Every so often I read something in a field I know something about that seems so wildly, flatly, gobsmackingly wrong that I figure I must be missing something [update: yes, I think I was]. Today is one of these days.
Here's a paper over at Vox EU, a website which calls itself "Research-based policy analysis and commentary from leading economists." The title of the post is "Is the US bankruptcy code to blame for overinvestment in housing by US households?" You can tell where this one is going--the answer to the question posed will be "yes." But are you ready for this:
At the same time, the legal system favours homeowners who experience financial difficulties by making investments in home equity partially exempt from personal bankruptcy.People--especially my bankruptcy buddies--help me out here. Isn't this just a dumb-as-pig-iron schoolboy howler? When they say "investments in home equity," I assume they are talking about mortgage debt, secured debt, yes? [In context, I think this must be what they have in mind--and does anyone intentionally ever make an unsecured loan in home equity?] But repeat after me: the homestead exemption is not good against mortgage debt. You can't claim it, you can't rely on it, In Sam Goldwyn's two words, ir-relevant. So the homestead exemption can have nothing to do with "investment in home equity."
Citing other research, the authors also declare that "the homestead exemption increases the supply of housing credit [and] biases household investment towards home equity." Huh? They are saying that home owners borrow more because they enjoy exemption protection? But even if they did enjoy exemption protection (they don't) --wouldn't we have to assume that the lender, too, knows about the homestead right? Are they really telling us that the lenders stand mesmerized before the predatory borrowers and agree to lend the money even though they know they will have no right to get it back? If this is truly their finding, don't they owe us just a hint of a surmise as to what would cause such bizarre behavior?
I'm really not sure where the authors got a screwed-up notion about the nature of the home equity exemption; it might have come from Rajan and Zingales in this book, where R and J make the same crude blunder. I tried to demolish R and J's error here, but I guess rust never sleeps.
A final thought: I just noticed that all four co-authors seem to be associated with European institutions. That might explain their utter ignorance of American law. And does it suggest that in Europe I can protect against a mortgage with a homestead exemption? Where do I sign up?
I notice at least one more crude misunderstanding; although it is less important it does provide additional evidence as to just how unencumbered by actual knowledge this piece is. They say:
The US bankruptcy exemption for home equity, or homestead exemption, ranges from $0 in Maryland to an unlimited amount in eight US states, including Florida and Texas, in 2006.Any first-semester bankruptcy student can tell you they are stepping on their own shirttails here. In fact, there are two separate exemption systems--"bankruptcy" and "state." Any debtor always has his state exemptions (zero to infinity as the authors correctly state). The Bankruptcy Code says that the debtor in bankruptcy may instead choose a set of "bankruptcy" exemptions--but the Bankruptcy Code also allows individual states to opt out of the bankruptcy system; in fact about three quarters of all states have opted out. FWIW, the current "bankruptcy exemption" is $21,625,sometimes $22,775,