Doug French: An Angel or Devil?
I am very underwater on my house and I would like to believe Doug French when he says I should walk away, but I can’t help but feel that it would be dishonest if I did so. Doug has a bunch of good arguments explaining that the mortgage market is run by the government, that the lenders knew there was a risk, that they have the collateral of the house, etc. etc. Still, I kept coming back to, “If I am able to pay it, then I should continue to do so.”
At the end of the article Doug goes for the throat:
When asked about the morality of strategic defaults many people will respond that it’s okay to default if you can’t make the payment, but if you can it’s immoral — similar to the “ability-to-pay” argument of those who support progressive taxation….
How does one define ability to pay? Enough after-tax income with all adults working to service the debt and enough money left over to pay for groceries and other essentials? What if each adult can work two jobs making enough to service the mortgage? Or three jobs each?
Should homeowners have another family move in and have the families rotate to use the house, with the respective adults working opposite shifts (one set of adults working day shift, the other night shift)? Many Hispanic families did this in a 24-hour town like Las Vegas during the housing boom in order to afford housing. Builders catered to these buyers in the lower-priced northeast part of the city by constructing relatively small homes (under 2,000 square feet) that were carved into seven bedrooms.
What should a person give up in order to make their payments? Food, education, transportation, funds to live on in old age?
During Weimar Germany’s hyperinflation, middle-class wives and daughters engaged in prostitution to keep a roof over their families’ heads and food to eat. Is it a strategic default if the family females (or the males for that matter) do not sexually service clients for money in order to pay the mortgage? If not, one wonders why the default moralists draw the line there.
So yeah, Doug is right: There’s no bright line around “ability to pay.” Obviously, I wouldn’t sell my kidney (even if it were legal) to keep making my payments; at that point I would have no moral problem in throwing in the towel and saying, “I can’t keep this up.”
Where is the line? I agree with Dave Ramsey that it is wrong to stop making your payments once it becomes inconvenient. When you agree to do something, that should mean something.
I’m with Doug on this one. My mother has the “ability to pay” but it is slowly bankrupting her. Your agreement to pay the mortgage is not open ended. It is a requirement for you to maintain control of the property. That’s it. Nothing more. If you relinquish control, you no longer have to pay. And obviously the bank agrees, since if you don’t pay, they take control of the property.
What remains is your reputation, which you don’t own but you can influence. It’s up to you if the negative repercussions on your reputation (including the faux reputation they call a credit score) are worth the money you are losing.
David, does that apply to everything I’ve told people I would do? Or just purely commercial transactions? I’m not trying to trap you, I’m trying to see if you would say the same thing about any promise.
No sweat Bob. I don’t feel trapped. I’ve had this debate before with good guys and bad guys.
I think French’s position follows from Rothbard’s position on inalienable will. A promise is just a promise. Once the actual private property is returned – the property which secured the promise – then requiring you to carry out the promise against your will is a violation of libertarian principles.
Now, for the morality of it, since that is what you really want to know, right…. Well, I would say that forcing you to continue complying (whether you have the means or not) when you are just as satisfied to return the property and cancel the debt is very immoral. Is it immoral for you to cancel it of your own volition? I don’t know. Honest. I don’t believe it is.
In general, people are respected more for their ability to keep promises, but I think that’s distorted by the fact that wise men only make promises they know they can keep.
I’m sure my answer doesn’t satisfy you, and I’m open to your response.
Isn’t there a difference between a promise to do something and a promise to do your best to do something?
Mam,
I think the latter is not a promise. If you said, “I promise to feed your dog while you are on vacation” then I expect you to do that. If you say, “I promise to do my best to feed your dog while you are on vacation” my reply would be that I better find someone else.
Back to Bob’s question, however, would it be immoral for me to break the promise to feed your dog? I think so, but I’m not an expert on morality.
It does mean something, and you’ll give that something up (forfeit that asset) when you default.
Fraud is only criminal according to statist law. I argue, as I always have, that fraud is not objectively immoral.
Feel free to defraud those who regularly dupe us for a living.
Mattheus von Guttenberg wrote:
I argue, as I always have, that fraud is not objectively immoral.
Do you mean because nothing is “objectively” immoral? Or are you saying you really don’t see what the big deal with fraud is?
If the latter, should I email the Institute and tell them to watch the heck out?
I would argue that, assuming the mortgage contract has a clause that outlines what happens in the case of default, it’s hardly being dishonourable to invoke it. That’s why it’s there. It is assumed that some percentage will default and the interest rates are (theoretically) calculated to manage that monetary risk. It’s not your problem that their calculations were waaaaay off and many more than they thought defaulted.
