Richard Thaler, a pioneer in behavioral economics, is the latest to question why so many underwater borrowers are continuing to pay their mortgages in a New York Times column.
Thaler notes that borrowers feel a sense of responsibility about continuing to pay even when their properties are grossly overvalued — and a sense of shame about foreclosing. (Executives at companies with underwater mortgages, meanwhile, will evaluate their options purely on the basis of stakeholder economic benefit.)
Curiously, though, when borrowers see their neighbors accepting foreclosure and moving on, the stigma lessens. Individuals then begin to view the decision more like businesses do, based on economic factors rather than avoidance of shame.
Interestingly, Thaler argues that this is a powerful reason for the government to step in and mandate mortgage modifications. Why? Because mass foreclosures benefit no one, and, as unemployment lingers and borrowers start thinking more strategically and less emotionally, more will accept foreclosure as a strategic option. Adjusting mortgages would prevent this behavior, allowing note holders to continue to receive payments — and avoid the huge costs and operational entanglements of repossessing huge numbers of overvalued properties.
What do you think?
Read Thaler’s column here.