The Politics of Foreclosures

• Date: 01 December 2018
• DOI: http://doi.org/10.1111/jofi.12725
• Published date: 01 December 2018

THE JOURNAL OF FINANCE •VOL. LXXIII, NO. 6 •DECEMBER 2018

The Politics of Foreclosures

SUMIT AGARWAL, GENE AMROMIN, ITZHAK BEN-DAVID, and SERDAR DINC∗

ABSTRACT

The U.S. House of Representatives Financial Services Committee considered many

important banking reforms in 2009 to 2010. We show that, during this period, fore-

closure starts on delinquent mortgages were delayed in the districts of committee

members although there was no difference in delinquency rates between committee

and noncommittee districts. In these areas, banks delayed the foreclosure starts by

0.5 months (relative to the 12-month average). The estimated cost of delay to lenders

is an order of magnitude greater than the campaign contributions by the political

action committees of the largest mortgage servicing banks to the committee members

in that period.

THE FINANCIAL CRISIS OF 2008 led to a sharp rise in foreclosures. As a highly

visible symbol of the crisis, foreclosures attracted considerable attention from

politicians, regulators, and the public. In particular, large banks—many of

which also service securitized mortgages—and their foreclosure practices faced

public scrutiny. For example, during a congressional hearing on February

10, 2009, Barney Frank, then-Chairman of the Financial Services Committee

in the U.S. House of Representatives (HFSC), called for a moratorium on

new foreclosure starts.1Within days, at least one very large bank agreed to

∗Sumit Agarwal is associated with National University of Singapore. Gene Amromin is with

the Federal Reserve Bank of Chicago. Itzhak Ben-David is with the Ohio State University and

NBER. Serdar Dinc is with Rutgers University.Zachary Duey, Caitlin Kearns, Robert McMenamin,

Michael Murto, and Felix Zhang provided excellent research assistance. The authors thank Ken

Singleton (Editor); two referees; Gadi Barlevy; Jeff Campbell; Artyom Durnev (WFA discussant);

Jeffrey Frieden (NBER discussant) Luojia Hu; Brian Knight (NBER discussant); Chris Mayer;

Brian Melzer (FIRS discussant); Anna Paulson; Mark Pocock; Amit Seru; ToddSinai; Dan Sullivan;

and seminar participants at Chicago Fed, FIRS conference, NBER Political Economy, NBER Real

Estate meetings, OCC, Rutgers University,and WFA conference for comments. The views expressed

here do not represent those of the Federal Reserve Bank of Chicago or the Federal Reserve System.

The paper has been reviewed by the private data providers (Equifax and McDash Analytics) to

ensure contractual compliance. This project has also been reviewed by the directors of the Research

Division at the Federal Reserve Bank of Chicago. The authors declare that they have no relevant

or material financial interests related to the research in this paper.

1Specifically,Barney Frank said that“...while wewaitforPresidentObama’splan,I call on

institutions that hold or service mortgages to delay and stop any foreclosure proceedings . . . [I]n this

situation where the Obama Administration will have a specific plan shortly,a moratorium is clearly

called for.” See http://democrats.financialservices.house.gov/press/PRArticle.aspx?NewsID=456.

DOI: 10.1111/jofi.12725

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2678 The Journal of Finance R

delay any new foreclosures.2Foreclosures remained a focal point of political

discussion in the following months.

Our paper focuses on whether financial institutions’ decisions with regard

to starting the foreclosure process were systematically related to not only

economic concerns, but also political concerns. Congress took many major

legislative actions over the 2009 to 2010 period in relation to the financial

sector, culminating in the passage of the Dodd-Frank Act. The financial

industry was thus highly motivated to follow legislative developments and to

adjust some of its practices in anticipation of changes.

The literature on campaign contributions and lobbying proposes a number

of possible reasons why banks might attempt to influence the political process

through their foreclosure actions.3First, foreclosure delays may help decrease

pressure on politicians from their voters and allow banks to obtain more

favorable legislative outcomes.4Second, a lenient approach to foreclosure

in the districts of powerful politicians may help banks gain access to these

politicians.5Third, such delays may help politicians sympathetic to the banks’

perspective get reelected.6Finally, politicians themselves may pressure banks

for leniency on delinquent borrowers in their district, as Barney Frank’s call

for a moratorium on foreclosures suggests. Naturally, these reasons are not

mutually exclusive and possibly not exhaustive.

