Cliche at this point but still fun as the vast majority get it wrong. If you take out a mortgage with a bank, where does the money come from to pay off the old home owner?
My first impression is that the bank pays off the original homeowner in full, which they are willing to do because I pay back the bank over time with interest, or else they take my house. Is the real answer that they are middlemen who sell the right to foreclose my house to investors?
Edit: I asked my mom, who’s a landlord, and in America the buyer borrows money from the bank (via a mortgage) and pays an escrow company, which pays off any liens (debts tied to the property that the original owner failed to pay such as unpaid property taxes or repair costs) and then pays the original owner the remaining. Unless the owner owed $3 million in liens and the house sold for $2 million, in which case the owner would owe the escrow company $1 million instead of getting paid. This way the house buyer buys just the house without worrying about liens. A bank makes sure a homebuyer is trustworthy before lending them money; an escrow company makes sure that the seller actually owns the house and that all their liens are accounted for.
On the other hand, if you buy a foreclosed house at auction then you are in charge of paying the liens as well, kind of like how when you buy a business, any debt the business owed comes with it.
> Is the real answer that they are middlemen who sell the right to foreclose my house to investors?
this is a big part of it, where people’s intuitions go wrong is where the actual dollars come from though. e.g. ” the buyer borrows money from the bank ” where the bank actually gets the dollars.
In an immediate but not useful sense, from your bank, because while the calculations that make them determine this mortgage is a good investment involve other actors, none of the interaction with other actors is instantaneous.
On the time scale of a month (and probably a week), partially from the company who bought your mortgage for its risk-adjusted net present value (let’s just call that V), and the rest from ‘nowhere’, i.e. the amount they’re now allowed to lend by the fractional reserve banking regulations based on the fact that their reserves have just increased by V. Trying to work out which of those portions is bigger is making my head hurt, mostly because I’m pretty sure the relative value of the risk-adjusted net present value of the mortgage’s future cash flow, compared with the reserve fraction and the actual face value of the mortgage, matter, but I’m not quite sure how.
Wat. Is there some more complicated picture, there, where they don’t have to maintain real reserves but they do need to hold something like overnight loans from the Fed as reserves? Because if they’re really untethered from reserves of any kind, they can ‘print’ as much money as they want, which seems...
It’s not necessarily a terrible idea, but it does entail that the central bank give up its monopoly, and that seems like an insane move from the central bank’s perspective.
Cliche at this point but still fun as the vast majority get it wrong. If you take out a mortgage with a bank, where does the money come from to pay off the old home owner?
Without looking it up:
My first impression is that the bank pays off the original homeowner in full, which they are willing to do because I pay back the bank over time with interest, or else they take my house. Is the real answer that they are middlemen who sell the right to foreclose my house to investors?
Edit: I asked my mom, who’s a landlord, and in America the buyer borrows money from the bank (via a mortgage) and pays an escrow company, which pays off any liens (debts tied to the property that the original owner failed to pay such as unpaid property taxes or repair costs) and then pays the original owner the remaining. Unless the owner owed $3 million in liens and the house sold for $2 million, in which case the owner would owe the escrow company $1 million instead of getting paid. This way the house buyer buys just the house without worrying about liens. A bank makes sure a homebuyer is trustworthy before lending them money; an escrow company makes sure that the seller actually owns the house and that all their liens are accounted for.
On the other hand, if you buy a foreclosed house at auction then you are in charge of paying the liens as well, kind of like how when you buy a business, any debt the business owed comes with it.
> Is the real answer that they are middlemen who sell the right to foreclose my house to investors?
this is a big part of it, where people’s intuitions go wrong is where the actual dollars come from though. e.g. ” the buyer borrows money from the bank ” where the bank actually gets the dollars.
In an immediate but not useful sense, from your bank, because while the calculations that make them determine this mortgage is a good investment involve other actors, none of the interaction with other actors is instantaneous.
On the time scale of a month (and probably a week), partially from the company who bought your mortgage for its risk-adjusted net present value (let’s just call that V), and the rest from ‘nowhere’, i.e. the amount they’re now allowed to lend by the fractional reserve banking regulations based on the fact that their reserves have just increased by V. Trying to work out which of those portions is bigger is making my head hurt, mostly because I’m pretty sure the relative value of the risk-adjusted net present value of the mortgage’s future cash flow, compared with the reserve fraction and the actual face value of the mortgage, matter, but I’m not quite sure how.
Yes, though the reserve requirement was recently dropped to zero.
Wat. Is there some more complicated picture, there, where they don’t have to maintain real reserves but they do need to hold something like overnight loans from the Fed as reserves? Because if they’re really untethered from reserves of any kind, they can ‘print’ as much money as they want, which seems...
It’s not necessarily a terrible idea, but it does entail that the central bank give up its monopoly, and that seems like an insane move from the central bank’s perspective.
There are complex rules which serve similar functions to reserve requirements. See here for a start.
I don’t know the full picture on that, it confuses me too.