The Changing Pecking Order of Consumer Defaults
TL;DR: This article examined the extent to which nonprime mortgage borrowers prioritize payments on their monthly mortgage over credit card debt obligations over a 9-year period (2001-09) and found that consumers were eight times more likely to prioritize payments of mortgage debt over credit-card debt obligations.
Abstract: In the wake of the recent housing and financial crisis, many have argued that consumers are defaulting on their mortgage for strategic reasons, either because they are “underwater” or to preserve access to credit from other types of debt products, in order to maintain their consumption of other essential goods. In this paper, we examine the extent to which nonprime mortgage borrowers prioritize payments on their monthly mortgage over credit card debt obligations over a 9-year period (2001–09). Before the recent financial crisis, our default order data suggest that consumers were eight times more likely to prioritize payments on mortgage debt over credit card payments. As of late 2008, in contrast, the similar consumers were just as likely to default on mortgage debt as on credit card debt. Our results reveal that important explanations for the observed changes in the pecking order of defaults include: strategic mortgage default behavior among consumers with low and negative housing equity, illiquidity in the form of available credit, the rising costs of servicing mortgage debt, and lowered underwriting standards and the greater penetration of nontraditional mortgage products. These results support the importance of strategic consumer behavior, but also emphasize that the changes in the pecking order of defaults have come about because of ability-to-pay considerations.
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TL;DR: In this paper, the authors estimate a structural model of bank portfolio lending and find that the typical U.S. community bank reduced its business lending during the global financial crisis, driven by increased risk overhang effects and reduced loan supply elasticities.
Abstract: We estimate a structural model of bank portfolio lending and find that the typical U.S. community bank reduced its business lending during the global financial crisis. The decline in business credit was driven by increased risk overhang effects (consistent with a reduction in the liquidity of assets held on bank balance sheets) and by reduced loan supply elasticities suggestive of credit rationing (consistent with an increase in lender risk aversion). Nevertheless, we identify a group of strategically focused relationship banks that made and maintained higher levels of business loans during the crisis.
96 citations
TL;DR: In this article, the authors explored and tested how antecedents such as personal characteristics affect the financial management process, as well as its consequences, either negatively as defaults or positively as savings.
Abstract: Through two complementary and exploratory studies – one qualitative and one quantitative – this research aims to understand the ways in which lower-middle-class families in Brazil manage their household finances The study proposes an integrated framework that brings together various previously disconnected theoretical fragments Based on a survey with a sample of 165 lower-middle-class female consumers of a retail company in Sao Paulo, we explored and tested, via a quantitative study, how antecedents such as personal characteristics affect the financial management process, as well as its consequences, either negatively as defaults or positively as savings The model calibration and analysis were derived from a series of regression analyses The results revealed the mediator role that financial management plays in the relationship between personal characteristics and defaults and savings Compared to previous studies with consumers of more affluent countries, we identified peculiar findings among Brazilian lower-middle-class consumers: inadequate attention to control, weak or no focus on short- or long-range planning, widespread absence of budget surplus, and influence of critical events on episodes of default
27 citations
TL;DR: The authors examined how factors affecting mortgage default spill over to other credit markets and highlighted the interconnectedness of debt repayment decisions, showing that larger unused credit card limits intensify the preservation of credit cards over housing debt.
Abstract: The mortgage default decision is part of a complex household credit management problem. We examine how factors affecting mortgage default spill over to other credit markets. As home equity turns negative, homeowners default on mortgages and home equity lines of credit at higher rates, whereas they prioritize repaying credit cards and auto loans. Larger unused credit card limits intensify the preservation of credit cards over housing debt. Although mortgage nonrecourse statutes increase default on all types of housing debt, they reduce credit card defaults. Foreclosure delays increase default rates for housing and nonhousing debts. Our analysis highlights the interconnectedness of debt repayment decisions.
20 citations
TL;DR: In this paper, the authors develop and empirically test a model that incorporates both of these mechanisms and provide evidence of a non-monotonic relationship between home equity and mobility.
14 citations
TL;DR: In this article, the authors discuss developments in the field of household finance, focusing on how consumers make suboptimal financial decisions across different types of settings and factors that affect their decisions.
13 citations
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TL;DR: In this paper, the authors describe a relatively simple method of performing a decomposition that uses estimates from a logit or probit model and provide a more thorough discussion of how to apply the technique, an analysis of the sensitivity of the decomposition estimates to different parameters and the calculation of standard errors.