Of course, you would already know about monetary risk management via interest rates.
On your down side, the bank gets to keep all the payments you made to date as well as their property and they have a chance to sell their property again. And as Todd mentioned, you suffer a reputational loss. and would probably have to rent for awhile until the credit rating built back up or other market changes made it practical to try again.
Imagine what woud happen if the tables were turned and the bank had built an office it was paying on and the property was no longer profitable. They’d default in a short minute or at least make threatening noises to try to trigger a renegotiation.
Hit submit too soon…
…It’s a business transaction. It’s hardly a problem to act according to the expected standards of the business environment. I would argue that a lot of the mythology of home buying in the US is an attempt to get home buyers to forget that.
Great post John. I don’t understand how a contract with specific clauses for default morphs into a moral obligation or “promise” when one party contemplates whether or not exercise said option.
” When you agree to do something, that should mean something”
Amen. This is an informal norm of social conduct that was traditionally enforced in English and Western European society by the threat of stigma if one failed to live up to the terms of a deal (even if it is with the Devil). This type of informal norm is one in a broad list of informal rules of the game that make capitalism in a society even possible.
When Rothbardians like Doug French call for the overthrow of these norms, they are calling for revolution and overthrow of the traditional order civilization. It is an incredibly subversive idea, and subversive in the way of the French revolutionaries. It is very anti-Burkean/Hayekian. It is also anti-Christian, and you are to be commended Bob for your parting of the ways with these guys.
Why is giving the house back not living up to the terms of the deal. In the terms of the deal if you don’t pay you give the house back. The contract can be filled one of two ways, you either pay off the house or give it back.
I don’t see how walking away is not living up to your promise. You promised to pay or give the house back. So giving the house back doesn’t break the promise.
Exactly. You not only promised to pay, but you also bought an option to walk away.
On the other hand if you don’t walk away, you subsidize banks for making bad decisions. Next time around – if you walk away – they might actually carefully appraise their collateral, instead of just blindly handing you the money.
It’s not just the borrower who borrows, it’s also the lender who lends who bears responsibility.
Compromise solution: Call your bank, tell them that this is your right, and that you’d like to sell the option back to them for the difference (+ something).
“When Rothbardians like Doug French call for the overthrow of these norms, they are calling for revolution and overthrow of the traditional order civilization.”
I think that’s a reach. I’ve seen Christians break promises, and to use a Tom Woods-ism, “the Earth did not break free of its axis.”
People make and break promises all the time, and not just in the commercial world. Most are simply guilty of biting off more than they can chew. Promises can be given out rather cheaply. I can promise the moon to just about anyone, and many people do. There is some responsibility on the part of the duped to critically assess these promises. And most people do, which points back to the fact that we are all still here despite trillions of broken promises.
Being a promise breaker isn’t a badge of honor, but you do serve as a nice reminder to others to favor self reliance over the audacity of hope.
Suppose there was some paragraph in the contract allowing the bank to take the house back and sell it to someone else if a buyer came along willing to pay above some threshold value. Admittedly, a stupid thing to have in a contract, but just on hypothetical, presumably you got the loan cheaper because of that potential risk.
OK, would the bank hesitate to invoke such a clause if there was more profit to be made by doing that?
Would the bank hesitate to invoke any other clause of the contract if they saw fit to do so for their own gain?
Of course, the whole reason that we have contracts is to create a formal process to decide exactly what was promised by either party. We don’t need to struggle with drawing a bright line around “ability to pay” because the legal system serves that exact purpose. You may feel the need to offer a little bit more than your strictly minimum legal obligation, and generally I work on the basis of offering someone a bit of “goodwill” bonus my dealings wherever possible… but that’s the optional bit and it kind of depends on the gut feel of the situation.
In effect you are tipping the waiter, if your gut feel tells you the service was pretty good then you tip generously, if you thought the service sucked then you get mean in return. Anyone who wants to offer a bit of goodwill generosity to their bank, that’s entirely their choice.
Tel wrote: In effect you are tipping the waiter, if your gut feel tells you the service was pretty good then you tip generously, if you thought the service sucked then you get mean in return.
It’s funny you picked that example, Tel, because I was going to bring it up myself. It seems that the pro-default arguments on this thread would also tell me I’m a sucker for tipping people. I mean, I never signed up for that anywhere. Obviously if I’m going back to a certain restaurant, it’s strategic for me to be a good tipper. But if I’m on a road trip and stop at a busy place off the interstate? Why should I tip? The waiters and waitresses should have taken into account the fact that people like me would stiff them, even if the service is exceptional. Who cares if it’s exceptional? Run the numbers–I do strictly better by not tipping in such a situation, but walking away.
