A Quantitative Model of "Too Big to Fail,"' House Prices, and the Financial Crisis

Acikgoz, Omer and Kahn, James (2016): A Quantitative Model of "Too Big to Fail,"' House Prices, and the Financial Crisis.

Abstract

This paper develops a quantitative model that can rationally explain a sizeable part of the dramatic rise and fall of house prices in the 2000-2009 period. The model is driven by the assumption that the government cannot resist bailing out large financial institutions, but can mitigate the consequences by limiting financial institutions' risk-taking. An episode of regulatory forbearance, modeled as a relaxation of loan-to-value limits for conforming mortgages, is welfare-reducing, results in opportunistic behavior and, for plausible parameters inflates house prices and price/rent ratios by roughly twenty percent. This "boom" is followed by a collapse with high default rates.

• Item Type: MPRA Paper
• Language: English
• Keywords: Too-Big-to-Fail, Financial Crisis, House Prices
• Subjects: E - Macroeconomics and Monetary Economics > E0 - General > E02 - Institutions and the Macroeconomy; E - Macroeconomics and Monetary Economics > E2 - Consumption, Saving, Production, Investment, Labor Markets, and Informal Economy > E21 - Consumption ; Saving ; Wealth; E - Macroeconomics and Monetary Economics > E3 - Prices, Business Fluctuations, and Cycles; G - Financial Economics > G2 - Financial Institutions and Services > G21 - Banks ; Depository Institutions ; Micro Finance Institutions ; Mortgages; R - Urban, Rural, Regional, Real Estate, and Transportation Economics > R3 - Real Estate Markets, Spatial Production Analysis, and Firm Location > R31 - Housing Supply and Markets

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