Abstract: The Blinder-Oaxaca decomposition technique is widely used to identify and quantify the separate contributions of group differences in measurable characteristics, such as education, experience, marital status, and geographical differences to racial and gender gaps in outcomes. The technique cannot be used directly, however, if the outcome is binary and the coefficients are from a logit or probit model. I describe a relatively simple method of performing a decomposition that uses estimates from a logit or probit model. Expanding on the original application of the technique in Fairlie [3], I provide a more thorough discussion of how to apply the technique, an analysis of the sensitivity of the decomposition estimates to different parameters, and the calculation of standard errors. I also compare the estimates to Blinder-Oaxaca decomposition estimates and discuss an example of when the Blinder-Oaxaca technique may be problematic.
749 citations
TL;DR: The first hints of trouble in the mortgage market surfaced in mid-2005, and conditions subsequently began to deteriorate rapidly as mentioned in this paper, and by the third quarter of 2008, the share of seriously delinquent mortgages had surged to 5.2%.
Abstract: The first hints of trouble in the mortgage market surfaced in mid-2005, and conditions subsequently began to deteriorate rapidly. According to data from the Mortgage Bankers Association, the share of mortgage loans that were “seriously delinquent” (90 days or more past due or in the process of foreclosure) averaged 1.7 percent from 1979 to 2006, with a low of about 0.7 percent (in 1979) and a high of about 2.4 percent (in 2002). But by the third quarter of 2008, the share of seriously delinquent mortgages had surged to 5.2 percent. These delinquencies foreshadowed a sharp rise in foreclosures: roughly 1.7 million foreclosures were started in the first three quarters of 2008, an increase of 62 percent from the 1.1 million in the first three quarters of 2007 (Federal Reserve estimates based on data from the Mortgage Bankers Association). No precise national data exist on what share of foreclosures that start are actually completed, but anecdotal evidence suggests that historically the proportion has been somewhat less than half (Cordell, Dynan, Lehnert, Liang, and Mauskopf, 2008). Mortgage defaults and delinquencies are particularly concentrated among borrowers whose mortgages are classified as “subprime” or “near-prime.” Some key players in the mortgage market typically group these two into a single category, which we will call “nonprime” lending. Although the categories are not rigidly defined, subprime loans are generally targeted to borrowers who have tarnished credit histories and little savings available for down payments. Near-prime mortgages are made to borrowers with more minor credit quality issues or borrowers who are unable or unwilling to
641 citations
TL;DR: The authors assesses the relative importance of two key drivers of mortgage default: negative equity and illiquidity, with comparably sized marginal effects, and find that negative equity is significantly associated with mortgage default.
Abstract: This paper assesses the relative importance of two key drivers of mortgage default: negative equity and illiquidity. To do so, the authors combine loan-level mortgage data with detailed credit bureau information about the borrower's broader balance sheet. This gives them a direct way to measure illiquid borrowers: those with high credit card utilization rates. The authors find that both negative equity and illiquidity are significantly associated with mortgage default, with comparably sized marginal effects. Moreover, these two factors interact with each other: The effect of illiquidity on default generally increases with high combined loan-to-value ratios (CLTV), though it is significant even for low CLTV. County-level unemployment shocks are also associated with higher default risk (though less so than high utilization) and strongly interact with CLTV. In addition, having a second mortgage implies significantly higher default risk, particularly for borrowers who have a first-mortgage LTV approaching 100 percent. (This abstract was borrowed from another version of this item.)
205 citations
TL;DR: In this article, the authors quantify the relative importance of various drivers behind subprime borrowers'decision to default and evaluate alternative policies aimed at reducing the rate of default, and find that the two key drivers behind the recent increase in defaults are the nationwide decrease in home prices and the increase of borrowers with poor credit and high payment to income ratios.
Abstract: To understand the recent increase in subprime mortgage defaults, we quantify the relative importance of various drivers behind subprime borrowers’decision to default. In our econometric model, we allow borrowers to default either because doing so increases their lifetime wealth or because of short-term credit constraints. According to our results, the two key drivers behind the recent increase in defaults are the nationwide decrease in home prices and the increase of borrowers with poor credit and high payment to income ratios. We use our model to evaluate alternative policies aimed at reducing the rate of default.
190 citations
TL;DR: The Federal Reserve Board's Survey of Consumer Finances for 2007 as mentioned in this paper provides insights into changes in family income and net worth since the 2004 survey, showing that over the 2004-07 period, the median value of real (inflation-adjusted) family income before taxes was little changed, while mean income climbed 8.5 percent.
Abstract: The Federal Reserve Board's Survey of Consumer Finances for 2007 provides insights into changes in family income and net worth since the 2004 survey. The survey shows that, over the 2004-07 period, the median value of real (inflation-adjusted) family income before taxes was little changed, while mean income climbed 8.5 percent. Unlike family income over this period, both median and mean net worth increased; the median rose 17.7 percent, and the mean rose 13.0 percent. This article reviews these and other changes in the financial condition of U.S. families, including developments in assets, liabilities, and debt payments.
170 citations