Right? I realize for some this isn’t a reductio ad absurdum–I know some people who really do feel this way about tipping. But I’m guessing some of you don’t, and would feel funny if you did it.
You should tip because, if the output your decision process were not to tip, you would not be in the position (e.g. of having received this level of service) of being able to decide to tip.
Generally, you should take the action such that, conditioning on you and similar beings yielding that decision, gives you the best expected result. You should keepnpromises, for example, because if you did not regard that as optimal, you would not be in the position of benefiting from promises.
See my article and the blog post it links.
Back to vacation…
You’ve run straight into the contradiction between fiat law and natural law. Doug says fiat law has us in its clutches, it punishes you in other ways, so might as well take what it does give.
My father in law is old-school West Virginia, son of a small-town Constable. He had a $70k surgery, he sold everything he had, didn’t even try to talk it down or get a lawyer or any of that — just paid it. Now he’s got nothing and this proud man lives on our charity.
Way I see it, the reason it was $70k in the first place was illicit corporatist bargains. Insofar as this constitutes initiation of force, you could argue he should have breached in self-defense.
Funny. This post just made me realize that the “it’s-okay-everybody-is-doing-it” thinking got a lot of people into their housing mess, and its getting them out of it too.
Why does one even have an obligation to repay a funny money loan? I’m serious.
Or maybe one can feel better about discharging a funny money bank loan in bankruptcy than if one had borrowed the entirety of a middle class person’s real savings. I think there should far less shame in discharging the former vs. the latter.
I understand how things can get complicated if the bank immediately sells its funny money loan and receives real money from the purchaser of the loan.
Average people still do not understand that banks can create money out of thin air or that this is the sole cause of inflation. That should be the primary goal of Ron Paul’s campaign. No more of this inflation as a mysterious force of nature crap. I think we’d be 80% on the road to killing this fiat system if average people could just grasp the cause of inflation.
A loan is not necessarily inflationary, nor is bank lending the sole cause of inflation.
Average people don’t give a damn about low inflation. You are one the few average people obsessed by it.
And the fiat system will outlive you.
That’s right. Because a banker uses a 800 year old practice of double entry bookkeeping to mark it as a liability, all is well. No new money created, even though it was…… Thank goodness the MMT crowd came along and opened our eyes to the power of double entry bookkeeping. We were obviously lost in the wilderness without them!
More eye openers for you:
Credit is much older than banks. Actually credit isas old as money since money is credit.
And don’t forget banks destroy money all the time. They’ve been destroying more than they’ve been creating lately.
You are welcome.
Yeah, a real eye opener. Do you even know why double entry bookkeeping became common practice?
What is funny about money or mortgages?
Pope walks into a community bank…
Bob:
If the payments are unchanged, your income is unchanged (you had
an ordinary fixed rate loan or else whatever floating rate they used is
no higher or lower,) and you don’t have any reason to move out of the
area, I think you should pay even if the house is currently worth
less than the loan.
If things happen that would ordinary require that you sell the house, like
unemployment or business losses, moving to another area, or the like,
then I think these are mitigating factors. For example, selling the house
using the proceeds to pay down the loan, and then continuing to make payments
on the house and then pay rent or whatever, in your new location is a bit
much to ask.
If the payments increase, it is a bit more complicated, but the way I see it is
that in such situations you and the lender were jointly speculating that the house
would rise in value or that interest rates would remain low.
Generally, regulations in the U.S. mortgage market are set to benefit home
buyers. That includes, especially the requirement that you can legally
walk away. Of course, you are paying more each month so that you can
do that. But then, you pay less each month because most people don’t treat
their homes as a speculative investment.
Bill wrote:
For example, selling the house
using the proceeds to pay down the loan, and then continuing to make payments
on the house and then pay rent or whatever, in your new location is a bit
much to ask.
What’s funny Bill is that I’ve tried that. Dealing with Fannie/Freddie is a nightmare. So I talked to some local lenders, real “small community bank where you’re not a number” type people. I explained that for various reasons, it didn’t make sense for me to stay in the house. I offered to sign a personal note for the difference, paying several hundred dollars per month for a long long time. But they wouldn’t give me the loan. (And I can understand why–I don’t have other collateral to put up, since I’d be selling the house.)
My parents offered to co-sign on the note, but their assets right now are in a 401(k) that the bank is not legally allowed to use as collateral, and their own house come in low on appraisal so they can’t get a HEL to lend to me (to cover my gap).
