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About Me
I am the Judy C. Lewent (1972) and Mark Shapiro Career Development Professor and Assistant Professor of Finance at the MIT Sloan School of Management. My research is at the intersection of macroeconomics and finance, with special focus on housing and mortgage markets, the links between the stock market and the macroeconomy, and the structure of corporate debt. Comments and feedback are always welcome. Email: dlg (at) mit (dot) edu Mailing Address: 100 Main Street, Building E62 Office E62-641 Cambridge, MA 02142 |
Working Papers
The Mortgage Credit Channel of Macroeconomic Transmission (Updated February 2018; SSRN; Dynare Code)
Revise and Resubmit, Journal of Political Economy
Abstract: I investigate how the structure of the mortgage market influences macroeconomic dynamics, using a general equilibrium framework with prepayable debt and a limit on the ratio of mortgage payments to income — features that prove essential to reproducing observed debt dynamics. The resulting environment amplifies transmission from interest rates into debt, house prices, and economic activity. Monetary policy more easily stabilizes inflation, but contributes to larger fluctuations in credit growth. A relaxation of payment-to-income standards appears vital for explaining the recent boom. A cap on payment-to-income ratios, not loan-to-value ratios, is the more effective macroprudential policy for limiting boom-bust cycles.
How the Wealth was Won: Factor Shares as Market Fundamentals (Updated March 2021; Video: Virtual Finance Workshop, Barron's, NY Times)
with Martin Lettau and Sydney Ludvigson
Abstract: Why do stocks rise and fall? From the beginning of 1989 to the end of 2017, $34 trillion of real equity wealth (2017:Q4 dollars) was created by the U.S. corporate sector. We estimate that 45% of this increase was attributable to a reallocation of rewards to shareholders in a decelerating economy, virtually all of which came at the expense of labor compensation. Economic growth accounted for just 25%, followed by a lower risk price (17%), and lower interest rates (14%). From 1952 to 1988 less than half as much wealth was created, but economic growth accounted for more than 100% of it.
Firm Debt Covenants and the Macroeconomy: The Interest Coverage Channel (Updated July 2019; SSRN, Slides)
Abstract: Interest coverage covenants, which set a maximum ratio of interest payments to earnings, are among the most popular provisions in firm debt contracts. For affected firms, the amount of additional debt that can be issued without violating these covenants is highly sensitive to interest rates. Combining a theoretical model with firm-level data, I find that interest coverage limits generate strong amplification from interest rates into firm borrowing and investment. Importantly, most firms that have interest coverage covenants also face a maximum on the ratio of the stock of debt to earnings. Simultaneously imposing these limits implies a novel source of state-dependence: when interest rates are high, interest coverage limits are tighter, amplifying the influence of interest rate changes and monetary policy. Conversely, in low-rate environments, debt-to-earnings covenants dominate and transmission is weakened.
Do Credit Conditions Move House Prices? (Updated August 2020; SSRN, Slides)
with Adam Guren
Abstract: To what extent did an expansion and contraction of credit drive the 2000s housing boom and bust? The existing literature lacks consensus, with findings ranging from credit having no effect to credit driving most of the house price cycle. We show that the key difference behind these disparate results is the extent to which credit insensitive agents such as landlords and unconstrained savers absorb credit-driven demand, which depends on the degree of segmentation in housing markets. We develop a model with frictional rental markets which allows us to consider cases in between the extremes of no segmentation and perfect segmentation typically assumed in the literature. We argue that the relative elasticity of the price-to-rent ratio and homeownership with respect to an identified credit shock is a sufficient statistic to measure the degree of segmentation. We estimate this moment using regional variation in credit supply and use it to calibrate our model. Our results reveal that rental markets are highly frictional and close to fully segmented, which implies large effects of credit on house prices. In particular, changing credit conditions can explain between 28% and 47% of the rise in price-rent ratios over the boom.
