Reference Points in Refinancing Decisions
51 Pages Posted: 1 Oct 2019 Last revised: 14 Nov 2019
Date Written: September 26, 2019
This paper shows that households’ mortgage refinancing decisions suboptimally depend on uninformative reference points, imposing a friction to the refinancing channel of monetary policy. I study refinancing behavior in the UK, where on pre-determined dates initial fixed rates reset and mortgagors automatically move onto a reversion rate above market rates. A borrower’s expired fixed rate determines whether failing to refinance is perceived as a loss or as a gain, thus serving as a salient reference point. I find that borrowers for whom inaction implies a relative gain refinance on average 13.4% less than borrowers who face a loss. This evidence is at odds with optimal models of refinancing since future borrowing costs are unrelated to past rates.
Keywords: reference points, mortgage refinancing, household finance, interest rate pass-through, monetary policy
JEL Classification: G02, G11, G21, G51, R21, R31
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