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How Do Foreclosures Exacerbate Housing Downturns?

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  • Adam M. Guren

    (Boston University)

  • Timothy J. McQuade

    (Stanford University)

Abstract

We present a dynamic search model in which foreclosures exacerbate housing busts and delay the housing market;s recovery. By eroding lender equity, destroying the credit of potential buyers, and making buyers more selective, foreclosures freeze the market for non-foreclosures can cause price-default spirals that amplify an initial shock. To quantitatively asses these channels, the model is calibrated to the recent bust. The amplification is significant: ruined credit and choosey buyers account for 22.5 percent of the total decline in non-distressed prices and lender losses account for an additional 30 percent. We use our model to evaluate foreclosure mitigation policies and find that payment reduction is quite effective, but creating a single seller of foreclosures that holds them off the market until demand picks up is the most effective policy. Policies that slow down the pace of foreclosures can be counterproductive.

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  • Adam M. Guren & Timothy J. McQuade, "undated". "How Do Foreclosures Exacerbate Housing Downturns?," Boston University - Department of Economics - Working Papers Series WP2018-007, Boston University - Department of Economics.
  • Handle: RePEc:bos:wpaper:wp2018-007
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    Cited by:

    1. Atif Mian & Amir Sufi, 2018. "Finance and Business Cycles: The Credit-Driven Household Demand Channel," Journal of Economic Perspectives, American Economic Association, vol. 32(3), pages 31-58, Summer.
    2. Hedlund, Aaron, 2016. "Illiquidity and its discontents: Trading delays and foreclosures in the housing market," Journal of Monetary Economics, Elsevier, vol. 83(C), pages 1-13.
    3. Eric Zwick & Charles Nathanson & Anthony DeFusco, 2017. "Speculative Dynamics of Prices and Volume," 2017 Meeting Papers 239, Society for Economic Dynamics.
    4. David Berger & Nicholas Turner & Eric Zwick, 2020. "Stimulating Housing Markets," Journal of Finance, American Finance Association, vol. 75(1), pages 277-321, February.
    5. Allen Head & Amy Hongfei Sun & Chenggang Zhou, 2016. "Default, Mortgage Standards And Housing Liquidity," Working Paper 1359, Economics Department, Queen's University.
    6. Biswas, Arnab & Cunningham, Chris & Gerardi, Kristopher & Sexton, Daniel, 2021. "Foreclosure externalities and Vacant Property Registration Ordinances," Journal of Urban Economics, Elsevier, vol. 123(C).
    7. Do, Hung Xuan & Rösch, Daniel & Scheule, Harald, 2018. "Predicting loss severities for residential mortgage loans: A three-step selection approach," European Journal of Operational Research, Elsevier, vol. 270(1), pages 246-259.
    8. Christos A. Makridis & Michael Ohlrogge, 2022. "Foreclosure spillovers and individual well‐being: Evidence from the Great Recession," Real Estate Economics, American Real Estate and Urban Economics Association, vol. 50(1), pages 122-146, March.
    9. Diamond, Rebecca & Guren, Adam & Tan, Rose, 2020. "The Effect of Foreclosures on Homeowners, Tenants, and Landlords," Research Papers 3877, Stanford University, Graduate School of Business.
    10. Marcel Fischer & Roland Füss & Simon Stehle, 2021. "Local house price comovements," Real Estate Economics, American Real Estate and Urban Economics Association, vol. 49(S1), pages 169-198, March.
    11. Adam M. Guren & Arvind Krishnamurthy & Timothy J. Mcquade, 2021. "Mortgage Design in an Equilibrium Model of the Housing Market," Journal of Finance, American Finance Association, vol. 76(1), pages 113-168, February.
    12. Stephen L. Ross & Yuan Wang, 2022. "Mortgage Lenders and the Geographic Concentration of Foreclosures," Working Papers 2022-001, Human Capital and Economic Opportunity Working Group.

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    More about this item

    Keywords

    Housing Prices & Dynamics; Foreclosures; Search; Great Recession;
    All these keywords.

    JEL classification:

    • E30 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - General (includes Measurement and Data)
    • R31 - Urban, Rural, Regional, Real Estate, and Transportation Economics - - Real Estate Markets, Spatial Production Analysis, and Firm Location - - - Housing Supply and Markets

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