So it is a really awkward situation, largely the result of dumb bureaucracy. I wouldn’t judge somebody else for walking away, but I still feel like as long as I’m still able to make my standard bill payments, I am stuck.
Folks,
I think many of you failed to carefully read what I wrote, or else failed to feel its force. I said repayment of debt in western civilization is an “informal norm”. It has traditionally been enforced by social stigma.
When my neighbor down the street walks away, the neighborhood stigmatizes his action as undesireable. Obviously, if there are extenuating circumstances due to say health or loss of a job, and he has mouths to feed, the society takes that into consideration when forming a judgement about his character. But, if he simply walks away to keep from losing money, he was viewed as a person who has acted in bad faith. Others might think twice about doing business with such a fellow.
Any sort of self-collateralized debt instrument has an implicit assumption that the borrower repay with interest at the repayment schedule agreed to at the time the loan is signed. Obviously, the lender takes a risk in lending this money, and charges interest at a rate high enough to offsett the loss of purchasing power of the money they lent due to inflation, but also as partial insurance against default.
If the costs for “walking away” from the debt obligation to repay debt have gone way down, then the cost of credit will go way up. If “walking away” becomes the new social norm, please consider what effect this has on the cost of credit. Banks do not want an inventory of homes. They are in the business of making loans, not mowing lawns. If “walking away” becomes the new norm for individuals all across the society, then think about the implications of this to the economy of that society.
At the end of the day, business is not done by the letter of the law, but by the spirit of good faith. If there is no more good faith between borrowers and lenders, then the market for credit reflects this in the price of credit.
Sralla,
“Good faith” does not exist in the common law in the way that you use it. This has to do with the character of the common law: parties to a contract do not owe each other a duty beyond the law and the contract. The system is adversarial.
This is one of the reasons why (English) common law is so attractive to the people doing business. This:
“Others might think twice about doing business with such a fellow.”
therefore runs pretty much counter to the character of the common law and the character of business under the common law.
Why would businessmen not elect to do business with someone who acts in accordance to the system they often elect to do business under? It’s nothing personal, it’s just good business to walk away when you are allowed to do so.
Please consider what cost easy credit imposes on the rest of the economy and community before advocating that credit should be cheap.
“If there is no more good faith between borrowers and lenders, then the market for credit reflects this in the price of credit.”
And how is this a bad thing?
The beauty of capitalism is that the price system is quantifies the “social value” of a good or service. That way individuals can make accurate decisions about whether that good or service is more/less valuable to them than it is to society as a whole. If it is, a transaction takes place. That’s the very mechanism that insures goods are allocated efficiently.
In particular, the quantity of “good faith” throughout society is SUPPOSED TO BE ACCOUNTED FOR by the interest rate (that’s not all the interest rate quantifies, but a major part). That way, those who can show they’re more trustworthy than the aggregate will be rewarded with a lower interest rate and vise versa. If your claim is that interest rates would rise minus social norms regarding “good faith”, that only means that the interest rate is currently TOO LOW (ie, doesn’t accurately represent supply and demand) and should be higher. Otherwise we’re depending on social norms to allocate resources, which as we learned in the middle ages, are too vague to be efficient or accurate.
Generally, people should do whatever is in their best interest concerning their mortgages. As should banks. The interest rate will manage the “morality” of it all. If you don’t think the interest rate is capable of that, then you don’t believe in the Invisible Hand, and you should probably abandon capitalism altogether.
I view this as a business decision not making/breaking a promise. The lender lent you money as a business decision not because he thought you were a nice, trustworthy guy. It’s just business, if the shoe was on the other foot, the bank would always act in their best interest first, as opposed to acting in a -EV way simply because they felt a moral obligation. I’d walk away with no hesitation.
This might seem a bit unrelated at first, but I think that the saying “The Sabath was made for man, not man for the Sabbath” applies here.
You have to ask yourself, is this ‘sacred covenant’ serving the purpose for which it was intended, or has it become twisted and empty, such that keeping it has become an impediment to a great good or an infliction of a great evil?
I understand the notion of keeping promises and all that, but I also think that there is a danger here in turning oneself into a self-righteous ogre through a hewing to rules that don’t really reflect goodness or decency anymore out of a sense of maintaining one’s pride. Is one keeping a promise as a matter of fulfilling something holy and good, or is it a matter of preserving some notion of one’s own inviolability of ‘honor,’ such that he can look down his nose at others and say, “See! I’m better than those people, those covenant breakers! My character is inviolate and unchanging, like the North Star!”
