The Role of Lending Practices on the Foreclosure Crisis: Evidence from Indiana and Ohio

Abstract

The goal of this study was to understand the role of loan approval and denial decisions and interest rates on mortgage defaults. The researchers identified the effect of lending practices on mortgage defaults by exploiting the variation in foreclosure rates across counties in Indiana and Ohio. The foreclosure rates were calculated using data from different sources of foreclosure listings. The loan approval–denial decisions and loan characteristics were obtained from the Home Mortgage Disclosure Act (HMDA) data. The analysis also attempted to understand the characteristics of “unqualified borrowers” who were extended credit before the foreclosure crisis. The findings showed that the counties that had higher loan approvals and positive interest rate spread had higher foreclosure rates. However, foreclosure rates did not seem to be correlated with loan‐to‐income ratios and the magnitude of the interest rate spread. The findings also suggested that the applicant’s income or the ratio of debt‐to‐applicant’s income was not sufficient to identify the unqualified borrowers who were extended mortgage loans.