption, especially where households are heavily indebted.
- The longer rates are kept high, the greater the likelihood that households will feel the pinch, even where they have so far been relatively sheltered.
Based on Chapter 2 of the April 2024 World Economic Outlook, “Feeling the pinch? Tracing the effects of monetary policy through housing markets,” and the IMF blog post by Mehdi Benatiya Andaloussi, Nina Biljanovska, Alessia De Stefani, and Rui C. Mano, April 8, 2024.