Sometimes I think that a blow against my own honor and reputation is preferable to the alternative — like hurting or depriving someone else. I know that a lack of consistency is an annoying characteristic to confront in a debating opponent, but I do not give so much thought to my own consistency as I once did. I would rather suffer an insult to my own character or be wrong on a small point than allow a matter of my own consistency to prevent me from doing what I see to be the right thing in a situation. Most of the time, it’s not all about me.
One of the big reasons Jesus came, after all, was because of this. He basically said, “See? God gave you the Word and all the rules you needed, and you’ve had a thousand years and totally made a hash of it. The rules can’t hack it. You can’t hack, so I’m here to hack it for you. Hewing to rules wasn’t the point — that was the thousand year lesson. Look at the Pharisees, the best you have in terms of hewing to rules, and by doing so they have made themselves spiritually vile.”
Rules might work for perfect people, but we are not. Keeping a promise is generally better than not keeping it, but I wouldn’t allow petty considerations of consistency and self-righteousness to turn you into an awful person.
For those who don’t buy what I said above, think about what happens to money when nobody believes it is money any longer.
Now think about what happens to IOU’s when nobody any longer believes they are worth the paper they are printed on.
Let’s turn this around and consider what happens in a government bond market when bond holders come to the realization that governments no longer intend to pay them back at the terms agreed upon at the time of the transaction. This is true in spades for personal debt instruments.
You see, the theory of money and credit is built not only around supply and demand of the paper, but also ultimately around belief and trust.
For those who don’t buy what I said above, think about what happens to money when nobody believes it is money any longer.
Now think about what happens to IOU’s when nobody any longer believes they are worth the paper they are printed on.
Let’s turn this around and consider what happens in a government bond market when bond holders come to the realization that governments no longer intend to pay them back at the terms agreed upon at the time of the transaction. This is true in spades for personal debt instruments.
You see, the theory of money and credit is built not only around supply and demand of the paper, but also ultimately around belief and trust.
Agree completely, and trust is a two-way street. Both sides of the deal need to trust one another. When you sign a legal contract you are trusting the courts and the enforcement system to interpret that contract fairly and act reasonably.
That’s why the very concept that government can give out easy credit by policy is such an absolute nonsense. Government control of credit availability implies that government can declare how much people should trust one another. Obviously impossible!
Why wouldn’t the IOU’s be worth the paper they’re printed on? Do they not give title to a good? They’re not worthless, they’re worth less.
Not all credit is money. Money is informationally-insensitive, credit is not.
Robert [Fellner-ed.],
I will not be loaning you money, since the rate of interest that must be charged to make me feel confident about my ability to come out on the deal would be very very high. I’m not sure if the rate would approach infinity, but it would very likely be higher than you would be willing to pay.
You must understand that due to your own admission, I have lost all confidence in your willingness to keep your promise to repay when the going gets tough.
Thanks for being so candid.
.
K Sralla, I’ve put in “[Fellner]–ed” to make sure people realize you are talking to him. If you aren’t, then let me know and I’ll change it.
K Sralla,
Thankfully I do my banking at banks and not through random people on the internet. A mortgage agreement is pretty straightforward. If you fail to make your payments the bank keeps the house. Banks don’t make mortgage loans because they are counting on the willingness of people to continue paying off loans even when it is financially irresponsible for them to do so. Collateral exists for a reason.
The notion that banks base whether or not to extend a loan on “your willingness to keep your promise” is too juvenile and detached from reality to be taken seriously.
Bob, obviously I haven’t read your mortgage agreement. But, on the face of it, you seem to me to be treating the agreement as a simple promise to pay, no matter what. However, I suspect that the actual agreement you signed is a promise either to pay or to forfeit, a promise to pay or to accept the contractually specified consequences of not paying. Any time we make promises, we do so in a context. The reason we include all of the extra stuff in the traditional Book-of-Common-Prayer promises to marry (“for richer and for poorer, in sickness and in health,” etc., etc.) is that we’re excluding just the sorts of qualifiers that might ordinarily be assumed to be part of the context of our promises–we assume that, even promises that aren’t overtly qualified, there are implicit qualifications (say, “I can reasonably break this promise in this way if I would be willing that someone else break the same promise, had it been made to rather than by me, in relevantly similar circumstances”–though nothing I’m saying here rides on the justifiability of exactly this formulation). In many promises, though, there are not only implicit but explicit qualifications, and I think a pay-or-forfeit mortgage contract is reasonably construed as one (even if the focus is on it as a promise rather than as a legally enforceable contract–I think there’s no question that Doug is right about it in the latter sense on Rothbardian grounds). If it is construed this way, and you accept the legitimacy of forfeiture under the contract as reasonably interpreted, you’re not breaking your promise but living up to it.
