Working Papers

Competition with Multi-Dimensional Prices: Theory and Evidence from U.S. Mortgage Markets, with Greg Buchak
Revise and Resubmit, Journal of Finance
Supported by the Washington Center for Equitable Growth

Abstract How do lenders with market power set markups across multiple pricing dimensions? We develop a theory where lenders allocate markups across upfront fees and interest rates by trading off gains from backloading payments against prepayment risk. Using exogenous variation in refinancing costs and market concentration in the U.S. mortgage market, we show that the effect of concentration shifts from fees to rates as prepayment risk falls. We estimate a structural model to study counterfactual contract design. Rate caps reduce borrower welfare by shifting markups toward socially inefficient fees, while fee caps increase borrower welfare because prepayment risk dampens rate increases.

Integrated Intermediation and Fintech Market Power, with Greg Buchak and Vera Chau

Abstract We document that in the US residential mortgage market, the share of integrated intermediaries acting as both originator and servicer has declined dramatically. Exploiting a regulatory change, we show that borrowers with integrated servicers are more likely to refinance, and conditional on refinance, are more likely to be recaptured by their own servicer. Recaptured borrowers pay lower fees relative to other refinancers. This trend is partially offset by a rise in integrated fintech originator-servicers, who recapture at higher frequency but at worse terms. We build and calibrate a dynamic structural model to interpret these facts and quantify their impact on equilibrium outcomes. Our model suggests that integreated intermediaries enjoy a marginal cost advantage when refinancing recaptured borrowers, and fully disintegrating them would reduce refinancing frequencies and increase fees. Fintechs use technology to reacquire customers and reduce borrower inertia against refinancing. This endogenously creates market power, which fintechs exploit through higher fees. Despite worse terms ex-post, fintechs increase consumer welfare ex-ante by increasing refinancing frequencies. Taken together, our results highlight the importance of intermediaries’ scope in consumer financial outcomes and highlight a novel, quantitatively important application of fintech: customer acquisition.

What Explains the Rise in Intergenerational Inequality?, with Titan Alon, Menaka Hampole, and Shane McMiken

Abstract Why is aggregate wealth increasingly concentrated in the hands of older households? We document that the share of aggregate wealth held by the youngest half of households fell by more than 35 percent from the 1950s to the 2010s. To understand the underlying economic mechanisms, we develop and calibrate an overlapping-generations model of the postwar United States in which human capital, factor prices, demographics, and bequests jointly shape the age–wealth distribution, and we decompose the rise in concentration using a Shapley decomposition. Rising productivity of human-capital investment accounts for essentially all of it: higher returns to skill lead young households to invest in human capital rather than save early in life, so they accumulate wealth only later. Changes in the return to physical capital account for little of it, while demographic change and transfers are, on net, concentration-reducing.

Does Household Heterogeneity Matter for Monetary Policy? Evidence from the Mortgage Refinancing Channel, with Laura C. Murphy and Ryan Westphal

Abstract This paper examines how heterogeneity among households influences the refinancing channel of monetary policy. We demonstrate that the correlation between two key factors—the probability of mortgage refinancing and the marginal propensity to consume—determines the strength of this transmission mechanism. Using novel survey data, we find a small but positive correlation, suggesting that the refinancing channel is more effective than previously recognized. However, this correlation conceals two opposing forces: financial sophistication, or the lack thereof, generates a negative relationship, while impatience and liquidity preferences drive a stronger, positive relationship. Furthermore, the aggregate correlation masks heterogeneity across the types of mortgage refinancing. Borrowers who take out cash-out refinances exhibit large immediate consumption responses, whereas those who refinance to take advantage of lower interest rates display more muted consumption responses. These mechanisms shape both time-dependent and state-dependent refinancing inaction, ultimately influencing the magnitude and speed of monetary policy pass-through. We find that this correlation results in 13\% larger consumption responses to a simulated interest rate cut than a standard representative agent model would predict.

Bank Technology Adoption and Loan Production in the U.S. Mortgage Market, with Sheila Jiang and Douglas Xu

Abstract Information technology plays a key role in the consumer credit market, by shaping the way lenders screen and underwrite borrowers. We study how the adoption of information technology by lenders affects approval decisions, pricing, and repayment in the U.S mortgage market. We assemble a novel loan-level dataset that covers the trajectory of mortgages from application to repayment and combine it with detailed information about IT investment by lenders. We empirically identify that higher IT investment leads lenders to increase approval rates for loan applications, introduce greater granularity in their pricing, and create loan portfolios with better ex-post performance. A simple model of screening technology investment, loan underwriting and pricing is developed to explain our empirical findings.

 

Publications

Financial Sophistication and Consumer Spending
Journal of Finance, 2024

Abstract Using detailed account-level data, this paper explores how financial sophistication affects consumers' spending responses to changes in income. I document that, controlling for liquidity, financially unsophisticated consumers display significant spending responses to predictable decreases in their disposable income. Furthermore, they have lower savings rates, fewer liquid savings, and higher debt-to-income ratios, leaving them more exposed to income shocks. Robustness tests, supported by anecdotal survey evidence, indicate that these results are driven by some consumers' lack of financial sophistication and their consequent failure to understand their financial contracts, rather than by random idiosyncratic shocks, rational liquidity management, or optimal inattention.

Sharing R&D Risk in Healthcare via FDA Hedges, with Andrew W. Lo, Tomas Philipson, Manita Singh, and Richard Thakor
Review of Corporate Finance Studies, 2022
Media: Marginal Revolution, Forbes, RAPS

Abstract Biomedical innovation suffers from a “funding gap” between the needs of drug development firms and the availability of funds. The requirement of large investments for drug development projects and the high pipeline risk associated with FDA approval causes this funding gap in part. In this paper, we propose a new financial instrument—the “FDA hedge”—that pays off upon FDA approval failure. We develop a theory to show that the FDA hedge can help eliminate the funding gap. Using novel project-level data, we establish empirically that FDA hedge risk is idiosyncratic, and show how better sharing this risk can spur welfare-enhancing R&D.