A recent study conducted by researchers from the graduate schools of business at the University of Chicago and Northwestern University found that one out of four homeowners who default on their mortgages make a strategic decision to clear out their belongings and walk away from their homes-even if they can afford to pay their mortgages.
The study compared the Massachusetts housing market during the 1990-91 recession, when home values fell about 10 percent, with today’s housing depression, when values in some markets have fallen as much as 30 to 40 percent, and concluded that when homes lost 15 percent of value or more, owners begin to strategically default at an accelerated rate.
The study found that in Massachusetts 19 years ago very few people who could afford their mortgages chose to walk away from their homes. Today, however, when values have fallen much farther, the researchers found that homeowners start to default at an increasing pace when the value of their homes falls 15 percent or more. In fact, 17 percent of households would default even if they can afford to pay their mortgage when the equity shortfall reaches 50 percent of the original value of the house.
”Housing policy under the current administration has focused on reducing households’ cash flow problems in response to the housing crisis, but no one has addressed the negative equity issue as part of public policy regarding housing,” said Paola Sapienza of the Kellogg School of Management at Northwestern University. “We’re in a completely different economic environment today, where for the first time since the Great Depression millions of Americans have mortgage loans that exceed the value of their home.”
According to the researchers, moral and social variables play a significant role in predicting strategic default. People surveyed who said it was immoral to default were 77 percent less likely to declare their intention to do so, while people who know someone who defaulted were 82 percent more likely to say they would default themselves.
”The most important barriers to strategic default seem to be both moral and social,” said Luigi Zingales of the University of Chicago Booth School of Business. ”Our research showed there is a ‘multiplication effect,’ where the social pressure not to default is weakened when homeowners live in areas of high frequency of foreclosures or know others who defaulted strategically. In fact, the predisposition to default increases with the number of foreclosures in the same ZIP code.”
“Factors such as age, location, political affiliation and attitudes toward government intervention also impacted respondents’ responses to the morality of strategic default,” he added.
The researchers also found:
- People under the age of 35 and over the age of 65 were less likely to say it was morally wrong to default compared to middle-aged respondents.
- People with a higher education (eight percentage points) and African-Americans (14 percentage points) are less likely to think itis morally wrong to default, whereas respondents with a higher income are more likely to think it is morally wrong.
- Default is considered less morally wrong in the U.S. Northeast (six percentage points) and West (8 1/2 percentage points).
- There was little difference in the moral view of strategic default among Republicans and Democrats, but Independents were less likely to say defaulting is immoral.
Respondents who supported government intervention to help homeowners were 12 percentage points less likely to say strategic default is immoral.
”As defaults become more common, the social stigma attached with defaulting will likely be reduced, especially if there continues to be few repercussions for people who walk away from their loans,” concluded Sapienza. “This has an adverse effect on homeowners who do pay their mortgages, and the after-effects of more defaults and more price collapse could be economic catastrophe.”
For a copy of the study, access the link at the top of this story.