Household Finance Group Meeting

October 8, 2010
NBER Research Associates and Working Group co-directors Brigitte Madrian of Harvard University's Kennedy School of Government, Nicholas Souleles of the University of Pennsylvania's Wharton School, and Peter Tufano of the Harvard Business School, Organizers

Santosh Anagol, University of Pennsylvania, and Shawn A. Cole and Shayak Sarkar,Harvard University
Bad Advice: Explaining the Persistence of Whole Life Insurance

Anagol, Cole, and Sarkar conduct a series of field experiments to evaluate two competing views of the role of financial intermediaries in providing product recommendations to potentially uninformed consumers. The first argues that financial intermediaries may provide valuable product education, helping consumers to decide which of many complicated products is right for them. The second view argues that intermediaries recommend and sell products that maximize the agents' well-being. Audit studies in the Indian insurance market suggest that the second view is correct: agents recommend a product that provides them high commissions, although it is strictly dominated by alternative products. Consumers demonstrating lower levels of sophistication are more likely to be offered the wrong product. Finally, the researchers exploit a natural experiment that occurred during out-audits to test how disclosure requirements affect product recommendations. They find that requiring disclosure of commission levels makes agents less likely to recommend the product for which disclosure is required.

Daniel Cooper, Federal Reserve Bank of Boston
Home Equity Borrowing and Household Behavior in the 2000s

Using data from the 1999 to 2009 Panel Study of Income Dynamics, Cooper examines how households' home equity extraction during the previous decade affected their spending, saving, and residential investment behavior. His results show that during the height of the house-price boom (2003-5), a one-dollar increase in equity extraction led to higher household expenditures of 17 cents . Households saved roughly 19 cents of each dollar extracted through balance-sheet reshuffling, and households who made home improvements also spent 16 cents of their extracted equity on such repairs and additions. The spending, saving, and residential investment patterns are similar during the 2001-3 and 2005-7 periods. Overall, households' saving and residential investment response to equity extraction is roughly double their consumption response. In general, Cooper finds a relatively small impact of equity extraction on household spending.

Santosh Anagol and Hoikwang Kim, University of Pennsylvania
The Impact of Shrouded Fees: Evidence from a Natural Experiment in the Indian Mutual Funds Market

Anagol and Kim study a natural experiment in the Indian mutual funds sector that created a 22-month period in which closed-end funds were allowed to charge an arguably shrouded fee, whereas open-end funds were forced to charge entry loads. Forty-five new closed-end funds were started during this period, collecting 7.6 billion $U.S, whereas only two closed-end funds were started in the 66 months prior to this period, collecting 0.42 billion $U.S., and no closed-end funds were started in the 20 months after this period. The researchers estimate that investors lost and fund firms gained approximately 500 million $U.S. due to this shrouding.

Michael Lovenheim, Cornell University, and C. Lockwood Reynolds, Kent State University
The Effect of Housing Wealth on College Choice: Evidence from the Housing Boom

The higher education system in the United States is characterized by a large degree of quality heterogeneity, and there is a growing literature suggesting that students attending higher quality universities have better educational and labor market outcomes. Lovenheim and Reynolds use the difference in the timing and strength of the housing boom across cities to examine whether recent high school graduates whose parents experienced a short-run increase in their home price were more likely to attend a higher-quality college or university. The researchers employ restricted-use NLSY97 data containing information on post-secondary institutions attended and MSA in which respondents lived in 1997, as well as detailed demographic information and AFQT scores that allow them to control for the confounding relationships between housing price growth and college attendance decisions that do not operate through the wealth afforded by increased home values. The results indicate that a $10,000 increase in a family's housing wealth in the four years prior to a student becoming of college-age increases the likelihood that he or she attends a flagship public university relative to a non-flagship public university by 2.1 percent and decreases the relative probability of attending a community college by 1.6 percent. There is no effect of home price growth on selection into private universities, however. By splitting the sample into different income groups, the researcjers show that these effects are driven by relatively low-income families. They also estimate the effect of home price growth on the resource measures students are exposed to in college. Short-run increases in home prices lead to substantial increases in the SAT scores, faculty-student ratios, institutional graduation rates, and per-student expenditures of the institutions that students attend. Finally, for the lower-income sample, the researchers find that home price increases reduce student labor supply, and that each $10,000 increase in home prices is associated with a 2.4 percent increase in the likelihood of completing college.

Sumit Agarwal and Gene Amromin, Federal Reserve Bank of Chicago; Itzhak Ben-David, Ohio State University; Douglas Evanoff, Federal Reserve Bank of Chicago; and Souphala Chomsisengphet, Office of the Comptroller of the Currency
Market-Based Loss Mitigation Practices for Troubled Mortgages Following the Financial Crisis

The meltdown in residential real estate prices that began in 2006 resulted in unprecedented mortgage delinquency rates. Until mid-2009, lenders and servicers pursued their own individual loss-mitigation practices without being influenced significantly by government intervention. This allows Agarwal, Amromin, Ben-David, Evanoff, and Chomsisengphet to study these methods -- liquidation, repayment plans, loan modification, and refinancing --and to analyze their effectiveness. They first show that a majority of delinquent mortgages do not enter any loss mitigation program or become a part of foreclosure proceedings within six months of becoming distressed. They also find that it takes longer to complete foreclosures over time, as the resolution system becomes more congested with troubled loans. The researchers further document large variation in loss mitigation practices, both across servicers and across time, and show that this is not explained by differences in the borrower population. Finally, they find that affordability (as opposed to strategic default due to negative equity) is the prime reason for re-default after modifications. While modification terms are more favorable for weaker borrowers, greater reductions in mortgage payments and/or interest rates are associated with lower re-default rates. The regression estimates suggest a nearly 4 percentage point decline in default probability associated with a 1 percentage point decline in the mortgage interest rate. This is consistent with the focus of the Home Affordable Modification Program (HAMP) on improving mortgage affordability.

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