Yesterday, Delusional Economics linked a video from Sunday Sunrise showing SQM Research’s Louis Christopher and Sunrises David Koch (‘Koshie’) discussing the Australian housing market.
While much of what both commentators said was reasonable, I found one point made by Koshie misleading:
From 4.40 of the video, Koshie notes that a major difference between Australia and the US is that: “in the US, if the value of your property falls below your loan, you just hand your keys back and you say to the bank, ‘see you later fella, I’m leaving, you cop any loss’. Here in Australia, you are still on the hook for a loan. So that’s a very big incentive for Australians to keep paying their mortgage. And often, at times like this, we just put off selling the house”.
Australian foreclosure laws are more strict than the US, but the claim that borrowers in the US can simply walk away from their mortgages and the bank cannot go after their other assets is factually incorrect. The below table, which comes from a 2010 Federal Reserve Bank of Richmond Working Paper, classifies each US state into recourse (i.e. where the banks can go after a borrower’s other assets) and non-recourse (i.e. where they cannot):
As you can see, the overwhelming majority of states in the US have been classified by the Federal Reserve as recourse.
Moreover, the two states with the highest level of mortgage delinquencies – Nevada and Florida – are in fact recourse states:
We might add some cultural differences. For instance, Americans tend to be less negative than Australians about personal bankruptcy, owing to their entrepreneurial milieu, which might make some difference.
But let’s also not forget that Ireland – one of the epicentres of the global housing bust – has some of the harshest bankruptcy laws in the world, whereby citizens can be jailed for failing to repay a loan and it did very little to prevent a bust there.
Interestingly, the authors of the Working Paper claim that the threat of recourse reduces mortgage defaults by around 20%. This suggests that while Australia’s stricter full-recourse foreclosure rules could help to reduce the severity of any housing downturn, they are no panacea.
Hat tip Ben Rabidoux for the Federal Reserve Working Paper link.