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The U.S. mortgage market has experienced phenomenal change over the last 35 years. This paper develops and implements a technique for assessing the impact of changes in the mortgage market on households. Our framework, which is based on the permanent income hypothesis, that allows us to gauge the importance of borrowing constraints by estimating the empirical relationship between the value of a household's home purchase and its future income. We find that over the past several decades, housing markets have become less imperfect in the sense that households are now more able to buy homes whose values are consistent with their long-term income prospects. One issue that has received particular attention is the role that the housing Government Sponsored Enterprises (GSEs), Fannie Mae and Freddie Mac, have played in improving the market for housing finance. We find no evidence that the GSEs' activities have contributed to this phenomenon. This is true whether we look at all homebuyers, or at subsamples of the population whom we might expect to benefit particularly from GSE activity, such as low-income households and first-time homebuyers.

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In a recent set of influential papers, researchers have argued that residential mortgage foreclosures reduce the sale prices of nearby properties. We revisit this issue using a more robust identification strategy combined with new data that contain information on the location of properties secured by seriously delinquent mortgages and information on the condition of foreclosed properties. We find that while properties in virtually all stages of distress have statistically significant, negative effects on nearby home values, the magnitudes are economically small, peak before the distressed properties complete the foreclosure process, and go to zero about a year after the bank sells the property to a new homeowner. The estimates are very sensitive to the condition of the distressed property, with a positive correlation existing between house price growth and foreclosed properties identified as being in "above average" condition. We argue that the most plausible explanation for these results is an externality resulting from reduced investment by owners of distressed property. Our analysis shows that policies that slow the transition from delinquency to foreclosure likely exacerbate the negative effect of mortgage distress on house prices.

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This paper takes a skeptical look at a leading argument about what is causing the foreclosure crisis and distills some potential lessons for policy. We use an economic model to focus on two key decisions: the borrower's choice to default on a mortgage and the lender's subsequent choice whether to renegotiate or "modify" the loan. The theoretical model and econometric analysis illustrate that "unaffordable" loans, defined as those with high mortgage payments relative to income at origination, are unlikely to be the main reason that borrowers decide to default. In addition, this paper provides theoretical results and empirical evidence supporting the hypothesis that the efficiency of foreclosure for investors is a more plausible explanation for the low number of modifications to date than contract frictions related to securitization agreements between servicers and investors. While investors might be foreclosing when it would be socially efficient to modify, there is little evidence to suggest they are acting against their own interests when they do so. An important implication of our analysis is that the extension of temporary help to borrowers suffering adverse life events like job loss could prevent more foreclosures than a policy that makes mortgages more "affordable" on a long-term basis.

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We present 12 facts about the mortgage crisis. We argue that the facts refute the popular story that the crisis resulted from finance industry insiders deceiving uninformed mortgage borrowers and investors. Instead, we argue that borrowers and investors made decisions that were rational and logical given their ex post overly optimistic beliefs about house prices. We then show that neither institutional features of the mortgage market nor financial innovations are any more likely to explain those distorted beliefs than they are to explain the Dutch tulip bubble 400 years ago. Economists should acknowledge the limits of our understanding of asset price bubbles and design policies accordingly.