The world’s largest guilt trip

By Felix Salmon
November 30, 2009
Brent White shows that underwater homeowners across America are signally failing to take my advice (or that of Mark Gimein) and walk away from their homes:

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Brent White shows that underwater homeowners across America are signally failing to take my advice (or that of Mark Gimein) and walk away from their homes:

Only about one-fourth of homeowner defaults are strategic, with the other three-fourths triggered by job losses, divorce or other financial difficulties, which when combined with negative equity give homeowners no option but to let go of their homes. In other words, for the vast majority of homeowners, negative equity is a necessary but not a sufficient condition for default… Though more than 32% of U.S. homeowners were underwater on their mortgages by the end of the second quarter of 2009, the strategic default rate was roughly 3%.

Not all property owners behave like this, of course, and the best example right now of an underwater property owner walking away from his obligations is that of Sheikh Mohammed bin Rashid al-Maktoum. As Willem Buiter explains,

The shareholder (the al-Maktoum family aka the government of Dubai) will decide on ordinary commercial principles whether to provide additional financial support to these companies.

If the shareholder of Dubai World and of Nakheel believes that a further capital injection makes commercial sense, it will inject additional capital (assuming it can find the financial resources to do so). If, as I suspect is the case with Nakheel, the company is so deep under water that injecting additional shareholder capital would be throwing good money after bad, the company will not be financially supported by the shareholder. That’s how financial capitalism works.

Except, of course, that’s not how financial capitalism works in the US. Here’s White:

Luigi Guiso, Paola Sapienza, and Luigi Zingales found that 81% of homeowners believe that it is immoral to default on a mortgage, and that homeowners who hold this attitude are 77% less likely to declare their intention to default than those who do not. Indeed, once the equity shortfall exceeds 10% of a home’s value, the study found that “moral and social considerations” are the “most important variables predicting strategic default.” So strong are these variables, in fact, that only 17% of homeowners indicted that they would default if the equity shortfall reached 50%…

Moreover, foreclosure rates are considerably lower than would be suggested by the Guiso, Sapienza, and Zingales study, as the percentage of people who actually default is much lower than the percentage that indicated they would default in the survey, moral qualms or not.

White goes on to enumerate an astonishingly long list of institutions, up to and including the president himself, which are speaking with a single voice on this question, and saying that paying an underwater mortgage in full is the morally correct thing to do. Hank Paulson did it, despite the fact that he would have fired anyone at Goldman who behaved similarly; Neil Cavuto likened people who walk away from their mortgages to people who would have “quit” and handed over Europe to the Nazis.

Even Gail Cunningham, of the National Foundation for Credit Counseling, declared in an interview on NPR that “Walking away from one’s home should be the absolute last resort. However desperate a situation might become for a homeowner, that does not relieve us of our responsibilities.” If you’re thinking of walking away, you’ll almost certainly do so while overcoming enormous feelings of guilt. And where there’s guilt, there’s belief in dire consequences:

Most people simply do not believe they will escape punishment for their moral transgressions. Guilt and fear of punishment go together. Thus, the notion that one will suffer great consequences for walking away from one’s financial obligations not only seems possible, but feels quite right. It just can’t be that one can walk away from their mortgage with no significant consequence. As such, people rarely question apocalyptic descriptions of foreclosure’s consequences.

The result is a system tilted enormously in favor of institutional lenders who exist in a world of morality-free contracts, and who conspire to lay the world’s largest-ever guilt trip on any borrower who might think about joining them in that world. It’s asymmetrical, it’s unfair, and it’s about time that homeowners started being informed that a ding to their credit score is not the end of the world; that no one would expect a capitalist company to behave in the way that individuals are being told to behave; and that their options are in fact broader than they might believe. White’s paper is the perfect place for them to start their reading.

(HT: Kedrosky)


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Dear Felix,The one thing to remember, at least for some of us, is that the home is really a home for some people — its home value, if you will, trumps its investment value.Love,Your colleague Robert MacMillan who thinks he’s not underwater, but isn’t entirely sure, but likes the home he lives in too much to leave it, and if he did, would have a bad enough credit score that he couldn’t buy another.

PS – Your colleague Robert is happy to be pilloried or exposed as a dummy by others in return for some education.

I agree that homeowners shouldn’t feel guilty about walking out on their homes, when that’s to their financial advantage. What I don’t understand is your previous fatwah against the bank that didn’t much want to make a short sale to the daughter of the woman who couldn’t afford her mortgage payments. If the contract is “morality free”, as you state, the bank should be able to do whatever the hell it wants when the borrower is in violation of it. Who cares what you or any of us thinks is right? The commie judge’s decision is sure to be overturned.