The Credit Line Channel (Updated June, 2021; Virtual Finance Workshop)
with John Krainer and Pascal Paul
Abstract: Aggregate bank lending to firms expands following a number of adverse macroeconomic shocks, such as the outbreak of COVID-19 or a monetary policy tightening. Using loan-level supervisory data, we show that these dynamics are driven by draws on credit lines by large firms. Banks that experience larger drawdowns restrict term lending more — an externality onto smaller firms. Using a structural model, we show that credit lines are necessary to reproduce the flow of credit toward less constrained firms after adverse shocks. While credit lines increase total credit growth, their redistributive effects exacerbate the fall in investment.
Financial and Total Wealth Inequality with Declining Interest Rates (Updated July 2021; Video: NBER EFG)
with Matteo Leombroni, Hanno Lustig, and Stijn Van Nieuwerburgh
Abstract: Financial wealth inequality and long-term real interest rates track each other closely over the post-war period. Faced with lower returns on financial wealth, households with high levels of financial wealth must increase savings to afford the consumption that they planned before the decline in rates. Lower rates beget higher financial wealth inequality. Inequality in total wealth, the sum of financial and human wealth and the relevant concept for household welfare, rises much less than financial wealth inequality and even declines at the top of the wealth distribution. A standard Bewley model produces the observed increase in financial wealth inequality in response to a decline in real interest rates, when high financial-wealth households have a financial portfolio with high duration.
What Explains the COVID-19 Stock Market? (Updated August 2020)
with Josue Cox and Sydney Ludvigson
Revise and Resubmit, Quarterly Journal of Finance
Abstract: What explains stock market behavior in the early weeks of the coronavirus pandemic? Estimates from a dynamic asset pricing model point to wild fluctuations in the pricing of stock market risk, driven by shifts in risk aversion or sentiment. We find further evidence that the Federal Reserve played a role in these fluctuations, via a series of announcements outlining unprecedented steps to provide several trillion dollars in loans to support the economy. As of July 31 of 2020, however, only a tiny fraction of the credit that the central bank announced it stood ready to provide in early April had been extended, reinforcing the conclusion that market movements during COVID-19 have been more reflective of sentiment than substance.
Origins of Stock Market Fluctuations (Updated October 2016; VoxEU, MarketWatch; SSRN)
with Martin Lettau and Sydney Ludvigson
Abstract: Three mutually uncorrelated economic disturbances that we measure empirically explain 85% of the quarterly variation in real stock market wealth since 1952. A model is employed to interpret these disturbances in terms of three latent primitive shocks. In the short run, shocks that affect the willingness to bear risk independently of macroeconomic fundamentals explain most of the variation in the market. In the long run, the market is profoundly affected by shocks that reallocate the rewards of a given level of production between workers and shareholders. Productivity shocks play a small role in historical stock market fluctuations at all horizons.
The Mortgage Credit Channel of Macroeconomic Transmission (Updated February 2018; SSRN; Dynare Code)
Revise and Resubmit, Journal of Political Economy
Abstract: I investigate how the structure of the mortgage market influences macroeconomic dynamics, using a general equilibrium framework with prepayable debt and a limit on the ratio of mortgage payments to income — features that prove essential to reproducing observed debt dynamics. The resulting environment amplifies transmission from interest rates into debt, house prices, and economic activity. Monetary policy more easily stabilizes inflation, but contributes to larger fluctuations in credit growth. A relaxation of payment-to-income standards appears vital for explaining the recent boom. A cap on payment-to-income ratios, not loan-to-value ratios, is the more effective macroprudential policy for limiting boom-bust cycles.
How the Wealth was Won: Factor Shares as Market Fundamentals (Updated March 2021; Video: Virtual Finance Workshop, Barron's, NY Times)
with Martin Lettau and Sydney Ludvigson
Abstract: Why do stocks rise and fall? From the beginning of 1989 to the end of 2017, $34 trillion of real equity wealth (2017:Q4 dollars) was created by the U.S. corporate sector. We estimate that 45% of this increase was attributable to a reallocation of rewards to shareholders in a decelerating economy, virtually all of which came at the expense of labor compensation. Economic growth accounted for just 25%, followed by a lower risk price (17%), and lower interest rates (14%). From 1952 to 1988 less than half as much wealth was created, but economic growth accounted for more than 100% of it.
