Consumer Ruthlessness and Mortgage Default During the 2007-2009 Housing Bust

Abstract:     
From 2007 to 2009 house prices in the U.S. plunged and mortgage defaults surged. Media anecdotes portray strategic default behavior as widespread, but survey evidence indicates that Americans by and large view strategic default unfavorably. We examine data on actual mortgage default decisions during the recent housing downturn to estimate how far underwater one must fall before deciding to strategically default. We combine monthly ZIP code house price indices with loan-level data tracking the monthly performance of over 130,000 nonprime home purchase loans originated in 2006. We estimate that the median borrower in our sample does not walk away until housing equity drops to -67 percent. Moral aversion to default may be an important factor explaining this result since the borrowers in our sample arguably face low default costs along other dimensions. Finding evidence of high moral aversion to default is important as it implies that the moral hazard cost of the default option as a form of social insurance will be low.

Number of Pages in PDF File: 50

Keywords: Housing, mortgage default, negative equity

JEL Classification: D12, G21, R20

working papers series