The mortgage-driven wealth transfer: A mechanism of inequality

The lengthening of mortgage terms makes the financial system more dependent on the continuous issuance of long-duration household debt to satisfy the saving desire of the top.

A fundamental paradox defines modern advanced economies: the intense saving desire of the top 1% can only be satisfied if the rest of the population is willing and able to issue liabilities. This is achieved through a sophisticated financial engineering of household balance sheets, where the primary tool is the long-term mortgage.

Introduction

A fundamental paradox defines modern advanced economies: the intense saving desire of the top 1% can only be satisfied if the rest of the population is willing and able to issue liabilities. For the wealthy to accumulate financial assets, other sectors must act as counterparties by going into debt. While this has always been a macroeconomic accounting reality, its contemporary manifestation is increasingly unstable.

The system now relies on household debt that, while financing a real investment (a house), simultaneously functions to sustain consumption levels. This dynamic is driven by rising income inequality, which creates a "savings glut" at the top that can only be absorbed by rising debt at the bottom (Bernanke, 2005). This is achieved through a sophisticated financial engineering of household balance sheets, where the primary tool is the long-term mortgage.

The Liability-Issuance Mechanism: The Mortgage as a Consumption Sustainer

A mortgage finances the purchase of a house, which is correctly classified as a real investment good. The homeowner acquires a real asset that provides a stream of housing services and has the potential to appreciate. However, the structure of the modern mortgage has a secondary, critical economic effect: it sustains consumption by lowering the immediate cash-flow burden of securing housing.

The critical variable is the lengthening of the mortgage term. A shift from a 15 or 20-year mortgage to a 30 or 40-year mortgage dramatically lowers the monthly installment. This creates a direct and powerful income effect for the homeowner, which sustains their consumption of other goods and services.

Here is the mechanism in action:

The Rental Precedent: A household pays a monthly rent, a pure consumption expense for a service with no asset accumulation.

The Mortgage Switch: The household purchases a property with a long-term mortgage, often resulting in a payment lower than the previous rent. They have now made a real investment.

The Sustained Consumption Effect: The household gains disposable income each month compared to their previous rental expense. This freed-up capital is often directed toward maintaining or increasing consumption on other non-housing goods and services.

Empirical evidence supports this. A study by Cooper (2013) found that during the U.S. housing boom (2002-2006), the cash-flow effect from mortgage equity withdrawal and lower payments contributed significantly to robust personal consumption expenditures, accounting for over 1% of annual GDP growth at its peak. This demonstrates that mortgage structures directly influence aggregate consumption levels.

Statistical Evidence: The Scale of the Circuit

The magnitude of this circuit is substantial. In the United States, the top 1% of households by income now earn about 22% of total pre-tax national income, a near doubling since 1980 (World Inequality Lab, 2022). This concentration generates a massive surplus of savings seeking a home.

Simultaneously, household debt has soared to finance this dynamic. In the U.S., mortgage debt is the largest component of household liabilities, standing at over $12 trillion in the third quarter of 2023 (Board of Governors of the Federal Reserve System, 2023). The 30-year fixed-rate mortgage has become the dominant product, with its share of the market consistently exceeding 90% in recent years (Urban Institute, 2022). This long-term, fixed structure is a direct response to the demand from institutional investors and the wealthy for stable, long-duration assets, creating the supply of liabilities needed to absorb their savings.

Case Study: The Pre- and Post-2008 Era

The 2008 Global Financial Crisis serves as a stark case study of this circuit's fragility. In the lead-up to the crisis, the securitization of subprime mortgages—liabilities issued by marginal borrowers—created a vast pool of assets that satisfied global savings demand. Investors, including pension funds and the wealthy, poured capital into Mortgage-Backed Securities (MBS), believing them to be safe stores of value (Financial Crisis Inquiry Commission, 2011). This inflow of capital fueled a housing bubble, making homes appear to be a can't-lose investment for homeowners and a can't-lose savings vehicle for investors. However, the underlying liabilities were being used to sustain consumption in an unsustainable way. When homeowners could no longer service their debts, the value of the MBS collapsed, revealing that the "savings" of the elite were built on a foundation of unserviceable household liabilities.

Completing the Circuit: Channeling Mortgage Liabilities into Elite Savings

This act of issuing a long-term liability is the essential counterpart to the saving of the top 1%. The sustained consumption financed by lower mortgage payments flows through the economy as corporate revenue. The profits from these sales, in part, accrue to shareholders, who are predominantly the wealthiest segments (Saez & Zucman, 2020).

Simultaneously, and more directly, the mortgage itself is the direct savings vehicle. The $12 trillion in U.S. mortgage debt represents a massive stock of financial assets held by investors. The homeowner's pledge to pay for 30 years constitutes the underlying cash flow that makes these financial assets valuable.

Thus, the circuit is complete:

The Bottom 90%: Make a real investment (a house) by issuing a long-term liability (a mortgage), the structure of which allows them to sustain their consumption of other goods.

The Top 1%: Acquire financial assets (MBS, corporate equity) that are ultimately backed by the cash flows from these household liabilities, storing their savings in the long-term payment stream and profits secured by the real economy.

The house, therefore, serves a dual economic function: it is a real investment good for the owner-occupier, and it is the collateral for a financial asset that is the savings vehicle for the wealthy. The lengthening of mortgage terms intensifies this dynamic, making the system more dependent on the continuous issuance of long-duration household debt to satisfy the saving desires of the top, creating a fragile chain of interconnected liabilities that, as history shows, is prone to crisis.

References

Bernanke, B. S. (2005). The global saving glut and the U.S. current account deficit. Speech at the Sandridge Lecture, Virginia Association of Economists, Richmond, Virginia. https://www.federalreserve.gov/boarddocs/speeches/2005/200503102/

Board of Governors of the Federal Reserve System. (2023). Households and nonprofit organizations; mortgage liabilities; asset, Level [HNOMPL]. FRED, Federal Reserve Bank of St. Louis. Retrieved November 27, 2023, from https://fred.stlouisfed.org/series/HNOMPL

Cooper, D. (2013). Household debt and economic recovery: Evidence from the U.S. Great Depression. Federal Reserve Bank of Boston Working Paper No. 13-16.

Financial Crisis Inquiry Commission. (2011). The Financial Crisis Inquiry Report. U.S. Government Printing Office.

Saez, E., & Zucman, G. (2020). The rise of income and wealth inequality in America: Evidence from distributional macroeconomic accounts. Journal of Economic Perspectives, 34(4), 3-26.

Urban Institute. (2022). Housing Finance at a Glance: A Monthly Chartbook. Retrieved from https://www.urban.org/policy-centers/housing-finance-policy-center/projects/housing-finance-glance-monthly-chartbook

World Inequality Lab. (2022). World Inequality Report 2022. Retrieved from https://wir2022.wid.world/