In a new commentary article from the Joint Center for Housing Studies at Harvard University authored by Sean Lee and Omeed Maghzian, poses the question, “is allowing borrowers to suspend mortgage payments an effective way to stabilize the economy during a recession?”
To begin answering this question, they looked at programs started during the COVID-19 pandemic such as the Coronavirus Aid, Relief, and Economic Security Act (CARES Act) and its effect on the labor market stability during the pandemic and subsequent recession.
Overall, the authors found that those measures likely saved the economy and played an important role in boosting local demand during the following economic recovery.
These findings are significant for a number of reasons—limited household liquidity can depress aggregate demand during economic downturns. For example, during the Great Recession, the wave of defaults following the housing crisis had destabilizing effects on both local and aggregate economic activity, which persisted for several years.
Since then, policymakers and academics have actively discussed how to best prevent defaults and stimulate consumption among distressed borrowers to promote macroeconomic stability during times of crises.
Looking back, the CARES Act provided for federally-backed mortgage borrowers to halt their payments—most importantly without fees or penalties for 18 months—and upon exiting forbearance, borrowers were typically given the option to defer repayment of their missed payments until the end of their mortgage as a second-lien loan.
Two distinct features of the mortgage forbearance program made it possible to identify the impact of the liquidity provision on local labor markets. First, despite the broad eligibility criteria, enrollment in mortgage forbearance was not automatic; households had to request forbearance. As a result, there were significant regional variations in the uptake of forbearance.
Second, in contrast to other forms of fiscal policy, the implementation of the program was carried out by mortgage servicers, which are responsible for collecting monthly payments and facilitating transactions with investors in mortgage-backed securities.
The authors found that there were significant differences in mortgage servicers’ propensity to provide forbearance. Using loan-level data for government-sponsored enterprise mortgages, they further showed that these differences cannot be fully explained by observable loan and borrower characteristics. Rather, servicers differed by as much as 7 percentage points in forbearance provision to observably similar borrowers.
Notably, the authors estimate that during the 18 months following statewide business reopenings, a one percentage point increase in the forbearance rate led to an approximately 30 basis point increase in monthly employment growth in “nontradable” sectors (retail trades, accommodations, and food services). This effect is large enough to suggest that when it was widely available, forbearance helped stabilize local economic conditions during the pandemic-era recession.
The authors further stated that households spent 67 cents of every dollar of liquidity provided through mortgage forbearance in the following year. Overall, their findings suggest that household liquidity provision through debt forbearance can be a cost-effective fiscal stabilization tool during economic downturns.
Click here to read the paper in its entirety.