Firm Debt Covenants and the Macroeconomy: The Interest Coverage Channel (Updated July 2019; SSRN, Slides)
Abstract: Interest coverage covenants, which set a maximum ratio of interest payments to earnings, are among the most popular provisions in firm debt contracts. For affected firms, the amount of additional debt that can be issued without violating these covenants is highly sensitive to interest rates. Combining a theoretical model with firm-level data, I find that interest coverage limits generate strong amplification from interest rates into firm borrowing and investment. Importantly, most firms that have interest coverage covenants also face a maximum on the ratio of the stock of debt to earnings. Simultaneously imposing these limits implies a novel source of state-dependence: when interest rates are high, interest coverage limits are tighter, amplifying the influence of interest rate changes and monetary policy. Conversely, in low-rate environments, debt-to-earnings covenants dominate and transmission is weakened.
Do Credit Conditions Move House Prices? (Updated August 2020; SSRN, Slides)
with Adam Guren
Abstract: To what extent did an expansion and contraction of credit drive the 2000s housing boom and bust? The existing literature lacks consensus, with findings ranging from credit having no effect to credit driving most of the house price cycle. We show that the key difference behind these disparate results is the extent to which credit insensitive agents such as landlords and unconstrained savers absorb credit-driven demand, which depends on the degree of segmentation in housing markets. We develop a model with frictional rental markets which allows us to consider cases in between the extremes of no segmentation and perfect segmentation typically assumed in the literature. We argue that the relative elasticity of the price-to-rent ratio and homeownership with respect to an identified credit shock is a sufficient statistic to measure the degree of segmentation. We estimate this moment using regional variation in credit supply and use it to calibrate our model. Our results reveal that rental markets are highly frictional and close to fully segmented, which implies large effects of credit on house prices. In particular, changing credit conditions can explain between 28% and 47% of the rise in price-rent ratios over the boom.
The Credit Line Channel (Updated June, 2021; Virtual Finance Workshop)
with John Krainer and Pascal Paul
Abstract: Aggregate bank lending to firms expands following a number of adverse macroeconomic shocks, such as the outbreak of COVID-19 or a monetary policy tightening. Using loan-level supervisory data, we show that these dynamics are driven by draws on credit lines by large firms. Banks that experience larger drawdowns restrict term lending more — an externality onto smaller firms. Using a structural model, we show that credit lines are necessary to reproduce the flow of credit toward less constrained firms after adverse shocks. While credit lines increase total credit growth, their redistributive effects exacerbate the fall in investment.
Financial and Total Wealth Inequality with Declining Interest Rates (Updated July 2021; Video: NBER EFG)
with Matteo Leombroni, Hanno Lustig, and Stijn Van Nieuwerburgh
Abstract: Financial wealth inequality and long-term real interest rates track each other closely over the post-war period. Faced with lower returns on financial wealth, households with high levels of financial wealth must increase savings to afford the consumption that they planned before the decline in rates. Lower rates beget higher financial wealth inequality. Inequality in total wealth, the sum of financial and human wealth and the relevant concept for household welfare, rises much less than financial wealth inequality and even declines at the top of the wealth distribution. A standard Bewley model produces the observed increase in financial wealth inequality in response to a decline in real interest rates, when high financial-wealth households have a financial portfolio with high duration.
What Explains the COVID-19 Stock Market? (Updated August 2020)
with Josue Cox and Sydney Ludvigson
Revise and Resubmit, Quarterly Journal of Finance
Abstract: What explains stock market behavior in the early weeks of the coronavirus pandemic? Estimates from a dynamic asset pricing model point to wild fluctuations in the pricing of stock market risk, driven by shifts in risk aversion or sentiment. We find further evidence that the Federal Reserve played a role in these fluctuations, via a series of announcements outlining unprecedented steps to provide several trillion dollars in loans to support the economy. As of July 31 of 2020, however, only a tiny fraction of the credit that the central bank announced it stood ready to provide in early April had been extended, reinforcing the conclusion that market movements during COVID-19 have been more reflective of sentiment than substance.