I think the really interesting question about Doug’s piece is why he thinks it makes sense to move so quickly from what’s legally enforceable–what it’s just for others to use force to *make* me do–and what it’s reasonable for *me* to choose to do. But that’s another, and longer, post.
I have to question your guys’ premise here. Is it really true that a corporation defaults on its bonds whenever the continued payment isn’t “subgame perfect” or however you want to phrase it?
I think you will say that no, they don’t because they’re taking into account their credit rating and their ability to issue bonds in the future. But you are saying that if I’m OK with wrecking my credit, then I should not feel any additional moral hesitancy.
The reason I recoil from your arguments is that I could apply them to, say, shoplifting. After all, the price of the merchandise is set, such that the entrepreneur still comes out ahead. If he ends up losing money, well shucks he is a bad forecaster right? etc.
*It depends on the details of the contract. All you have promised to do is to carry out your end of the contractual obligations. There can be more than one final outcome state that is within the bounds of the contract.* Bonds are different contracts than mortgages.
The particular type of contract in question, a home mortgage, typically has a default clause. Invoking a freely agreed to clause insn’t a moral failing…taking some other way out (insurance arson, trashing the house, not letting the bank take possession of the house after the default, etc.) would be. It is true there is a general expectation that you intended to fulfil the contract via paying it off, but if your income had cut in half no one would be surprised if you took one of the other options. The current situation can be viewed as another kind of “event beyond your control”.
From another perspective, why are you trying to protect the bank from the discipline of the market? Commercial real estate often has very different default clauses and higher interest rates, reflecting the more volatile environment. The basic terms of a standard home mortgage are insane to offer for anything but an actual home-intended-to-live-in rather than an investment property. I suspect that the standard contract for residential investment property may change in the aftermath of the current situation, unless the govt. has stuck it’s oar in there as well.
I’m not completely sure what I would do in your case. The house I’m in right now has the chief virtue that it is paid for. I probably would attempt to do roughly the same as what Bill Woolsey recommends, I don’t need to move much, most of my work is via the Internet.
“your willingness to keep your promise” is too juvenile and detached from reality to be taken seriously”
Really. With complete honesty, I tell you that I learned this lesson from my local banker.
A number of years ago I got into a bad scrape for cash. My local town bank president apparently knew that my reputation was good. I went into his office with my hat in hand, and asked for 30 K to get me through some personal obligations. He scribbled some notes, and told me to go to the next office. In about 5 minutes, I had 30K in my account. It was a signiture loan, and I put up no collateral. The interest rate was reasonable.
In about a week I recieved in the mail a payment book. Every month and on time, I sent in a payment until the loan was paid off.
A number of years later and in better financial times for me, I ran into my banker friend and asked him why he made me that loan. He told me because he trusted me based on my reputation in town as being an honest professional person. Apparently the president of the company I worked for played golf with him and said some good things about me. I confided in my banker friend that had he known how broke I really was, he never would have given me that loan.
Even though I now live in another state and enjoy considerably more financial strength than back then, I still have money in that man’s bank even though he has since passed away.
At one time in the United States, these types of no collateral loans were quite common. They were based on a handshake and trust. Now, they are just about extinct. I’m not even sure bank regulators allow them anymore. Why?
If my explanation sounds juvenile, I would humbly request that you reconsider your argument.
K Sralla,
I have an extremely similar personal story as you do. My reputation and word are highly prized commodities as well. I think you will recognize there is a significant difference between a no collateral loan based on nothing more than a handshake and trust, than a mortgage. I was only commenting in regards to a mortgage, which in addition to being a collateral based loan has all the other characteristics Doug French points out in the article in question, to make it totally separate and different from the handshake loan example you reference above.
Upon further consideration, I must say that it seems odd that so many hard core libertarians think it is fraud when a government defaults on its obligation to re-pay debt through the use of the printing press, yet on the other hand it is OK when individuals default on their own paper obligations.
But I guess that it is just unfair to compare public and private debt. Of course they are not the same thing.
K Sralla,
I suppose the difference here is that the person defaulting is returning the property, whereas the government tries to keep its loot whether they default or not.
The “default” in your example is not the contested issue in any libertarian theory that I am aware of. In fact, Rothbard saw no moral problem with default because it is impossible to hold anybody to a promise that they cannot or will not honor without the use of unjust force.
