Lending Next to the Courthouse: The Salience of Adverse Events and Mortgage Lending Decisions

45 Pages Posted: 28 Oct 2019 Last revised: 31 Aug 2020

See all articles by Derek D. Huo

Derek D. Huo

Ronald Coase Centre for Property Rights Research, The University of Hong Kong

Mingzhu Tai

The University of Hong Kong - School of Economics and Finance

Yuhai Xuan

University of California, Irvine - Paul Merage School of Business

Date Written: August 30, 2020

Abstract

Adverse housing market events can affect credit conditions not only by hurting the financial fundamentals of banks, but may also by changing the lending behaviors of individual loan officers. In this paper, we test the latter mechanism by analyzing loan-level mortgage applications from 2008 to 2016 and utilizing a distinctive setup in the home foreclosure process: foreclosure auctions are typically held live at the county courthouse, thus making the county-wise foreclosures more salient to loan officers working nearby. By comparing lending outcomes across loan applications within the same county and across branches of the same bank, we find that mortgage lending standards are more stringent when the decisions are made in bank branches next to county courthouses, resulting in higher rejection rates and smaller approved loan size. Accordingly, aggregating at the branch level, credit supply is significantly tighter at bank branches next to the courthouses relative to other branches of the same bank within the same county. We show that this salience effect on lending decisions and credit supply increases in the county-wise foreclosure intensity, and these effects are especially pronounced among high-risk borrowers and for branches belonging to small-sized banks. Our results are not driven by fundamental differences in borrower and branch characteristics of neighborhoods next to the courthouses and remain robust in a matched sample of branches and loan applications. Overall, our findings provide micro-level evidence that adverse news can have significant impacts on credit market outcomes by changing the risk preferences and beliefs of individual financial decision makers.

Keywords: salience, lending decisions, foreclosure

JEL Classification: G20, G21, D90

Suggested Citation

Huo, Derek D. and Tai, Mingzhu and Xuan, Yuhai, Lending Next to the Courthouse: The Salience of Adverse Events and Mortgage Lending Decisions (August 30, 2020). Available at SSRN: https://ssrn.com/abstract=3471668 or http://dx.doi.org/10.2139/ssrn.3471668

Derek D. Huo

Ronald Coase Centre for Property Rights Research, The University of Hong Kong ( email )

Pokfulam Road
Hong Kong, Pokfulam HK
China

Mingzhu Tai (Contact Author)

The University of Hong Kong - School of Economics and Finance ( email )

8th Floor Kennedy Town Centre
23 Belcher's Street
Kennedy Town
Hong Kong

Yuhai Xuan

University of California, Irvine - Paul Merage School of Business ( email )

4291 Pereira Drive
Irvine, CA California 92697-3125
United States

HOME PAGE: http://yuhai.merage.uci.edu/

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