As a college student, I spent multiple semesters compiling research on the economic value of bankruptcy. Most notably, the research pointed to the fact that allowing a financial reset button to investors has almost always helped spur future economic growth. In fact, it is usually the risk-takers who most help the market grow, and then it is the risk takers who most often require a bailout of sorts when hard times hit the economy.
Combine this with the knowledge that commercial investors are almost universally
considered unwise if they fail to renegotiate or default on expensive loans (and often have default clauses in their contracts to accommodate such decisions). Like those commercial loans, a home loan is a collateralized debt instrument -- and some states, like Arizona, wisely protect homeowners from undue recourse after the collateral has been converted to the lender's ownership. This means no risk to one's credit score for turning over the keys to a money trap. [Ummm, I think I covered this elsewhere, but please disregard my comment that there is no risk to your credit score. That's not what I meant to write.]
So blame the banks. When they put forth 80-100% of the values that their misguided appraisers projected on bad investments, they made much poorer decisions than the homeowners who submitted the remainder. So from an both an economic and ethical perspective, why should we insist that there be a false moral obligation on the part of the downtrodden homeowner to help the bank that refuses to renegotiate a bad loan.
Read more of Professor White's argument about "efficient breach" and non-deficiency in last weekend's local paper: http://bit.ly/9CIHoK.
Follow-Up: I recently posted the following to azcentral's brief opinion piece on this subject (http://bit.ly/cEX05W), which I think helps to illuminate the many facets of this debate and my views on the subject. And, by the way, the story's comments are some of the most intellectually stimulating that I have yet seen on azcentral.com.
@animadvert4: The harm is already being done on a massive scale, through unfortunate and often unavoidable mortgage defaults. Good luck effectively pointing the finger at all the borrowers "causing" your diminished home value; better yet, good luck identifying a legitimate baseline appraisal for your home in an established neighborhood, where many homes sold for less than today's prices in not too distant memory. [Note: This commenter alleged that purposeful defaults constituted tort damage to neighboring homeowners. While this is a compelling concept, it is a failing argument on many levels, certainly including the suggestion of recourse that I strongly doubt to be applicable in any practical sense.]
Another important note: Financial institutions constituted the single largest moneyed political lobby for the ten years that precipitated our burst real estate bubble (and this transcended political lines, although spending tended to favor Republicans who were in power). This spending effected policy like Bush's poorly conceived home ownership plan as well as his misguided policy on student loans, Congress's bankruptcy "reform," and several other [policies] designed to increase the fees collected by banks in recent years.
Not only should the banks carry greater blame for this crisis than individual borrowers, but they should be credited with failing to understand the greater ramifications of their greed. Or maybe a better question would be whether they did in fact misjudge the outcomes of this cycle. While most of the large banks guaranteed themselves a federal backstop for their errors, they have also strategically built up a foundation for a very profitable recovery.
Why aren't we more concerned about the fact that the American public is guilted into taking the least advantageous path to financial salvation, when we regularly expect that more savvy corporate interests will do otherwise? I'm quite grateful for provisions like the "efficient breach" law, which I consider tantamount to bankruptcy protection in its ability to provide efficient recovery for failed investors in a down economy. While one could argue the potential that people will unjustly take advantage of such "clean slate" provisions like bankruptcy, research has consistently proven that this is not the case. Instead, for every wave of debt forgiveness among individuals (like personal bankruptcy), there have been greater than proportionate increases in overall wealth, i.e. economic recovery. [While I can't readily cite sources, there is plenty of evidence that defends this position. If not for a crashed hard drive a few years back, I'd be able to draw from sources used in my previously mentioned academic paper. But if you so wish, I think you can find it in the UA library.]
Our economic system has historically seen the greatest benefit from rewarding risk takers, for they are the ones who most contribute to economic growth. So why now are we seeing such a reversal of sentiment, now that our economy could most use such relief?
Posts
