Why Don't Lenders Renegotiate More Home Mortgages? Redefaults, Self-Cures, and Securitization

Abstract

A leading explanation for the lack of widespread mortgage renegotiation during the financial crisis is the existence of frictions in the mortgage securitization process. This paper finds little evidence that the securitization process impeded the ability of lenders to renegotiate home mortgages, in particular during the early part of the crisis. Using a nationally representative dataset on seriously delinquent mortgage borrowers from the first quarter of 2005 through the third quarter of 2008, we find similarly small renegotiation rates for securitized loans and loans held on banks' balance sheets. We offer an alternative theory that argues that information issues endemic to home mortgages, where lenders negotiate with large numbers of borrowers, lead to barriers in renegotiation that are fundamentally different from those present with other types of debt. Consistent with the theory, we show that as the informational asymmetries between borrowers and lenders became less severe over the course of the crisis, renegotiation rates increased dramatically, rising from approximately 3 percent of delinquent mortgages in early 2007 when subprime mortgages began to default in record numbers to approximately 20 percent in late 2009 at the peak of government intervention in the mortgage market.