Elephantstrunk

Free Exchange asks:

What madman would support expanded use of fixed-rate mortgages?

and then descends into nonsense. Let’s see:

Economically, a preference for fixed-rate mortgages makes absolutely no sense. Let’s say you’re a mortgage lender considering lending out some money for the next thirty years. You have to be worried that if you lend money out at a fixed rate, inflation will increase, eating into the value of your loan.

A bold statement to begin with. If you are lending money at a fixed rate you are also hopeful that inflation and real rates might fall. It’s not a one way street.

Either you or the buyer can assume the inflation risk. But whoever assumes it is going to have to be paid to do so; the lender, by charging a higher rate for the loan; the borrower, by getting a lower interest rate.

Even in this oversimple model it’s a matter of which way up you are, not of the risk being either in one place or another.

For fixed-rate mortgages to be a consistently better deal for borrowers, you have to assume that borrowers, as a group, are much better at assessing the future of interest rates than bankers are. If that were true, bankers could be systematically underpricing their fixed-rate loans because they mistakenly believe that interest-rates in the future will be lower than they actually will be.

No. no, no! There’s such a high concentration of wrongness it’s hard to know where to start. Fixed rate borrowing is in fact quite popular, are the borrowers all mad? Rates are set by a market that is in fact pretty efficient. Anyone advocating individuals not behave the way institutions do bears the burden of proof and any such argument gets into the details of the behaviour of other personal cash flows.

There are also other ways that a fixed rate mortgage could be better for borrowers. Greater price transparency could make the fixed rate mortgage market more competitive and margins tighter. Risk is also not a zero sum game. Which type of risk better suits a borrower’s overall portfolio? It could well be the fixed one systematically. That is maybe borrowers shouldn’t like fluctuating mortgage payments.

And then the goalposts start doing shuttle runs:

One could argue that bankers are in a better position to bear the risk, because they have more instruments available to hedge. But this is true only if people are borrowing right up to the very edges of their ability to pay. This was an enormous problem during the housing bubble, but it was not particularly a feature of adjustable rate mortgages. Adjustable rate mortgages are the focus of the problem because they were the easiest vehicle for foolish borrowers and foolish lenders to push homebuyers to the very edges of their income in buying a house. But absent the ARMs, one can easily think of many other ways to get buyers into homes they can’t really afford—no money down, interest-only payments for the first two years, and so forth. I don’t think you can reasonably read Greenspan’s words as suggesting that people ought to buy houses their incomes won’t support.