Underwater and Not Walking Away: Shame, Fear and the Social Management of the Housin

[markusk]

An interesting (contrarian?) article from a scholar of behavioral economics and the law, Brent T. White: "Underwater and Not Walking Away: Shame, Fear and the Social Management of the Housing Crisis."

http://www.sacbee.com/static/weblogs/real_estate/SSRN-id1494467.pdf

"...norm asymmetry between borrower and lenders creates disincentives for lenders to renegotiate underwater mortgages and makes it unlikely that lenders will work with borrowers to address the negative equity issue. Any proposal to address the problems created by negative equity must account for this reality -- either by addressing the resulting distributional inequities or changing the rules of the game. Viable approaches could include: 1) cutting lenders out of the picture altogether through government financing of mortgages at low interest rates; 2) using stimulus funds to buy down mortgages of underwater homeowners; 3) forcing lenders to reduce mortgage balances by court order; or 4) leveling the playing field by eliminating the ability of lenders to trash a borrower's credit score in retaliation for the borrower's exercise of his contractual right to default. Regardless of the precise policy prescription, it is time to put to rest the assumption that a borrower who exercises the option to default is somehow immoral or irresponsible...."

Of course there are those who were irresponsible and took out loans for homes they could not afford. But this bubble also hit responsible people too. This article got me to thinking. If two parties are in a contract and the deal loses money, shouldn't both parties "pay" for the lost if that is what the contract says? What if the other party refuses to pay their part and trys to force the other party to pay for it all? How do you make both parties compromise?

[buildmybudget]

You can't make them compromise. And for the homeowner who is upside down and faced with the prospect of never getting above water...what real incentive is there to compromise? I've known several people who have been stuck in horrible housing situations where they have lost more than half the value of the house. In that situation, the only decision is when to leave, not if.

It's a crappy situation and one I'm glad I haven't had to make because of the ethics and integrity issues involved, but when it comes to money and taking care of your family you have to make decisions that make sense. Unfortunately, we all wind up paying for it in the form of bailouts, etc.

[irmanator]

I don't know why people expect the bank to renegotiate? YOU chose the house, YOU agreed to the price. The bank loaned you the money and if you didn't like the terms you should not have signed the paper. Now if you want to refinance thats a different story..

[markusk]

buildmybudget, I agree with you. One of the points of the paper (its 54 pages long so it explores arguments, counter arguments, and counter-counter arguments) is that the banks/financial industry and others have moralized the issue so that most people, even if they are taking a "financial bath," are holding steady and paying their mortgages, even knowing that they will not break even in 60+ years -- sacrificing their families future. The paper explores why they stay and continue paying.

irmanator, the problem with your view is that when banks gave out their loans, they did (or should have done) their "due diligence" too. The responsibility is on both the homeowner and the lender -- they both agreed on the price. In other words, banks assumed a risk too. If the banks were not willing to take the risk of NOT getting paid back (for whatever reason), they should not be in the lending business -- the banks should not have signed the papers either. But they did, and want the homeowner to take ALL the lost.