- P-ISSN 2586-2995
- E-ISSN 2586-4130
KDI Journal of Economic Policy. Vol. 40, No. 3, August 2018, pp. 69-89
https://doi.org/10.23895/kdijep.2018.40.3.69
We study whether a default option attached to non-recourse mortgages improves borrowers’ surplus from mortgage financing. By defaulting on mortgage debt, borrowers can save their non-collateralized income from being foreclosed. In exchange, borrowers must forgo nonmonetary surplus from retaining any collateral. Banks may charge a high mortgage rate due to increased default rates. We find that the interest rate of non-recourse mortgage decreases with the borrower’s surplus from home ownership. Moreover, non-recourse mortgages benefit only borrowers who deem housing property as an investment asset. Hence, the transition to a non-recourse mortgage is detrimental to welfare if the borrower enjoys a large surplus from home ownership. Although the borrower privately knows how much surplus she enjoys from home ownership, a menu of non-recourse mortgage contracts may exist, yielding a separating equilibrium without information rent.
Non-recourse Mortgage, Strategic Default, Adverse Selection
D82, G18, G21