I found this surprisingly useful link at Harvard Economist, Greg Mankiw’s blog. I say surprisingly because as Mankiw admits most research papers in Economics tend to be very academic in focus, and narrow in scope. It’s seldom one can read a paper and say, “hmm, I could’ve used this paper last year.” While the calculator is definitely useful, the paper by Sumit Agarwaland, John Driscoll, and David Laibson is probably not the most interesting read.

I skimmed the paper, and while I can’t comment on the accuracy of the math, I think the underlying premise is a great basis for deciding what minimum rate you might need to refinance. The fact that they have provided an online tool to solve for this rate is fantastic. I only wish the the paper were easier to read, but I guess academics aren’t being academics if they don’t talk about “closed form” or don’t have plenty of greek letters sprinkled about in their paper. The real value of this solution as opposed to the typical solutions that many individuals (including myself) do on their own is that this “closed form” solution incorporates the value of the option of waiting that’s embedded in the value of the current mortgage. The calculation I typically make is what the paper calls a NPV (Net Present Value) calculation. I make an assumption on how long I will be in the house and then compare if refinancing makes sense just in terms of how much money I pay, valued in today’s dollars by discounting future flows.

The value of this option to wait and see if interest rate will continue to drop can be very valuable, and is generally ignored in the mainstream financial press. If interest rates drop below my current mortgage rate (5.375%), I’ll be sure to use this calculator in my evaluation.