We learned some important lessons about consumer and borrower behavior from how interest-only mortgages were used during the housing boom which, now, seems so long ago.
Interest-only mortgages gave borrowers the ability to lower their monthly mortgage payment and save the difference. What the mortgage industry experienced was an outcome that was less noble. In fact, it was an outcome that could be described as humbling for both lenders and borrowers.
Instead of using an interest-only mortgage to reduce the monthly payment borrowers tended to use it to buy a more expensive house.
Consumer research suggests that borrowers couldn’t figure out the best amount to borrow so they made the simple choice – they figured out how much they could borrow and that was the amount they borrowed.
Interest-only borrowers simply bought as much house as they could and simply borrowed as much as they could.
The interest-only mortgage artificially increased the demand for housing and the price paid for housing. It also expanded household debt – which is now contracting as families refinance and banks foreclose.
The interest-only mortgage, along with its close cousin, the subprime mortgage, gave us the sign that the debt expansion was at its zenith.
As the debt contraction continues we can look back and learn useful lessons. One lesson learned is that borrowers, just like consumers, want fewer options and will look for simple solutions – even, as with the interest-only mortgage, it is risky and destructive.
Related Information in Prosperity View
- Housing Moral Hazard Act III: Behind on the Mortgage Payment and Spending at the Mall
- Rethinking Housing: The Meaning of Homeownership has Changed
- Should Those Who Lived Within Their Means Help Those Who Didn’t?
- Attempt to Reduce Debt is Difficult and Impacts Global Economy
- Debt – Responsibility Starts With Each of Us
- Spend, Save and Invest – Our Moral Hazard
- Expenses and Debt – Adjusting to the Great Debt Contraction
- Balance Sheets are the Focus in Age of Deleveraging