Posted by Joe P | Report as abusive

Robert–I think was Felix is saying is not that anyone who is underwater should ruthlessly default, but that anyone who is underwater should not let questions of guild affect their decision to ruthlessly default or not.

Posted by Robert | Report as abusive

Robert, if I had to bet, I’d suggest you weren’t underwater. Folks who’re deep underwater tend to know it. But check: rough out the cost of walking away from your mortgage and renting an equivalent or better place and investing the difference. If you’re underwater the situation will be stark and ugly. And if things are ugly, simply put the house back to the bank. You did not marry your mortgage. You have a put option. If it makes sense, use it.Joe P, did you read the trial court decision? Trust me, you did not, at least not before I asked. In my experience, lackwit rightwingers like you never read the primary sources. Let’s just say your ilk makes me wish there were a hell. Too bad we atheists are right, huh?

I can’t get the paper without paying $5, which is not something I am going to do right now. But I do wonder exactly how it is that the authors of the study measured morality. Turns out, it is hard to measure. What they actually measured was responses to surveys.Other studies have shown that people tend to express more concern about morality when they are feeling tempted to do something they think is immoral. So I would expect that as it becomes harder to pay the mortgage, the mortgage holder would indicate higher levels of concern about morality, if given a survey. The level of expressed concern would increase, until default became completely inevitable. Then the mortgage holder would indicate a low level of concern, then default.If this is the case, then the authors are not really measuring morality; rather, they are measuring the extent of mental rumination about morality. These are two different things.Perhaps the best approach for persons in this situation, would be to figure out why they are having such strong feelings, realize that the strength of the feeling is a reflection of ambivalence, then figure out how to resolve the ambivalence. This approach takes the process more into the intellectual realm, as opposed to the emotional realm. Logic works better in the intellectual realm.

I think it’s more than just morality, which I think gets overestimated. I think the real problem is the same ignorance and lack of judgement that got these people into these bad loans to begin with. They really thought they were making smart investments, and based on what you learn from CNN, MSNBC and the rest, R/E is a rock solid investment. Most of them probably think that when things turn around their houses will go up in value 10% or 20% per year again. To them that is “normal”, even if that normality was based on a very extraordinary 5 year period, that is the baseline that the rest of economic realty is judged against going forward. Or they think it will be like the stock market, and if you stick it out, you’ll do OK. Look what’s happend with the stock market this year. And they think if you don’t buy now, you’ll be priced out forever.I bought a house in 2004, sold it in 2008 after a year on the market (lost $10K, plus anther $10K for the commissions). I was glad to get out from the r/e taxes (county had it WAY overvalued) and glad I didn’t lose my shirt. But I still don’t feel like I’m safe cuz now I’ve got nothing but cash, which could vanish overnight. If I had a house, I’d at least have something tangible and valuable.

Posted by tc | Report as abusive

Professor White’s and Mr. Salmon’s recommendation to ‘walk away’ is based, all else equal, on the assumption that the consequences of doing so will stay constant relative to the recent historical norm. Haven’t we seen (e.g., in the housing market and the world of realted financial derivatives) the consequences of making such a the-world-as-we-know-it-will-not-change assumption? Is there truly no uncertainty behind the assertion that the representative person who ‘walks away’ will be able to obtain credit as quickly as Prof. White claims? Suppose it takes 5 years longer? Or 10 or 15 years longer?

Posted by Philip Rothman | Report as abusive

first line “singally” or “singularly”(it definately look like a signal though)

Posted by peter xyz | Report as abusive

btw… at the beginning of your danish podcast, it really sounds like you are saying “blØg”  /2009/11/30/kcast-140-finansbloggerne/( Was the whole thing just a way to distance yourself from Roubini and the establishment? Seems like the point of it was to paint you an independent thinker/blogger. Done on some random, little-travelled foreign language site and it achieves a level of “uncontrived” credibility? Seems like sophisticated PR. Who set it up? Reuters itself is a gigantic pr machine… how in the world do they expect us to believe that you are a free voice within their system?)

If you are underwater then it’s just like paying rent, so unless you can save a lot of money by leaving immediately why not stay in the house? Moving is a pain.

Posted by Neil D | Report as abusive

I think there’s more to it than guilt– many first-time buyers feel that becoming a homeowner is an achievement and a step up in social status. They’re not going to walk away from that willingly.

