Cleveland Fed Examines Link Between Foreclosure and Unemployment

Mon, Jul 12, 2010


By: Rachel Daniels

According to an article released by the Federal Reserve Bank of Cleveland this week, much can be gleamed by

studying the historic link between foreclosure and unemployment rates—including the fact that according to past patterns, we can expect the current high foreclosure rate to persist for some time.

The article abstract., penned by Timothy Dunne, VP at the Federal Reserve Bank of Cleveland, and Kyle Fee, a research assistant, based this statement on the “observation that states that experienced boom-bust housing cycles in the past (such as Texas, Oklahoma, Massachusetts, and California) had elevated foreclosure starts for years after the peak in foreclosure starts and inventory, and these previous boom-bust cycles were small in comparison to the current cycle.”

Other findings that the article reveals include the fact that typically high foreclosure rates precede high rates of

unemployment. In terms of the current downturn, the bank found that the foreclosure rate “began to rise sharply before the unemployment rate rose and well before the onset of the recession in December of 2007.” The bank attributes this to the fact that the nation also saw a decline in home prices and a weakening of loan quality, before the true recession began. These additional factors help to explain the earlier appearance of high foreclosure numbers.

Breaking down this data further, the article reported that the trends varied slightly for traditional prime, fixed-rate mortgages, which more closely followed the timing of the rise in the unemployment rate. The authors reported that, “For this group of loans, loan quality is generally higher, and the subsequent rise in the foreclosure start rate is more closely linked to economic weakness and job loss.”

According to the bank, this group of loans represents approximately 53 percent of first-lien mortgages prior to the start of the housing crisis. To back up this finding, the bank cites the government’s making Home Affordable Program, which stated that “60 percent of the program’s permanent mortgage loan modifications are the result of the loss of income.”

Following this logic, the bank found that “the obvious corollary is that the foreclosure start rate for loans other than prime, fixed rate mortgages, including subprime loans, led the cycle,” and that this group of loans saw higher foreclosure rates well before the unemployment rate began to rise and before the nation entered in recession.

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