Competition with Multi-Dimensional Pricing: Evidence from U.S. Mortgages

Abstract

What do prices imply about market power for multi-dimensional contracts? We study the U.S. mortgage market and find that while lenders in more concentrated local markets do not charge higher interest rates, they do charge higher upfront fees. A one-standard-deviation increase in local concentration is associated with an annual increase in fees of between $3.4 and $5.6 billion. We present theoretical and empirical evidence that lenders raise fees rather than rates to minimize prepayment risk and target unsophisticated borrowers. Our results highlight a regulatory gap where federal regulators, by focusing on rates, mistakenly regard mortgage markets as national in scope.

Keywords: Mortgages, market structure, local competition, bank merger policy

JEL Classification: G2 L5