Posted by MattF | Report as abusive

mish shedlock has been following this issue closely over the months, with good analysis on a state-by-state basis from him and also expert readers who have contributed sound advice (as apparently rules per state make a big difference on future creditworthiness, liabilities etc).http://globaleconomicanalysis.blogs

Posted by otto | Report as abusive

Rather than encouraging people to walk away, which for many is difficult or impossible morally, I would like to see and participate in a citizens’ movement to withhold payment of all obligations owed to the offending financial institutions until the plutocrats who control them have all been discharged and their ill-gotten gains seized. We could agree to resume payment when all the underwater mortgages have been reset to 80% of the market value of the subject real property and when the boards of directors of those institutions agree to pay their CEOs no more than 20 times the pay of their lowest paid full-time employee.

Posted by Bruce Simpson | Report as abusive

Foreclosures, especially in the internet age, are a very public affair. I seriously doubt that most people with the ability to pay will not continue to do so, even if it makes financial sense to walk away, to avoid the large drop in social status that a foreclosure brings. Be careful about overestimating greed/profit motive and underestimating status-seeking (perhaps disguised as “morality”) as motivation for behavior.

Posted by pete | Report as abusive

Neil C wrote “11:47 am GMT[permalink]If you are underwater then it’s just like paying rent, so unless you can save a lot of money by leaving immediately why not stay in the house? Moving is a pain.”Yeah, it’s like paying rent. Actually in my case it’s more like 2.5 times the rent on a similar property, considering the cost of taxes, insurance, maintenance and upkeep in addition to the mortgage (which on my home is about twice as much as the house is worth. I bought a home I could afford with a fixed rate mortgage, but during the boom here in Florida.Not to mention the fact that in many neighborhoods hit hard by the crisis, the community stability is eroded. Renters have replaced owners. Crime is on the rise and I am growing somewhat uncomfortable with the neighborhood.Not sure what to do here. I am working on a short sale with no success yet. Walking away would force me to plan bankruptcy, due to the fact that Florida is a recourse state in which the lender can sue the defaulting borrower for a deficiency judgment.

Posted by Marie | Report as abusive

Marie – if you are weighing getting sued for a deficiency judgement, you are weighing the economic not moral consequences of the decision.I think people weigh the impact to their neighborhoods, but the longer someone has been in their home, the less likely they are underwater from their original purchase. Many of those borrowers can be underwater from helocs or refi’s, but those are treated differently legally in many states.Worst-case ‘walkaway’ is peak buyers, late 06/07 who can barely afford teh payments. They have little ties to the ‘hood and it probably makes $ sense to let the bank take over. It should also be noted that many of the home buyers were investors buying 2nd, 3rd or more homes. These peak buyers have already walked away or at least stopped paying, because they looked at it as a pure business, investment decision. These buyers also, at least misrepresented owner occupancy as many of these bad loans do not have 2nd home riders and got 100% financing. Look up the % of home sales in the bubble markets from 03-06 that were not primary residences and you’ll find speculators who have already walked and exacerbated the situation that the underwater occupants now have to deal with.

Posted by winstongator | Report as abusive

Banks’ bad behavior is enabled by most people’s basic morality here.Mortgage brokers happily gave people loans they couldn’t really afford, with rate changes that they knew most people didn’t understand. They racked up the fees, and banks took on these loans because they could make money repackaging and re-selling them. Sure, a lot of these guys were going to default because they were innumerate and trusting, but the bank could just re-sell the house.Now, the same people who were given loans that their lenders didn’t expect they’d be able to pay back are absolutely killing themselves to pay off the loan–even though all the benefits of doing so accrue to the bank! If you’re a “free market” type, how is the cost of a home supposed to return to a normal point when borrowers perversely persist in protecting banks from their losses?There’s a moral hazard here created by a messed-up value system. One where debtors have a greater moral obligation to their loan than lenders–where debtors are supposed to go against their own interests to help the lenders, but no such reciprocity exists for the rich folks. Why in the world wouldn’t a bank continue predatory lending practices? There’s literally no downside!Systematically screwing over less wealthy people to serve the interests of Wall Street is what got us into this mess. It’s just incredible we persist in it even now.

Posted by anon | Report as abusive

I think that there is a basic misapprehension here.Morality does not equal law or consequences. Greed is immoral. Greed is not only legal; it is a major engine of capitalism. Walking away from one’s debts may be immoral, especially if one can afford to pay them. But it’s legal, and the fresh start is an entrepreneurial dynamo.I’m damn proud of paying my debts when due; I view it as a moral imperative. Which means it binds me–and nobody else. If you don’t want to pay your debts, it’s not my integrity that is at stake. And I’m not going to prescribe the content of yours.

