The role of information externalities and scale economies in home mortgage lending decisions

Theories of rational redlining suggest a low volume of sales should lead to greater uncertainty in house price appraisals, making the mortgage loan less attractive to lenders. This paper represents the first test of this “information externality” theory using a well-specified model of lending. In our preferred model, information externalities are relevant but the marginal effect diminishes quickly, with only about 10 percent of applications materially disadvantaged by a low volume of sales. Our results also support the presence of bank-level economies of scale to reviewing applications in a given area, with increased bank-level applications associated with higher acceptance rates.