Joseph,
When you invoke the word “unjust” you have just invoked a moral argument. So indeed, whether or not he couched it in those terms, Rothbard did wrestle with the moral problem of default. He simply chose to move the force of the moral burden to the lender instead of the borrower. In other words, his moral position might have been that it is neutral for a borrower to default, but wrong for a lender to collect by “unjust force” (whatever that means). This is a normative argument based on Rothbardian moral philosophy, yet it is not the traditional western rules of the game that evolved without any explicit philosophy (except perhaps tacit Judeo-Christian ethics). (note: I am surmising the Rothbard position on personal default, and have not studied it closely)
My view is that intentional default on a debt obligation, possibly short some highly extenuating circumstances, is fraud. To begin accepting it as a “normal process” of business opens up a disturbing moral hazard.
Nobody here has yet mentioned bankruptcy protection. If someone is not under an order from a bankruptcy court, they should pay all their debt obligations as agreed upon. If an individual requires legal protection from creditors, bankruptcy is the least dishonorable and orderly process. If someone is functionally bankrupt and defaults in order to put food on the table, that is a very different situation than Warren Buffet intentionally defaulting on debt obligations to simply cut some of his losses in that portion of his portfolio.
But my understanding is that we are mainly discussing “optional default”, short of a bankruptcy situation.
My instinct is that Rothbard isn’t doing ethics, he’s doing political theory. He thinks it would be unjust to use force to compel compliance with some agreements. I think he’d be the first to acknowledge that this is a very different question from whether the agreements themselves are morally binding. Rothbard is at some pains in The Ethics of Liberty to distinguish between the ethics of the use of force, which which he’s concerned in the book, and ethics in general. He certainly recognizes that it may be morally wrong for to do something which it would also be morally wrong fro someone else to use force to keep me from doing. So I’m not convinced that he’d say default was “neutral”; he’s just not concerned with that question when he’s doing political theory.
Whether default is morally permissible in Bob’s case (rather than whether it should be permissible for someone else to use force to keep him from defaulting or to sanction him if he defaults) is another matter. Again, I think this depends on the nature of the promises he’s actually made. Given that those promises amount, I suspect, to “I agree to pay or to forfeit,” I don’t think he’s got any promissory obligation not to default. But that’s a factual inquiry that turns on the actual terms of his mortgage agreement, and quite possibly on various surrounding circumstances.
Joseph,
When you invoke the word “unjust” you have just invoked a moral argument. So indeed, whether or not he couched it in those terms, Rothbard did wrestle with the moral problem of default. He simply chose to move the force of the moral burden to the lender instead of the borrower. In other words, his moral position might have been that it is neutral for a borrower to default, but wrong for a lender to collect by “unjust force” (whatever that means). This is a normative argument based on Rothbardian moral philosophy, yet it is not the traditional western rules of the game that evolved without any explicit philosophy (except perhaps tacit Judeo-Christian ethics). (note: I am surmising the Rothbard position on personal default, and have not studied it closely)
My view is that intentional default on a debt obligation, possibly short some highly extenuating circumstances, is fraud. To begin accepting it as a “normal process” of business opens up a disturbing moral hazard.
Nobody here has yet mentioned bankruptcy protection. If someone is not under an order from a bankruptcy court, they should pay all their debt obligations as agreed upon. If an individual requires legal protection from creditors, bankruptcy is the least dishonorable and orderly process. If someone is functionally bankrupt and defaults in order to put food on the table, that is a very different situation than Warren Buffet intentionally defaulting on debt obligations to simply cut some of his losses in that portion of his portfolio.
But my understanding is that we are mainly discussing “optional default”, short of a bankruptcy situation.
I am not seeing what the above has to do with my response to you regarding your statement that, “I must say that it seems odd that so many hard core libertarians think it is fraud when a government defaults on its obligation to re-pay debt through the use of the printing press, yet on the other hand it is OK when individuals default on their own paper obligations”.
Instead, you are now arguing over the matter of qualifiers. Certainly, killing 5 people is worse than killing 1, but that does not negate the fact that murder is the use of unjust force no matter to what degree it is carried out or how many qualifiers you add to it. However, what you are trying to argue is that default is wrong in some cases, but ok in others. No, default is an option that can be exercised in accordance with the contract at any time and under any circumstance that the borrower so chooses. Why the default happens is entirely irrelevant.
Further, you are acting as if default is a pain-free method of casting off a liability. This is obviously wrong. Anybody that defaults will weigh exercising the option of default vs. the consequences of such action. No matter what the reason for default (any default), the decision to engage in such action all comes down to a cost-benefit analysis- plain and simple. It doesn’t matter what, when, where, why; it all comes down to whether the benefits exceed the costs. Your picking and choosing what qualifies a default as valid/invalid entirely ignores this fact.
