Mortgage Finance in the Face of Rising Climate Risk
With increasing natural disaster risk and declining flood insurance take-up, homeowners in coastal areas may be at increasing risk of mortgage default. Banks have the ability to screen and price mortgages for flood risk. Banks also retain the option to securitize some of these loans. Bank lenders may have an incentive to sell their worse flood risk to the GSEs. Unlike lenders, the GSEs follow observable rules for the purchase and the pricing of securitized mortgages. This paper uses the impact of one sharp rule, the conforming loan limit, on securitization volumes. Results suggest a substantial increase in mortgage securitizations for loan amounts right below such limit after a billion-dollar natural disaster. Such increase is larger in neighborhoods when the disaster is “new news”: lenders may learn about local risk. Con- forming loans are more likely to default. A structurally estimated model of mortgage pricing and securitization suggests that bunching at the conforming loan limit is an increasing function of perceived disaster risk. A simulation of increasing disaster risk with and without the GSEs suggests that the GSEs may act as a substitute for the declining National Flood Insurance Program.
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Document Object Identifier (DOI): 10.3386/w26322