Urban Economics

Urban Economics

Take Home Final Examination

Question B:

Secondary mortgage markets.

The secondary mortgage market is a market where existing mortgages-backed securities and existing loans are brought and sold.

How it works?

The primary mortgage market is for lenders to make loan to homebuyers. After the banks sell this mortgages to investors, these investments injects new cash into the system of the bank, which gives the banks more power. And these new mortgages are used by the banks to issue new mortgages. Before the secondary mortgage market was established, only larger banks had the deep pockets tie up funds for the life of the loan. As a result, potential homebuyers had a more difficult time finding mortgage lenders.

In order to meet the increasing needs for financing and mortgage loans from primary mortgage markets, the secondary market is established for lenders to sell their loans to the investors. The investor and institutions that are active in the secondary mortgage market tends to attract the funds from the stock and bond markets and redirect them back to the lenders in the primary mortgage market. In this way, the investors in the secondary mortgage market can direct influence on the amount of funds lending in the primary market.

Functions of the secondary mortgage market

A large percentage of the newly originated mortgages are sold by their originators into the secondary mortgage market in order to increase the liquidity of cash to the originators. With this interchange between the primary market and the secondary market, the lenders in primary mortgage market may have access to additional funds so that more mortgages can be available to more household, and businesses owners. Without the secondary market, the capital will not be available for the mortgage companies to fund the loans. In general, the secondary mortgage market helps to make credit equally available to all the borrowers in different geographical locations. At the same time, the secondary mortgage market moderates adverse effects of real estate cycles by providing more stability.

How does the secondary mortgage market affect the dynamic sub-markets stock adjustment model of housing?

In general, the secondary mortgage market influence increase the availability of financing for residential mortgage loans. As the demand of housing depend upon the accessibility of the mortgage supply, a active secondary market can help stimulates the sales volume in the housing market and the demand in the whole housing market.

The secondary mortgage market help the increase in mortgage available for investors, which also helps the increase in new constructions for higher income housing. The increase in the supply of new housing can reduce the filtering in the housing market. Its effects are transmitted to the medium-quality market and decrease the demand for medium quality housing. The combination of increase in supply and decrease in demand generates higher prices in the medium-quality market. And the same logic also appears in the low-quality submarket. The decrease in the price in the medium-quality submarket increase the flow of apartment downward along the quality ladder and causes some consumer to flee to the low-quality market.