The foreclosure process on delinquent loans starts only when a lender—or

its agent, the loan servicer—takes explicit action. The start of the foreclosure

process is therefore largely discretionary and can be delayed. To identify

political motivations in banks’ foreclosure decisions, we follow the political

economy literature, which emphasizes the importance of the HFSC for laws

related to the financial sector,7and study whether banks delayed foreclosure

initiations on delinquent mortgages in the districts of HFSC members during

2009 to 2010, when important legislation related to the financial sector was

being considered. We use institutional details of the U.S. Congress in our

2See the letter dated February 12, 2009 from Jamie Dimon, the CEO of JPMorgan Chase, to

Barney Frank. http://www.house.gov/apps/list/press/financialsvcs_dem/press021309.shtml.

3See Grossman and Helpman (2001), Stratmann (2005), and Leech (2010) for surveys of cam-

paign contributions and lobbying. Cooper, Gulen, and Ovtchinnikov (2010) provide evidence on the

relationship between political contributions and stock returns.

4For a discussion of quid pro quo relationships between interest groups and politicians, see,

for example, Austen-Smith (1987), Baron (1989,1994), Snyder (1990,1991), and Grossman and

Helpman (2001).

5See, for example, Austen-Smith (1995), Tripathi, Ansolabehere, and Snyder (2002), and

Bertrand, Bombardini, and Trebbi (2014) for studies on the importance of access to politicians

for policy.

6See Kroszner and Stratmann (2005) for the role of politicians’ reputation in the relationship

between interest groups and politicians.

7See, for example, Romer and Weingast (1991), who study legislation around the savings and

loan crisis, and Nunez and Rosenthal (2004), who study the political economy issues surrounding

the passage of the personal bankruptcy reform bill of 2005. Kroszner and Stratmann (1998)provide

a theoretical model of the relationship between congressional committees and interest groups and

test their theory by analyzing actions of the House Banking Committee, the predecessor of the

HFSC that we study.

The Politics of Foreclosures 2679

test design. For example, given the importance of seniority in congressional

committees, incumbents tend to stay on the same committee for multiple

terms. Hence, most members of the HFSC decided to join this committee long

before the onset of the financial crisis.

We find that mortgage-servicing banks did indeed delay the start of foreclo-

sures on delinquent loans if those loans were located in the electoral districts

of HFSC members. Importantly, there was no difference in delinquency rates

across committee districts, so this differential delay cannot be attributed to

servicers’ capacity constraints under a large volume of delinquent loans. These

results are robust to the inclusion of many loan- and location-specific controls,

some of which are time-varying (e.g., zip code–level house price changes), as

well as to the inclusion of any state-specific time effects.

The average time to foreclosure starts in noncommittee districts is about

12 months, taking into account the right-censoring at the sample end. In

contrast, in committee districts, this average is about half a month longer.

Based on foreclosure cost estimates from the literature and using only the

aggregate value of delinquent loans in our sample, we conservatively estimate

the direct cost of delay to lenders to be about $30 million. Although this cost

may be small in the context of the mortgage market, it should be evaluated

relative to other political actions by large banks, as the importance of banks’

political activities is not captured by the direct impact of their cost on bank

earnings but rather by their potential to influence the political process. During

the sample period, the top 10 mortgage servicers, which include some of the

largest financial institutions (e.g., Bank of America, Citigroup, JPMorgan,

and Wells Fargo) collectively spent approximately $44 million for lobbying

members of the legislative and executive branches, not just HFSC members,

while the combined campaign contributions to HFSC members by these banks’

political action committees amounted to roughly $1 million. Thus, for the

10 largest servicers, the cost of foreclosure delays in committee districts is

comparable to their lobbying costs and an order of magnitude greater than

their campaign contributions to committee members.

Delaying foreclosure starts is a novel channel for banks to influence

the political process. Despite the similarities of this channel’s cost to the

lobbying expenses of these servicers, there are also important differences

between this channel and the more traditional political activities through

lobbying and contributing to campaigns. First, by law, lobbying expenditures

cannot be channeled to politicians’ campaigns. The foreclosure delays, in

contrast, directly benefit the constituents of committee members. Campaign

contributions, of course, can be used in politicians’ campaigns, but foreclosure

delays may be able to target politicians’ voters more precisely than some

of the campaigning activities that are paid by contributions. For example,

while television advertisements are used heavily in political campaigns, their

coverage is likely to extend beyond the relevant district’s borders, especially in

urban areas; by contrast, foreclosure delays can accurately target voters in a

particular district. Second, unlike campaign contributions, foreclosure delays

are not subject to campaign contribution limits and do not have to be disclosed.