Understanding the Trade-Offs of Alternative Mortgage Products

Abstract

Alternative mortgage products are commonly characterized by initial lower mortgage payments, followed by larger payments later on. As a consequence they may be a valuable tool for households who expect higher future labor income, and wish to smooth consumption over the life-cycle. I propose a test, based on the permanent income hypothesis, of whether this is the case. I use United Kingdom panel data, a country where alternative mortgage products have been widely available for many years, to implement this test. I find evidence, for part of the sample period, supportive of this hypothesis. In addition, I investigate what makes it more or less likely that households have difficulty meeting mortgage payments.

Keywords: mortgages, life-cycle, permanent income hypothesis

JEL Classification: G21, E21