Origins of Stock Market Fluctuations (Updated October 2016; VoxEU, MarketWatch; SSRN)
with Martin Lettau and Sydney Ludvigson
Abstract: Three mutually uncorrelated economic disturbances that we measure empirically explain 85% of the quarterly variation in real stock market wealth since 1952. A model is employed to interpret these disturbances in terms of three latent primitive shocks. In the short run, shocks that affect the willingness to bear risk independently of macroeconomic fundamentals explain most of the variation in the market. In the long run, the market is profoundly affected by shocks that reallocate the rewards of a given level of production between workers and shareholders. Productivity shocks play a small role in historical stock market fluctuations at all horizons.
Publications
Financial Fragility with SAM? (Updated Dec, 2019; SSRN; Slides; Non-Technical Summary)
with Tim Landvoigt and Stijn Van Nieuwerburgh
Forthcoming, Journal of Finance
Abstract: Shared Appreciation Mortgages feature mortgage payments that adjust with house prices. They are designed to stave off borrower default by providing payment relief when house prices fall. Some argue that SAMs may help prevent the next foreclosure crisis. However, the home owner's gains from payment relief are the mortgage lender's losses. A general equilibrium model where financial intermediaries channel savings from saver to borrower households shows that indexation of mortgage payments to aggregate house prices increases financial fragility, reduces risk-sharing, and leads to expensive financial sector bailouts. In contrast, indexation to local house prices reduces financial fragility and improves risk-sharing.
Rare Shocks, Great Recessions (Published Version, Appendix)
with Vasco Curdia and Marco Del Negro.
Journal of Applied Econometrics, Vol. 29(7), pp. 1031-1052, November/December 2014.
Winner: 2016 Richard Stone Prize, awarded to the best paper with substantive econometric application in the 2014 and 2015 volumes of the Journal of Applied Econometrics.
Abstract: We estimate a DSGE model where rare large shocks can occur, by replacing the commonly used Gaussian assumption with a Student's t distribution. Results from the Smets and Wouters (2007) model estimated on the usual set of macroeconomic time series over the 1964-2011 period indicate that 1) the Student's t specification is strongly favored by the data even when we allow for low-frequency variation in the volatility of the shocks, and 2) the estimated degrees of freedom are quite low for several shocks that drive U.S. business cycles, implying an important role for rare large shocks. This result holds even if we exclude the Great Recession period from the sample. We also show that inference about low-frequency changes in volatility -- and in particular, inference about the magnitude of Great Moderation -- is different once we allow for fat tails.
Financial Fragility with SAM? (Updated Dec, 2019; SSRN; Slides; Non-Technical Summary)
with Tim Landvoigt and Stijn Van Nieuwerburgh
Forthcoming, Journal of Finance
Abstract: Shared Appreciation Mortgages feature mortgage payments that adjust with house prices. They are designed to stave off borrower default by providing payment relief when house prices fall. Some argue that SAMs may help prevent the next foreclosure crisis. However, the home owner's gains from payment relief are the mortgage lender's losses. A general equilibrium model where financial intermediaries channel savings from saver to borrower households shows that indexation of mortgage payments to aggregate house prices increases financial fragility, reduces risk-sharing, and leads to expensive financial sector bailouts. In contrast, indexation to local house prices reduces financial fragility and improves risk-sharing.
Rare Shocks, Great Recessions (Published Version, Appendix)
with Vasco Curdia and Marco Del Negro.
Journal of Applied Econometrics, Vol. 29(7), pp. 1031-1052, November/December 2014.
Winner: 2016 Richard Stone Prize, awarded to the best paper with substantive econometric application in the 2014 and 2015 volumes of the Journal of Applied Econometrics.
