Relational Contracts in the Housing Market

64 Pages Posted: 29 Nov 2017 Last revised: 14 Apr 2020

See all articles by Sumit Agarwal

Sumit Agarwal

National University of Singapore

Changcheng Song

Singapore Management University

Vincent Yao

Georgia State University - J. Mack Robinson College of Business

Date Written: April 14, 2020

Abstract

This paper examines relational contracts (RCs) in the housing market that exist between lenders and appraisers. We document that 42% of appraisals are at or near the contract value, while only 7.5% are below the contract. We develop an RC model and test several predictions using a novel data set that contains over 3 million appraisals. Our results confirm that appraisers produce more favorable appraisals as a reciprocity for past business from the lenders, and the response is much stronger for experienced appraisers. Lenders penalize appraisers for unfavorable appraisals by assigning fewer appraisals or terminating the business relationship. The penalty decreases once uncertainty over the appraiser type diminishes. Our theoretical model can be calibrated to fit the actual appraisal distribution. These findings demonstrate that incentives of a financial intermediary can be misaligned in the RC setting due to negative externality on third parties.

Keywords: relational contracts; appraiser; bunching; reputational concern; moral hazard; third party

JEL Classification: G21; G28; R21; R31

Suggested Citation

Agarwal, Sumit and Song, Changcheng and Yao, Vincent, Relational Contracts in the Housing Market (April 14, 2020). Georgetown McDonough School of Business Research Paper No. 3076944, Available at SSRN: https://ssrn.com/abstract=3076944 or http://dx.doi.org/10.2139/ssrn.3076944

Sumit Agarwal

National University of Singapore ( email )

15 Kent Ridge Drive
Singapore, 117592
Singapore
8118 9025 (Phone)

HOME PAGE: http://www.ushakrisna.com

Changcheng Song (Contact Author)

Singapore Management University ( email )

50 Stamford Road
Singapore
Singapore
+6568289610 (Phone)

Vincent Yao

Georgia State University - J. Mack Robinson College of Business ( email )

35 Broad Street
Atlanta, GA 30303-3083
United States

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