This paper highlights the importance of middle-class and high-FICO borrowers for the mortgage crisis. Contrary to popular belief, which focuses on subprime and poor borrowers, we show that mortgage originations increased for borrowers across all income levels and FICO scores. The relation between mortgage growth and income growth at the individual level remained positive throughout the pre-2007 period. Finally, middle-income, highincome, and prime borrowers all sharply increased their share of delinquencies in the crisis. These results are consistent with a demand-side view, where homebuyers and lenders bought into increasing house values and borrowers defaulted after prices dropped.

This paper develops a difference-in-differences estimator that uses annual changes in the conforming loan limit and the 80% loan-to-value (LTV) threshold to isolate the impact of easier access to credit on house prices. Houses that become eligible for financing with an 80% LTV conforming loan increase in value by about $1.17 per square foot, controlling for a rich set of characteristics. Our estimates imply a local elasticity of house prices to interest rates below 6, which suggests that interest rates are capitalized into prices to a lesser extent than proposed by studies relying on more aggregate variation.

We show the importance of the collateral lending channel for small business employment over the past decade. Small businesses in areas with greater increases in house prices experienced stronger growth in employment than large firms in the same areas and industries. To identify the role of the collateral lending channel separately from aggregate changes in demand, we show that this effect is more pronounced in industries that need little start-up capital and in which housing collateral is more important. This increase is also present in manufacturing industries, particularly those that ship goods over long distances. In aggregate, the collateral lending channel explains 15–25% of employment variation.

We provide new facts on the debt dynamics leading up to the financial crisis of 2007. Earlier research suggests that distortions in the supply of mortgage credit, evidenced by a decoupling of credit flow from income growth, may have caused the rise in house prices and the subsequent housing market collapse. This paper shows that the increase in mortgage originations was shared across the whole distribution of borrowers, and that middle-and high-income borrowers made up the majority of originations even at the peak of the boom. Compared to prior years, middle-and high-income borrowers (not the poor), as well as those with medium and high credit scores, made up a much larger share of delinquencies in the crisis relative to earlier years. We show that the relation between individual mortgage size and income growth during the housing boom was always strongly positive, also in line with previous periods (and independent of how income is measured). These results are most consistent with an expectations based view of the financial crisis in which both homebuyers and lenders were buying into increasing housing values and defaulted once prices dropped.

Do deals with debt collectors alleviate consumer financial distress? Using new data linking court and credit registry records, we examine civil collection lawsuits where consumers can settle out of court. Random assignment of judges with different styles generates exogenous variation in the likelihood of settlement negotiations. We find that settlements increase financial distress relative to going to court, likely by draining consumers of liquidity. The effect is stronger among less financially literate consumers. Survey evidence suggests that consumers generally overestimate how much they would pay through the court system. Perceived nonpecuniary benefits also motivate some consumers to settle.

Increasing personal bankruptcy protection raises consumers’ desire to borrow and lenders’ cost of extending credit; the impact on equilibrium borrowing is ambiguous. Using bankruptcy protection changes between 1999 and 2005 across U.S. states, we find that borrowers respond to greater protection by increasing their unsecured debt. Border county estimates suggest that local economic conditions do not drive these results. Borrowers pay more for protection through higher interest rates, yet delinquency is unaffected. Our results indicate that rising borrower demand outstripped decreasing supply. Increased protections did not reduce the aggregate level of household debt but affected the composition of borrowing.