Abstract: We estimate a DSGE model where rare large shocks can occur, by replacing the commonly used Gaussian assumption with a Student's t distribution. Results from the Smets and Wouters (2007) model estimated on the usual set of macroeconomic time series over the 1964-2011 period indicate that 1) the Student's t specification is strongly favored by the data even when we allow for low-frequency variation in the volatility of the shocks, and 2) the estimated degrees of freedom are quite low for several shocks that drive U.S. business cycles, implying an important role for rare large shocks. This result holds even if we exclude the Great Recession period from the sample. We also show that inference about low-frequency changes in volatility -- and in particular, inference about the magnitude of Great Moderation -- is different once we allow for fat tails.
Work in Progress
Managing a Housing Boom (Slides)
with Jason Allen
Quantitative Tightening: Challenges of Two-Dimensional Monetary Normalization (Slides)
with Vadim Elenev and Miguel Faria-e-Castro
Managing a Housing Boom (Slides)
with Jason Allen
Quantitative Tightening: Challenges of Two-Dimensional Monetary Normalization (Slides)
with Vadim Elenev and Miguel Faria-e-Castro
Discussion Slides
The End of Privilege
By Andrew Atkeson, Jonathan Heathcote, and Fabrizio Perri
NBER Asset Pricing Meeting, Jul 2021
Borrowing and Spending in the Money: the (un)Importance of the Cash-Out Refinance Channel of Monetary Policy
By Elliot Anenberg, Tess Scharlemann, and Eileen van Straelen
AREUEA National Conference, June 2021
Social Security and Trends in Wealth Inequality
By Sylvain Catherine, Max Miller, and Natasha Sarin
SFS Cavalcade, May 2021
Mortgage Pricing and Monetary Policy
By Matteo Benetton, Alessandro Gavazza, and Paolo Surico
FRBSF Advances in Financial Research Conference, Oct 2019
Competition and Incentives in the Mortgage Market: The Role of Brokers
By Claudia Robles-Garcia
NBER Household Finance Meeting, Jul 2019
Human Capitalists
By Andrea Eisfeldt, Antonio Falato, and Mindy Xiaolan
Texas Finance Festival, Apr 2019
Is Housing the Business Cycle? A Multi-resolution Analysis for OECD Countries
By Yuting Huang, Qiang Li, Kim Hiang Liow, and Xiaoxia Zhou
AREUEA Annual Meetings, Jan 2019
Mortgage Prepayment and Path-Dependent Effects of Monetary Policy
By David Berger, Konstantin Milbradt, Fabrice Tourre, and Joseph Vavra
NBER Monetary Economics Meeting, Nov 2018
State Dependency of Monetary Policy: The Refinancing Channel
By Martin Eichenbaum, Sergio Rebelo, and Arlene Wong
NBER Economic Fluctuations and Growth Meeting, Oct 2018
Too Much Skin-in-the-Game? The Effect of Mortgage Market Concentration on Credit and House Prices
By Deeksha Gupta
Tepper-LAEF Conference, Sep 2018
Bank Risk-Taking and the Real Economy: Evidence from the Housing Boom and its Aftermath
By Antonio Falato, Giovanni Favara, and David Scharfstein
SFS Cavalcade, May 2018
Anatomy of Corporate Borrowing Constraints
By Chen Lian and Yueran Ma
NBER Monetary Economics Meeting, Mar 2018
Color and Credit: Race, Regulation, and the Quality of Financial Services
By Taylor Begley and Amiyatosh Purnanandam
UNC Junior Faculty Roundtable, Dec 2017
An Equilibrium Model of Housing and Mortgage Markets with State-Contingent Lending Contracts
By Tomasz Piskorski and Alexei Tchistyi
10th Macro Finance Society Workshop, Boston, Nov 2017
Regulating Household Leverage
By Anthony DeFusco, Stephanie Johnson, and John Mondragon
Housing: Micro Data, Macro Problems. Bank of England, Jun 2017
