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Mortgage Default during the U.S. Mortgage Crisis

Thomas Schelkle
University of Cologne, Working Paper Series in Economics No. 72, 2014

Keywords: Mortgage default, mortgage crisis, house prices, negative equity

Which of the main competing theories of mortgage default can quantitatively explain the rise in default rates during the U.S. mortgage crisis? This paper finds that the double-trigger hypothesis attributing mortgage default to the joint occurrence of negative equity and a life event like unemployment is consistent with the evidence. In contrast a traditional frictionless default model predicts a too strong increase in default rates. The paper also provides microfoundations for double-trigger behavior in a model where unemployment may cause liquidity problems for the borrower. Using this framework for policy analysis reveals that a mortgage crisis may be mitigated at a lower cost by relieving the liquidity problems of borrowers instead of bailing out lenders.

Mortgage Default during the U.S. Mortgage Crisis