Posted by Joe S. | Report as abusive

” Walking away from one’s debts may be immoral, especially if one can afford to pay them”Seems to me there’s a big difference from walking away from a house, which the bank can resell, and not paying off unsecured debt, where the bank gets left with nothing.

Posted by Jon H | Report as abusive

If you are $150,000.00 underwater on your house, not an impossible situation if you bought between 2005-07, it will cost you $400,000.00 to pay off that loss alone. Between taxes, opportunity costs, etc. you are losing money at the rate of $20,000.00 to $40,000.00 per year just to protect a bank. What, you think banks are just going to write off the 15-20 million middle class workers who are losing their homes in this recession for 5-10 years or more? Then you are nuts. I wrote my bank asking for a modification and their response? Send me 4 “pre-approved” creidt card applications over the next two months. So ask yourself? For the average worker making $40-60k per year, is it worth giving 20K or more per year to the bank who was an active participant in the gamed system (phoney appraisals, flipping, no-doc loans, etc.) that falsley inflated the value of the property you bought? Or is it time to let them take their lumps with you? I say, let them take their lumps. And live in the home without paying the mortgage for a year or two while you are at it.

Posted by tas | Report as abusive

I’m going to venture a prediction: if the housing mess continues, there will come a point where strategic walkaways increase a person’s credit score. And if it doesn’t, that’s a sign that the scoring numbers are being gamed.Why? First, walkaways preserve a whole lot more cash flow for paying off other loans, so if you’re not the bank holding their mortgage they’re better to lend to than non-walkaways. Second, walkaways have shown the ability to do sensible financial planning. Third, the gains for a bank from having someone stick with an unsustainable mortgage to the bitter end are minimal at best: they get more payments, but they also get a property that’s been undermaintained and quite possibly stripped/abandoned in a hurry. Fourth, the surviving banks and real estate companies need people to buy houses and sign new mortgages if they’re going to stay in business. And the people who drain themselves dry trying to pay the old mortgages are not going to be the people who are in a position to buy houses in the medium-term future.

Joe P said..”What I don’t understand is your previous fatwah against the bank that didn’t much want to make a short sale to the daughter of the woman who couldn’t afford her mortgage payments. If the contract is “morality free”, as you state, the bank should be able to do whatever the hell it wants when the borrower is in violation of it.”"Salmon clearly has a double standard on this. Which is quite laughable.

Posted by DaveinPhilly | Report as abusive

Thank you for this much-needed post. A person who is underwater is guilty of having made a bad investment, not a sin. The fear of shame keeps many from ditching the bad investment, and so prevents homes from falling to their natural value. Banks can write off losses, shifting part of the burden to government. Socially we need to shift towards less homeownership and more renting. Government needs to facilitate relocation costs during an economic crisis — but they’re not doing so to the extent needed. Because of bankers’ prejudices, bankruptcy is more of a black mark than Congress intended. In short, there’s a lot of politics and economics behind the effort to make defaulters feel guilty.

Posted by Bob Pendleton | Report as abusive

The most astute already sold or walked away so we are not dealing with the brightest here. Some may be underwater but not by much and consider it only a transitory state and one their credit is good for. Someone with a $200k home would likely fall in this group. Others simply want their home regardless of whether they can afford it and it is not so much morality as emotion. Others consider it immoral for others as they profited on the way up and bear the costs on the way down.

Posted by Lord | Report as abusive

wcw said..\”But check: rough out the cost of walking away from your mortgage and renting an equivalent or better place and investing the difference.\”\”Most landlords nowadays will run a credit check on you before you rent. As a former property manager many years ago, we started using credit checks and it showed who the deadbeats are. You might not be able to rent if you walk away from your mortgage.\”\”Joe P, did you read the trial court decision? Trust me, you did not, at least not before I asked. In my experience, lackwit rightwingers like you never read the primary sources. Let’s just say your ilk makes me wish there were a hell. \”\”Well, I read the court decision and I agree with Joe P. It seems that the anti-corporate left-wingers are siding with the Horoski\’s, while the more astute people recognize them for the deadbeats that they are. After reading the ENTIRE ruling, I think the judge is incompetent. For example, he repeatedly misidentified who the plaintiff and defendant were.I hope it gets overturned on appeal so that the deadbeats don\’t get a free house. They defaulted back in 2005, less than a year after taking out the loan and then NEVER made a payment for the next FIVE years. Wow! And the bleeding heart liberals don\’t seem to mind.

