House of Debt: How They (and You) Caused the Great Recession, and How We Can Prevent It from Happening Again

House of Debt: How They (and You) Caused the Great Recession, and How We Can Prevent It from Happening Again

Atif Mian, Amir Sufi

Language: English

Pages: 232

ISBN: 022627165X

Format: PDF / Kindle (mobi) / ePub


The Great American Recession resulted in the loss of eight million jobs between 2007 and 2009. More than four million homes were lost to foreclosures. Is it a coincidence that the United States witnessed a dramatic rise in household debt in the years before the recession—that the total amount of debt for American households doubled between 2000 and 2007 to $14 trillion? Definitely not. Armed with clear and powerful evidence, Atif Mian and Amir Sufi reveal in House of Debt how the Great Recession and Great Depression, as well as the current economic malaise in Europe, were caused by a large run-up in household debt followed by a significantly large drop in household spending.

Though the banking crisis captured the public’s attention, Mian and Sufi argue strongly with actual data that current policy is too heavily biased toward protecting banks and creditors. Increasing the flow of credit, they show, is disastrously counterproductive when the fundamental problem is too much debt. As their research shows, excessive household debt leads to foreclosures, causing individuals to spend less and save more. Less spending means less demand for goods, followed by declines in production and huge job losses. How do we end such a cycle? With a direct attack on debt, say Mian and Sufi.  More aggressive debt forgiveness after the crash helps, but as they illustrate, we can be rid of painful bubble-and-bust episodes only if the financial system moves away from its reliance on inflexible debt contracts. As an example, they propose new mortgage contracts that are built on the principle of risk-sharing, a concept that would have prevented the housing bubble from emerging in the first place.

Thoroughly grounded in compelling economic evidence, House of Debt offers convincing answers to some of the most important questions facing the modern economy today: Why do severe recessions happen? Could we have prevented the Great Recession and its consequences? And what actions are needed to prevent such crises going forward?

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safe. Securitization enabled banks to exploit these differences in beliefs among investors and hide the real vulnerabilities of their securities. This allowed them to create and sell more and more genuinely risky securities that were deemed safe, and to fuel the credit supply to low credit-quality borrowers. As Coval and his coauthors put it: This ability of structured finance to repackage risks and to create “safe” assets from otherwise risky collateral led to a dramatic expansion in the

the 1990s, earning the nickname “Helicopter Ben.”9 Financial Times columnist Martin Wolf wrote in February 2013 that “the view that it is never right to respond to a financial crisis with monetary financing of a consciously expanded fiscal deficit—helicopter money, in brief—is wrong. It simply has to be in the toolkit.”10 Willem Buiter used rigorous modeling to show that such helicopter drops would in fact help an economy trapped at the zero lower bound on nominal interest rates.11 It would be

help avoid painful recessions and nurture sustainable economic growth. Acknowledgments The research underlying this book was conducted over more than half a decade. Countless colleagues, seminar participants, discussants, and referees contributed to our ideas. We would like to first acknowledge the stimulating intellectual environment of the universities that have employed us over this period: Princeton University, the University of California, Berkeley, and the University of Chicago Booth

policies, 162–66, 205n19 Fishback, Price, 144 Fisher, Irving, 55, 152–53, 155 foreclosures, 2, 26–29, 50, 104–5, 170, 202n21; delays in, 69; federal government programs on, 135–39; in the levered-losses framework, 51–52, 59; negative externalities of, 27–28, 39, 51–52, 193n7; shared-responsibility mortgages and, 175–76; in Spain, 119–21; state policies on, 28, 29f; on underwater mortgages, 26, 51–52, 60, 150 forgiveness, 60, 135–51, 205n19; bankruptcy mortgage calm-downs and, 146–48, 202n37,

all the other home owners in the area do. As a result, the bank is perfectly willing to sell at a lower price, even though society as a whole would not want the bank to do so. Foreclosures greatly exacerbated the housing downturn during the Great Recession. In 2009 and 2010, foreclosures reached historically unprecedented levels. The last peak before the Great Recession was in 2001, when about 1.5 percent of all mortgages were in foreclosure. During the Great Recession, foreclosures were three

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