The Imitation Game: The Imitation Game: How Encouraging Renegotiation Makes Good Borrowers Bad

Sean Flynn, Andra Ghent and Alexei Tchistyi

The Review of Financial Studies, 2024, vol. 37, issue 12, 3648-3709

Abstract: We show that commercial mortgage borrowers behave opportunistically to attempt to obtain principal reductions. We develop a model in which lenders cannot perfectly observe borrowers’ use values and renegotiation is costly. We then exploit a tax rule change that reduced the cost of renegotiation. Consistent with the model predictions, borrowers with high private use values of the property are more likely to transfer into special servicing when lenders have a higher capacity to negotiate principal reductions after the rule change. Our results suggest adverse consequences of principal forgiveness for lenders.

Keywords: E44; G14; G21 (search for similar items in EconPapers)
Date: 2024
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