Monetary Policy Transmission in Mortgage Market Via Risk-Taking Channel

This paper aims to analyze the transmission effects of accommodative monetary policy on the overall economy through the risk-taking channel operating in the mortgage market with a DSGE framework. To attain the aim, the analysis procedure undergoes two steps. Firstly, empirical relationship between short-term rates and LTV ratio is estimated using the U.S. data from 1980 to 2007 to verify the existence of the risk-taking channel. Secondly, the estimated relationship is incorporated into a general equilibrium model featuring borrowing constraint and housing market to construct the virtual economy in which the risk-taking channel takes effect. The results from the first-stage empirical analyses confirm that the channel have operated in the U.S. mortgage market. The ensuing DSGE analysis reveals that a positive monetary policy shock to the economy with the risk-taking channel effective generates further deviation of consumption and debt from the steady state than one lacking the transmission effects through the channel. These results suggest that under low interest rate environment monetary policy analysis needs to take the risk-taking channel effects into account and regulation on the degree of risk-taking can be a proper measure for smoothing the path of real and financial activities