May 5, 2011
Demiroglu, Dudley, & James on Strategic Default and the Foreclosure Process
Cam Demiroglu, Evan Dudley, and Christopher James (Florida - Finance) have posted Strategic Default and the Foreclosure Process on SSRN. Here's the abstract:
Strategic defaults occur when borrowers default on their mortgages even though they can afford to continue to make their mortgage payments. Prior research suggests that the economic incentives in terms of the borrower’s equity in the home as well as non-economic factors such as moral attitudes about default are important determinants of strategic default. In this paper, we examine how differences in state foreclosure laws impact the likelihood of strategic default. Specifically, we examine how judicial review requirements and lenders’ recourse rights (deficiency judgments) affect the likelihood of default. We argue that state foreclosure laws should have little effect on the likelihood of non-strategic default and thus provide a good instrument for identifying the costs and benefits of strategic default. Consistent with this argument, we find that the effect of state foreclosure laws varies with the borrower’s equity position, with borrower-friendly foreclosure laws having a significantly greater effect on default rates for borrowers with negative equity. We also examine how recent state and federal loan foreclosure-prevention programs have affected the likelihood of strategic default. Overall, we find a significant reduction in the effect of state foreclosure laws on strategic defaults following the introduction of loan modification programs after late 2008. Our results suggest that programs meant to prevent foreclosures have also reduced the effectiveness of foreclosure laws that discourage strategic defaults.
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