Author(s): William D. Larson (FHFA, Division of Research & Statistics), Christos A. Makridis (Arizona State and Stanford University), and
Chad A. Redmer (U.S. Naval Academy)
*Revised December 2022
Abstract: We exploit plausibly exogenous fluctuations in borrower house price and job loss expectations to estimate the causal effect of expectations on loan performance. Borrowers whose house price expectations fell early in 2020 were more likely to enter forbearance, but then quickly exited as house prices continued to appreciate. However, borrowers who expected job loss entered and remained in forbearance throughout the weak labor market. We also find that house price changes in a borrower's social network affect their expectations as much as local house price appreciation, and these expectations formed at origination affect future leverage and debt service ratios. In sum, our results are consistent with models of adaptive expectations where borrowers adjust beliefs gradually and, in turn, affect aggregate activity in the mortgage market.