Munich Personal RePEc Archive

Strategic Default Induced by Loan Modification Programs

Li, Xianghong and Zhao, Xinlei (2016): Strategic Default Induced by Loan Modification Programs.

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Abstract

We use the October 2008 Countrywide legal settlement as a natural experiment to investigate how borrowers may change their payment behavior to be eligible for loan modifications. We find that the Countrywide modification program induces strategic default among both borrowers current in their loan payments and those already in payment delinquency before the settlement. By January 2009, modification-induced strategic default is about nine percentage points, on a base default rate of 30 percent, and such strategic behavior is more severe among riskier loans. These findings have implications on designs of loan modification programs that are different from the existing literature.

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