Posted by DaveinPhilly | Report as abusive

Here in Detroit it’s even worse, at least percentage wise. My house, with about $54k left on a $56k mortgage, is now worth somewhere around $20k. Yes, my mortgage is now double the value of the house, and there’s no sign that will get back up to it’s previous (inflated) value any time before the mortgage is paid off in 30 years. The payments aren’t a problem (for now) but the declining availability of city services, and the rapidly rising cost of things like insurance here is making it very difficult to justify keeping the house. Unfortunately Michigan is a recourse state, or so I’m told, so simply walking away would be somewhat complicated.

Posted by JMT | Report as abusive

My recommendation: If you are dumping your house, dump your credit cards as well. The people who caused this calamity are the same who legalized usury and exported your job. If your “Credit Score”, is hosed by walking from the house, let them eat the cake and leave the credit cards in the kitchen drawer.

Posted by Giovanni | Report as abusive

If your upside down, WALK AWAY! While your at it, shuck the Credit Cards. Screw the Banks! They are all underwater themselves, not from residential loans, but from shitty commercial loans they made to their buddies on Wall Street who helped collude, and mastermind the fleecing of all Americans.Flugg them all!

Posted by Whippy | Report as abusive

I walked away. I had many reasons and I have never felt better.The more I read this economy going the way it is, the better I feel. Owning a home isn’t for everyone and I realized this. I’ll probably never own again and I’m perfectly OK with that.

Yes, I’m upside down on my primary residence, a condo in Orlando, FL. Purchased for $82K in 2002, maxed out at $235K in 2006, and currently worth somewhere around $50K. I now work in another city, and can no longer live in the house, nor rent it. Thank you, FHA, for your owner occupancy rules.Thanks to my 15 year fixed rate loan, I’m only a little underwater. Still, the monthly cash flow did lead me to think about sending the keys back to the bank. When I crunched the numbers, it made sense. A couple of things kept me from pulling the plug:(1) Preservation of my good name. White’s got a point. For me, it’s a sense of responsibility to my neighbors. While I may have gone to a B-School, I’m not the convert that Mr. Salmon is. He fails to realize that in human affairs, reputation matters, that there is more to life than making a buck.(2) The realization that there’s a land grab on. The clever B-School grads mentioned above are running the show. They have created market conditions designed to turn owners into renters. “Investors” are the market now. I am wary of them as neighbors, as they exist solely to enrich themselves and do not share my sense of neighborhood responsibility. As Mr. Salmon has so eloquently pointed out, I am being screwed. Given the option of by whom, I prefer to enrich the bank. Mortgages end. Rent is forever.(3) My dollar is worth less and less everyday. In absolute dollars, compensation in my chosen profession (I.T. Business Analysis) has actually gone up. It still buys what it did in 2004, but it takes more of them. The proportion of mortgage payment to monthly income has gone way down. As far as my mortgage is concerned, inflation rocks! Keep printing, Mr. Greenspan!

Posted by KR | Report as abusive

Bought a house in April 2007 for around $550k and by Jan 2009 it had lost about $200k in equity; a house we COULD afford. Stopped paying in Jan 2009; I think Wells Fargo has foreclosed, I’m not really sure, we’ve moved into a rental in October to save $1700 a month but lived for free from Jan to Oct. Credit dinged, already going back up though since I am not going to default on any other loan.

If you are tied to your mortgage because of moral constraints you are a lemming and a moron. Good luck to you; you need it.

Posted by kedo | Report as abusive

I’ve been searching for all the posts dated in 2006 recommending homeowners share their profits from refinancing their highly appreciated properties with the bank but can’t seem to find them.

You can make a “business” decision to walk away from your debts but if everyone does this our credit system will collapse.

While going back to a cash based economy would be fine with me, it’s going to hurt the same people you’re telling to walk away from their obligations. If they couldn’t accurately predict their ability to afford their mortgage payments, how are they going to live without credit cards & consumer loans?

As KR mentioned, inflation is already eating away at the value of our dollar. I prefer to own real assets (real estate, metals, commodities) to paper in this environment. Value is determined by market demand, everyone needs shelter, the only thing left to negotiate is price.


Posted by Bettykin | Report as abusive

Wow hard to believe, how could you sleep at night with this over your head.  /09/02/was-it-right-to-grant-refugee-st atus-to-white-south-african

Posted by jillbradlie | Report as abusive