Donald Morgan* and Benjamin Iverson§

Bank Structure Conference, Federal Reserve Bank of Chicago

May 8, 2009

*Research Officer (FRBNY), §Ph.D. Student (Harvard)Our views are not necessarily those of the Federal Reserve or Harvard.

Usual Suspects◦ Home price deflation

◦ Excess credit supply/securitization

◦ Rising interest rates

Reduces “supply” of bankruptcy protection

◦ fees tripled

◦ limits cram-down on auto loans

◦ residency requirement limits access to exemptions

◦ means test limits access to Ch. 7

Pre-BAR, over-indebted mortgagors could free up cash-flow by filing bankruptcy and have credit card debt discharged and auto loan crammed down

Reform blocks maneuver with means test etc., hence higher foreclosures or forced home sales

“…many debtors file bankruptcy precisely so that they can pay their mortgage… by discharging other debts.” Berkowitz and Hynes (1998) original emphasis.

“ If … covered by your state’s homestead exemption, Ch. 7 may be

the way to go…by getting rid of most your other debts, keeping up the mortgage will be just that much easier” Bankruptcy for Dummies (2006)

“[P]eople get in over their heads by further encumbering their homes with equity lines of credit…Then, when interest rates rise, and home values stop increasing, they can no longer refinance and file a Chapter 7 bankruptcy petition to wipe out their [unsecured] debts and hold off foreclosure by their lender…[Now] they must file under Chapter 13, and pay off their debt in 60 months or less. Middle income families in this position could face the loss of their homes” Ms. Alexis McGee, President Foreclosure.com, Business Wire, April 25, 2005.

.3.4

.5.6

.7.8

late

mort

ga

ge

s %

/la

te c

redit c

ard

%

02

00

00

04

00

00

06

00

00

08

00

00

0to

tal filin

gs

1991q1 1995q1 1999q1 2003q1 2007q1qdate

total filings late mortgages %/late credit card %

Look across states and credit markets

◦ Bigger impact in states with high bankruptcy demand, i.e, high exemption (X) states

◦ X opposite of collateral;

◦ Smaller impact in low X states

After BAPCPA, in high X (exemption) states

1. subprime foreclosures surge more,

2. prime foreclosures invariant

3. unsecured personal loan delinquency improve.

4. auto loans more secure & cheaper (due to reduced cramdown)

5. home prices fall more

State level

Multiple markets

Windows: ◦ Pre-BAPCPA: 1998:1 – 2005:4 ◦ Post-BAPCPA: 2006:1 – 2007:3

Sources: see paper

Yst = α + as + α t + βBAPCPA∙X + `BAPCPA∙UNLIM_X …+ εst.

Yst = foreclosure rate (subprime or prime)

delinquency (personal loan or auto)

home prices

Controls = unemployment, log(income), income growth, home prices

Complete regression results in paper.

AK

ALAR

AZ

CA

COCT

DCDE

FL

GA

HI

IA

ID

ILIN KSKY

LA

MA

MD

ME

MI

MN

MOMS

MTNC

ND

NE

NH

NJ

NM

NV

NY

OHOK

ORPA

RI

SC

SD

TNTX

UT

VA VT

WA

WI

WV

WY

-100

010

020

030

0

Per

cent

Cha

nge

in S

ubpr

ime

For

eclo

sure

(Pre

BA

R -

Pos

t BA

R)

0 100 200 300 400 500 ... Unlim.Single homestead exemption ($000s)

Sources: State Laws & Statutes, Mortgage Bankers Association

Difference in subprime foreclosure rate equals percent change in average rate fromseven quarters before BAR (2004:2-2005:4) to seven quarters after (2006:1-2007:3)

Dependent Variable: Mortgage Foreclosure Rate: Personal Loan

Subprime Prime Delinquency Rate

(2)

BAPCPA X∙2.85**

* 2.04*** 0.07 -0.06 -0.78*** -0.84***

BAPCPA UNLIM ∙X 0.81 0.68 0.04 0.02 -0.12 -0.16

HOME APP. -0.11*** -0.01*** 0.01

UNEMP. 0.53* 0.12*** 0.14**- Impact: (2) → for median X state, foreclosure rate 12.6 % higher than average before

→ 32k more foreclosures per quarter - St. dev in HOME APP → 48k “ “

BA

R

22.

53

3.5

44.

5

-40

-20

020

40

1999m7 2001m7 2003m7 2005m7 2007m7

Unlimited spread Limited spreadUnlimited - limited gap

Dependent Variable:House

Price LevelHouse Price Appreciation

BAPCPA*X 36.66** -3.30**

BAPCPA*Unlim. X -3.04 -1.66

% of subprime loans in foreclosure -6.09*** -0.65***

Unemployment rate -5.95 -2.01***

Log(per capita income) 117.08 -1.48

Per capita income annual growth -0.36 0.07

Shifted risk ◦ unsecured (credit card) & under-secured (upside

down auto loans) safer ◦ secured riskier

Impact ◦ subprime foreclosures surged◦ home prices peaked ◦ cheaper auto credit

Was BAPCPA the needle that burst the buggle and boosted foreclosures?

Ch. 7liquidate nonexempt home equity; remaining unsecured debts discharged;

keep future income

Ch. 13 reschedule/keep all assets so long as maintain payments

Sweet spot for over-indebted mortgagor with positive equity: Ch. 7 in high exemption state

Delinquency Rate on Auto Loan Spread Direct Auto Loans Indirect Auto loans

BAR X∙ -0.09 -0.14 -0.25 -0.34 -0.17 -0.09

BAR UNLIM ∙X -0.11 -0.15* -0.62** -0.67** -0.20 -0.13

Unscaled Exemptions

BAR∙X -0.05* -0.06** -0.02 -0.04 -0.02 0.01

BAR∙UNLIM X -0.12 -0.15* -0.57* -0.62** -0.18 -0.11

(selected diff-in-diff regression coefficients-Table 4)

AKALAR

AZ

CACO

CT

DC

DE

GAHI

ID

ILIN

KY

LA

MA

MD

ME

MI

MN

MO

MS

MTNCNDNE

NH

NJ

NM

NV

NYOH

OR

PA

RI

SCTN

UT

VA

VT

WA

WI

WVWY

020

40

60

80

100

0 100 200 300 400 500Homestead exemption ($000s)

2005Q4 over 2005Q3One-Quarter Percent Change in Chapter 7 Filings

Ashcraft, Dick, Morgan (2007)