The Housing Bubble Fueled Spending
Image by Beth RooneyAtif Mian
In places where housing prices skyrocketed, home- owners borrowed heavily against the rise in home equity—money they spent not to buy another house, make investments, or pay off credit card debt, but to fuel consumption.
Research by associate professors of finance Amir Sufi and Atif Mian examined homeowners in an inelastic housing market (such as San Francisco, which is geographically limited) with an elastic market (such as Atlanta, where home construction is cheaper) to find “Home Equity-Based Borrowing, and the U.S. Household Leverage Crisis,” they said, “We find that the home equity–based borrowing channel is driven primarily by homeowners with low credit scores and high credit card utilization rates,” data that may imply credit constraints or self-control problems. They conclude, “The severity of this economic downturn is rooted in the household leverage crisis, which in turn is closely related to striking results,” which they described in a Wall Street Journal blog entry. “From 2002 to 2006, homeowners borrowed $0.25 to $0.30 for every $1 increase in their home equity,” they wrote. “Our microeconomic estimates suggest a large macroeconomic impact: withdrawals of home equity by households accounted for 2.3 percent of GDP each year from 2002 to 2006.”
In their paper “House Prices, Home Equity-Based Borrowing, and the U.S. Household Leverage Crisis,” they said, “We find that the home equity–based borrowing channel is driven primarily by homeowners with low credit scores and high credit card utilization rates,” data that may imply credit constraints or self-control problems. They conclude, “The severity of this economic downturn is rooted in the household leverage crisis, which in turn is closely related to the housing market.”—P.H.
Choosing to Default When You Could Pay
Image by Beth RooneyLuigi Zingales
With U.S. housing prices plummeting, nearly 20 percent of homeowners owe more on their mortgage than their house is worth. Since lenders often find it too expensive to pursue payment, homeowners may be tempted to default. Research by Luigi Zingales, Robert C. McCormack Professor of Entrepreneurship and Finance, suggests a quarter of defaults are “strategic”—cases in which the homeowner is able to afford the loan but simply walks away. The work was covered in the Economist among other media.
In “Moral and Social Restraints to Strategic Default on Mortgages,” Zingales and his coauthors look at American homeowners’ propensity to default when the value of a mortgage exceeds the value of their house, even if they can afford the payments. By using new survey data, they estimate that people stay put if their negative equity does not exceed 10 percent in absolute value. After that point, homeowners default at an increasing rate, reaching 17 percent of households when their equity shortfall reaches 50 percent of the value of their house.
The most important barriers to strategic default seem to be moral and social, they write. “People who know someone who defaulted are 82 percent more likely to declare their intention to do so.”—P.H.
Sometimes Attrition Is Not Enough
Image by Beth RooneySteven Davis
Even in the current downturn, millions of Americans find new jobs each month. Millions also quit their jobs or suffer a layoff. These striking facts highlight the fluid character of American labor markets.
In “Adjusted Estimates of Worker Flows and Job Openings in JOLTS,” Steven Davis, William H. Abbott Professor of International Business and Economics, and his coauthors “develop and implement a method to improve estimates of worker flows and job openings based on the Job Openings and Labor Turnover Survey (JOLTS).
“The research examines how employers respond to economic downturns, and when they turn to layoffs to keep their businesses afloat,” the New York Times reported. Davis told the paper, “Employers like to use attrition to adjust to changing markets, but that’s not enough to achieve downsizing. You can see it clearly in the data: an employer who shrinks more than a few percentage points will have to depend on layoffs.”—P.H.
To access research by Sufi, Mian, Zingales, or Davis, visit ChicagoBooth.edu/magazine/facultylinks.