You're so good to me!

John Quiggin is blogging about an under-appreciated aspect of US financial markets: we're much, much nicer to borrowers than any other country in the world. (Yes, even after the bankruptcy reform¹.):

As with bankruptcy, however, the high frequency of financial distress is partly offset by the fact that US law and standard contractual arrangements are more friendly than in other countries. Compared to those in other places (at least in Australia) US mortgage contracts have commonly favored borrowers in two important ways. First, they have been fixed rate contracts with no, or limited penalties, for early repayment. That means that borrowers can stick with their fixed rate if market rates rise, but can refinance at lower cost of market rates fall.

Second, most mortgages are non-recourse, meaning that the lender can take the house but cannot recover the debt from the borrowers income or other assets. That means that once the value of the house falls below the amount owing (equity becomes negative) the borrower can walk away from the house and the debt. As Felix Salmon notes, the difficulty of pursuing deficiency payments means that most loans are non-recourse in practice even if the contract says otherwise

The mystery, of course, is why American capital markets are so much deeper than places where it is presumably more attractive to lend.





¹I was living in London during the 2005 bankruptcy reform, and I had a lot of difficulty putting across the notion that the new law was a "draconian" reform. The terms were so much more generous than British bankruptcy law (and British bankruptcy law is positively lavish compared to European laws) that they thought the reform was needed to curb the absurdly generous terms of the new law. Indeed, one chap simply refused to believe that I wasn't having him on about the existence of Chapter 7.