Information Externalities,Neighborhood Characteristics and Home Mortgage Pricing and Underwriting

Theories of rational redlining suggest thinness in housing markets should lead to greater uncertainty in house price appraisals, increasing mortgage denial rates or pricing. Empirical tests found support for this theory in mortgage underwriting using 1990s data. Using 2006 data and bank‐specific regression models, we revisit this topic in light of two developments leading to the recent mortgage bubble: the widespread securitization that allowed banks to shift loan risk to investors and the advent of risk‐based pricing. Consistent with expectations, we find that information externalities have become economically very small and have shifted from underwriting to pricing decisions.