Lending Next to the Courthouse: Exposure to Adverse Events and Mortgage Lending Decisions

Abstract

Adverse market events can affect credit supply not only by hurting financial fundamentals but also by changing the risk-taking behaviors of individual decision makers. We provide micro-level evidence of this individual decision-making channel in the U.S. mortgage market. We find that mortgage application rejection rates are more sensitive to foreclosure intensity when loan officers are more exposed to foreclosure news, despite the same housing market and bank fundamentals. Loans originated from the affected branches have lower ex-post default rates, consistent with higher lending standards being applied. In the aggregate, this effect results in tighter credit supply during housing market downturns.