The Equity Premium and the One Percent
by Alexis Toda and Kieran Walsh
AFA Annual Meeting, Chicago, Jan 2017
Household Debt and Monetary Policy: Revealing the Cash-Flow Channel
by Martin Floden, Matilda Kilstrom, Josef Sigurdsson, and Roine Vestman
AEA Annual Meeting, Chicago, Jan 2017
Regional Heterogeneity and Monetary Policy
by Martin Beraja, Andreas Fuster, Erik Hurst, and Joseph Vavra
AEA Annual Meeting, Chicago, Jan 2017
The End of Privilege
By Andrew Atkeson, Jonathan Heathcote, and Fabrizio Perri
NBER Asset Pricing Meeting, Jul 2021
Borrowing and Spending in the Money: the (un)Importance of the Cash-Out Refinance Channel of Monetary Policy
By Elliot Anenberg, Tess Scharlemann, and Eileen van Straelen
AREUEA National Conference, June 2021
Social Security and Trends in Wealth Inequality
By Sylvain Catherine, Max Miller, and Natasha Sarin
SFS Cavalcade, May 2021
Mortgage Pricing and Monetary Policy
By Matteo Benetton, Alessandro Gavazza, and Paolo Surico
FRBSF Advances in Financial Research Conference, Oct 2019
Competition and Incentives in the Mortgage Market: The Role of Brokers
By Claudia Robles-Garcia
NBER Household Finance Meeting, Jul 2019
Human Capitalists
By Andrea Eisfeldt, Antonio Falato, and Mindy Xiaolan
Texas Finance Festival, Apr 2019
Is Housing the Business Cycle? A Multi-resolution Analysis for OECD Countries
By Yuting Huang, Qiang Li, Kim Hiang Liow, and Xiaoxia Zhou
AREUEA Annual Meetings, Jan 2019
Mortgage Prepayment and Path-Dependent Effects of Monetary Policy
By David Berger, Konstantin Milbradt, Fabrice Tourre, and Joseph Vavra
NBER Monetary Economics Meeting, Nov 2018
State Dependency of Monetary Policy: The Refinancing Channel
By Martin Eichenbaum, Sergio Rebelo, and Arlene Wong
NBER Economic Fluctuations and Growth Meeting, Oct 2018
Too Much Skin-in-the-Game? The Effect of Mortgage Market Concentration on Credit and House Prices
By Deeksha Gupta
Tepper-LAEF Conference, Sep 2018
Bank Risk-Taking and the Real Economy: Evidence from the Housing Boom and its Aftermath
By Antonio Falato, Giovanni Favara, and David Scharfstein
SFS Cavalcade, May 2018
Anatomy of Corporate Borrowing Constraints
By Chen Lian and Yueran Ma
NBER Monetary Economics Meeting, Mar 2018
Color and Credit: Race, Regulation, and the Quality of Financial Services
By Taylor Begley and Amiyatosh Purnanandam
UNC Junior Faculty Roundtable, Dec 2017
An Equilibrium Model of Housing and Mortgage Markets with State-Contingent Lending Contracts
By Tomasz Piskorski and Alexei Tchistyi
10th Macro Finance Society Workshop, Boston, Nov 2017
Regulating Household Leverage
By Anthony DeFusco, Stephanie Johnson, and John Mondragon
Housing: Micro Data, Macro Problems. Bank of England, Jun 2017
The Equity Premium and the One Percent
by Alexis Toda and Kieran Walsh
AFA Annual Meeting, Chicago, Jan 2017
Household Debt and Monetary Policy: Revealing the Cash-Flow Channel
by Martin Floden, Matilda Kilstrom, Josef Sigurdsson, and Roine Vestman
AEA Annual Meeting, Chicago, Jan 2017
Regional Heterogeneity and Monetary Policy
by Martin Beraja, Andreas Fuster, Erik Hurst, and Joseph Vavra
AEA Annual Meeting, Chicago, Jan 2017
Non-Academic Articles
Here’s Why Adding $310 Billion to the Second Round of PPP Won’t Fix It
Marker/Medium, April 23, 2020
A Traditional Economic Stimulus Won't Work. Here's What Might
Marker/Medium, March 24, 2020
Here’s Why Adding $310 Billion to the Second Round of PPP Won’t Fix It
Marker/Medium, April 23, 2020
A Traditional Economic Stimulus Won't Work. Here's What Might
Marker/Medium, March 24, 2020