Mortgage Defaults Again

A quick follow-up on the mortgage default issue: people left some great comments on my last post. The key question, I think, is the nature of the agreement between a bank and a borrower. Luis characterizes it as follows:

The ‘deposit’ of the collateral is carefully analyzed to make sure that it matches the value of the loan, with the bank taking on not some random risk ($600, $10, whatever) but the very specific and known risk that the house is worth less than the appraiser appraised it for; in exchange for the profit of your interest payments the bank takes on the risk that (1) you’ll default and (2) if you default, the house will be worth less than they appraised it for. That is the essence of the commercial transaction which is going on, and the banks are very well prepared (and have strong commercial incentives) to appraise both the borrower and the house during the mortgage process.

I don’t actually have a strong objection to this view, although I’m not totally persuaded by it. Interestingly, this is precisely the Robert Lowenstein view Matt was objecting in his post: that defaulting on a mortgage isn’t morally objectionable because the terms of the mortgage contract allows for it. Matt advanced the alternative argument that you don’t need to pay your mortgage because one has weaker moral obligations to “publicly traded for-profit corporations” than to other kinds of entities. I think this is clearly wrong, which was the main point of my shoplifting hypothetical.

One reason I’m somewhat conflicted about this issue is that I’m a big fan of Megan McArdle’s work on America’s generous bankruptcy system. One of the key properties of a dynamic economic system is a tolerance for fast failure. People make mistakes, and I don’t love the idea that someone who takes on a mortgage he can’t afford at 25 will be financially crippled until he’s 55.

But I also agree with Megan that social pressures and law work as complements. Remove the former and you probably need more of the latter if you want access to credit. The stigma against defaults and bankruptcies is (in Megan’s phrase) part of the cultural infrastructure of a capitalist society. We shouldn’t discard it too casually.