Monetary Easing and Mortgage Market Statistics

Faculty Fellow, RIETI

Five years have passed since the launch of Abenomics. People on both sides—i.e., those for and against it—have differing views, but they all agree on one thing: the stagnation of household consumption poses a major challenge (Note 1). Although there are some factors that could explain why Abenomics has been unable to boost consumption, I would like to point out the possibility that the structure of the Japanese mortgage market might be one such factor.

Preceding studies conducted in recent years have shown that the consumption behavior of households with mortgage debt has a significant impact on economic recovery (Note 2). Many of these households are facing borrowing constraints, whereby they have a high propensity to spend but are unable to do so as desired because of a lack of current liquidity. Therefore, monetary easing is supposed to lead to an increase in consumption, because lower interest rates should translate into a reduced interest burden on debtors and an increase in their disposable income.

The Bank of Japan (BOJ) has been implementing "bold monetary policy" as the first of the "three arrows" of Abenomics, including a negative interest rate policy (NIRP) from 2016 onward. As it appears, however, these monetary steps have not yet delivered the kind of effect substantiated by preceding studies, i.e., stimulation of consumption. Peculiarities of the Japanese mortgage market may be the reason behind this.

Preferential interest rates

Are mortgage interest rates falling? Mortgage loan interest rate plans are diverse. In particular, we all know that there are two types of mortgage contracts, namely, those with fixed interest rates and those with variable interest rates. In the case of fixed-rate mortgage contracts, the interest rate set by the contract remains unchanged (at least for a certain period). In contrast, variable-rate mortgage contracts are subject to periodical changes in the applicable interest rate (in principle) during the contract period. If monetary policy has any impact on mortgage interest rates, we should focus on variable-rate mortgages to detect it.

Variable-rate mortgages have an over-the-counter (OTC) rate, which is typically set at about one percentage point above the short-term prime lending rate on business loans, and this rate serves as a basis for calculating variable interest rates. OTC rates are like sticker prices and actual lending rates—referred to as "preferential interest rates"—are calculated by subtracting certain percentage points from the OTC.

Preferential interest rate plans are a mechanism for consistently applying a lower-than-the-OTC rate, setting a preferential spread—i.e., a percentage point difference between the OTC and applicable interest rates—for each customer. The Bank of Tokyo-Mitsubishi UFJ, Ltd. (BTMU) was the first to have introduced such a plan, offering preferential interest rates in 2001 under a campaign designed to pass on the benefit of the BOJ's zero interest rate policy to its customers. As such, preferential interest rates started as a limited-time offer designed to attract new customers, but have subsequently evolved into and taken root as a permanent mechanism.

Preferential spreads are typically determined based, not on the creditworthiness of potential borrowers, but on whether they satisfy certain formality requirements (e.g., holding a credit card and/or having a time deposit account issued by the bank), and hence applied to a broad range of customers. In other words, the applicable interest rate is the sum of two spreads, namely, the difference between the short-term prime rate and the OTC rate and the difference between the OTC rate and the preferential interest rate.

Preferential interest rates and monetary easing

It may appear that there is no point in having an OTC rate since preferential interest rates are the ones actually applied. However, there is a crucial difference between lowering the OTC rate and expanding preferential spreads. Under the latter scheme, the benefit of lower interest rates does not reach existing mortgage borrowers. Preferential interest rates are set at the time of taking out new loans, and the preferential spreads thus determined will remain fixed throughout the contract period. This means that interest rates applicable to existing borrowers do not come down so long as the OTC rate remains unchanged.

This difference is critically important given the actual trends in interest rates over the years. Short-term prime rates topped 8% in and around 1990, when Japan's economic bubble was at its peak, but subsequently fell sharply and have remained stagnant at around 1.5% from 1995 onward. Consequently, OTC rates have been hovering at around 2.5% over the past 20 years.

What we see here appears to be the zero lower bound in business operations with interest rates stuck at their lower limit. That is, we are tempted to conclude that the stickiness of interest rates on the mortgage market shows the limitation of monetary policy. In reality, however, mortgage interest rates maintain their function to adjust the supply and demand of funds. We can check out the latest information on various websites to see that preferential interest rates for variable-rate mortgages have fallen to 0.4%-0.5%. In other words, the decline in interest rates on the mortgage market has been realized by means of expanded preferential spreads, rather than being the result of lower OTC rates.

This structure in the Japanese mortgage market may be clogging the transmission channels of monetary policy, thereby preventing the effects of bold monetary easing steps from reaching consumption. This is because regardless of how interest rates for new loans are lowered by means of expanded preferential spreads, there is no impact on stimulating consumption through an increase in disposable income for existing mortgage borrowers. Obviously, in the case of fixed-rate mortgages, fluctuations in market interest rates have no impact on the actual amounts of interest paid by borrowers. It is only natural that those who avoid interest rate risk do not enjoy the benefits of lower interest rates. However, the problem is that even variable-rate mortgages are structured around preferential interest rates, which prevents the transmission of monetary policy to the mortgage market.

Of course, existing borrowers are not without ways to savor the benefits of lower interest rates. For instance, they can become new borrowers by refinancing. Also, they might be able to have their interest rates effectively lowered on the pretext of reviewing the terms and conditions, depending on how negotiations with their lenders turn out. In any case, however, there is no enjoying the benefits of lower interest rates without taking certain actions.

Zero interest rate policy and mortgage market statistics

It is quite likely that the structure of the mortgage market discussed above has been hindering the recovery of consumption. However, it is extremely difficult to assess the magnitude of this problem in an empirical fashion, because statistics showing the actual state of the mortgage market—particularly data on interest rates—are lacking.

In order to estimate how many households would be able to reduce their debt burden by taking advantage of lower interest rates, it is indispensable to know the outstanding balance of mortgages by applicable interest rate. It is also necessary to measure the penetration of monetary policy because the benefits of low interest rates are not automatically entitled universally. For that, the magnitude of refinancing is must-have information. Ideally, information on the type of each mortgage (e.g., fixed-rate or variable-rate) and the history of refinancing should be available. However, as things stand now, it is difficult even to find the average mortgage interest rate applied.

Improving the reality of these statistics is imperative if we are to properly evaluate Abenomics, and the bold monetary policy in particular. Without this, there is no assessing the degree to which existing mortgage borrowers are enjoying the benefits of lower interest rates and how much room is left to make additional monetary easing.

January 19, 2018
  1. ^ See, for instance, Yoshikawa, Hiroshi and Hirohide Yamaguchi, "Abenomikusu 5-nen (Chu): Kaifuku e shorai fuan fusshoku o [Five Years of Abenomics (Part 2): Dispel anxiety about the future to revive consumption]," December 1, 2017, Nihon Keizai Shimbun.
  2. ^ See, for instance, Wong (2016), Di Maggio, Kermani, Keys, Piskorski, Ramcharan, Seru, and Yao (2017), and Beraja, Fuster, Hurst, and Vavra (2017).
  • Beraja, Martin, Andreas Fuster, Erik Hurst, and Joseph Vavra (2017) "Regional heterogeneity and monetary policy," NBER Working Paper No. 23270.
  • Di Maggio, Marco, Amir Kermani, Benjamin J Keys, Tomasz Piskorski, Rodney Ramcharan, Amit Seru, and Vincent Yao (2017) "Interest rate pass-through: Mortgage rates, household consumption, and voluntary deleveraging," American Economic Review, 107 (11), 3550-3588.
  • Wong, Arlene (2016) "Population aging and the transmission of monetary policy to consumption," Available at

March 1, 2018