Maths maketh mortgage success

27 June 2013
Posted by Chris Smith.

Did homeowners with a poor command of maths cause the global financial crisis, Maths_equationsUS researchers are wondering?

Kindled in the US subprime mortgage market, the ensuing economic shockwaves ricocheted around the globe, dragging most of the industrialised world into the most severe recession since the Great Depression.

Most of the blame has thus far been levelled at "irresponsible bankers" who, critics argue, shouldn't have lent money to mortgage buyers who could not afford the debts. But to what extent are the borrowers themselves to blame, and what factors might influence this? And could poor numerical ability be the cause?

To find out, University of Lausanne researcher Lorenz Goette and his colleagues analysed the mortgage records of subprime borrowers dating from 2006-2007.

The individuals concerned were contacted and, over the telephone, underwent basic tests of their numerical and verbal abilities. These results were then compared with the likelihood that these same individuals had defaulted on their mortgages and for how long.

What emerged was a very strong relationship between mortgage default duration and weak mathematical ability. Those least adept at adding up spent, on average, twice as long in default compared with those scoring the highest marks.

This relationship held even after controlling for factors such as verbal ability, meaning that it wasn't just a borrower's inability to understand the terms of a mortgage that was responsible; instead it appears that numerical ability drives behaviour downstream of securing a mortgage and this is the critical factor.

The researchers conclude their paper in PNAS by highlighting two policy implications of their findings: First, the complexity of mortgage products, making them hard to comprehend, has been blamed for contributing to home repossessions. But altering just this, the team say, based on their results, won't solve the problem.

Instead, they highlight second that improved financial education of homeowners is what is required, suggesting that a follow up "randomised control study", offering financial training to some homeowners but not others and comparing the outcomes could test the importance of this intervention.

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