The Effect of Negative Equity on Mortgage Default: Evidence from HAMP PRA

50 Pages Posted: 22 Aug 2015

See all articles by Therese C. Scharlemann

Therese C. Scharlemann

Federal Reserve Board of Governers

Stephen H. Shore

Georgia State University

Date Written: May 7, 2015

Abstract

The Home Affordable Modification Program’s Principal Reduction Alternative (HAMP PRA) is a government-sponsored program to reduce the principal balances and monthly mortgage payments of borrowers with negative equity (mortgage balances in excess of their home value, or “under water”) who are in danger of default. We use administrative data to examine the impact of principal forgiveness — a permanent mortgage balance reduction — on borrowers’ subsequent mortgage default. The program’s rules imply a kink in the relationship between principal forgiveness and a borrower’s initial equity level ceteris paribus. Our identification strategy exploits the quasi-experimental variation in principal forgiveness generated by this kink using a regression kink design (RKD), which compares the relationship between initial equity and default on either side of the kink. The quarterly hazard — the proportion of loans that become more than 90 days delinquent and consequently exit the program — in our sample is 3.1 percent; we estimate that it would have been 3.8 percent absent principal forgiveness, which averaged 28 percent of the initial mortgage balance.

Keywords: Mortgages, Real Estate

JEL Classification: G21, R30

Suggested Citation

Scharlemann, Therese C. and Shore, Stephen H., The Effect of Negative Equity on Mortgage Default: Evidence from HAMP PRA (May 7, 2015). Office of Financial Research Working Paper No. 15-06. Available at SSRN: https://ssrn.com/abstract=2648464 or http://dx.doi.org/10.2139/ssrn.2648464

Therese C. Scharlemann (Contact Author)

Federal Reserve Board of Governers ( email )

Washington, DC 20551
United States

Stephen H. Shore

Georgia State University ( email )

35 Broad Street
11th Floor
Atlanta, GA 30303-3083
United States

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