Oh, by the way, all defaults are ultimately intentional on the part of one of the parties to the contract. Otherwise, they simply wouldn’t happen. I have never heard anybody say, “Gosh, I just defaulted. How did that happen?” No, one party or the other decides (intentionally) to exercise the default clause.
Your focusing on intentional vs unintentional default is entirely meaningless to weather a fraud was committed. The only way that fraud could be invoked is if the borrower already “intended” on defaulting prior to signing the contract. I don’t see this as being a commonality with regard to default.
Didn’t Dave Ramsey declare bankruptcy? I guess it wasn’t inconvenient for him to stiff his creditors “legally.”
Default and bankruptcy are entirely different things and the law reflects as much. Either way, we are discussing a nonrecourse loan (i.e. a mortgage in a negative equity situation). In the United States, it is entirely legal to default on a mortgage and return the collateral.
I should mention that state law is a factor.
And, of course, what kind of loan it was, and the stipulations of default.
I don’t know the details of his personal life, but in fairness, I think Ramsey talks about that in one of his books. I.e. it’s not something an investigative reporter dug up. Also, he tells people all the time to stop making payments on certain credit cards etc., then when the company is ready to negotiate, how to get it in writing, not to give them access to your bank account, etc. His point isn’t that you should go to your grave, working off debts. Rather, he is against strategic default; he thinks it’s immoral. Since Wikipedia says Ramsey owed millions to banks and the IRS after the 1986 flattening of the tax code flattened his real estate business, I don’t think he is necessarily being a hypocrite.
Joseph,
My response was in regard to your statement: “Rothbard saw no moral problem with default because it is impossible to hold anybody to a promise that they cannot or will not honor without the use of unjust force.” I am suggesting he in fact did see a moral problem with default, and solved it by shifting the moral burden to the lender (again, I am taking your word on his position, and have not studied it carefully).
As far as the unintentional vs intentional issue, I think I see your point. However, what I am suggesting is that motivation matters when it comes to ethics. If someone forgets to make a payment and is in technical default, that is different ethically than intentionally deciding to stiff your creditor. These two actions are not equal quantities under informal norms of societal ethics, though the results may be the same.
Ok, I see. The only reason that I even mentioned morals was because I was under the impression that Bob’s hesitancy was due to a moral hangup.
I think I can understand the shifting burden argument, and yes you are relying on my interpretation (which was lackluster). After going back and rereading my statement I can understand the disconnect. After all, you can’t know what I was thinking when I wrote it. So, I should probably elaborate a bit.
Rothbard’s contract theory ultimately comes down to property. For instance, if you enter into contract to be somebody’s slave, can that contract be enforced by just means? No, because one cannot own another’s will, thus the force of the contract is void due to the inability to exchange property (i.e. that man’s will). The same is true if I were to enter into contract with you stating that I will massage your feet every saturday for a year. If after 2 weeks I find that your feet stink and I decide I don’t want to massage your feet anymore, is the contract enforceable? Obviously not, there is no property exchanged.
Now, let’s throw property into the mix. If I enter into contract with you to borrow $100 and pay you back in a year, but I decide that I don’t want to pay you, is the contract enforceable? Of course it is. In fact, my failure to pay is pure theft. So, it is the theft of property that is the crime (or, immoral act), not the default itself.
Now, let us look at a collateralized loan. If I borrow $100,000 to buy property, but I collateralize the loan with the property in question, is the contract enforceable if I default? That depends upon whether I give the property back or not. If I give the property back, then I have fulfilled the contract. If I don’t, then I am guilty of theft.
So, I don’t think that Rothbard shifted any moral burden, rather he places the emphasis on rights derived from property. Though Rothbard didn’t have a moral problem with default per se (his problem was with theft), he did say, “It may be considered more moral to keep promises than to break them, but the condition of the free market is that each individual’s rights of person and property be maintained, and not that some further standard of morals be coercively imposed on all. Any coercive enforcement of such a moral code, going beyond the abolition of invasive acts, would in itself constitute an invasion of individual rights of person and property and be an interference in the free market.”
Of course, in the real world, there are clauses, prices, laws, wear and tear, etc, but the above is the Rothbardian stance.
As for Bob’s situation, I don’t see what his moral hangup is. He isn’t stealing anything, he is just realizing that he is going to end up screwing himself if he tries to keep the promise. That is like the “slave” grueling it out week after week, month after month, year after year, just because he promised to be a slave. Why would anybody want to do that? What kind of morality would say that one should punish themselves in order to be in good moral standing? Bob also happens to live in a non-recourse state, so as long as he returns the property his contract is fulfilled under the conditions of default. Sure, his credit will be screwed, but that can be fixed with time. What cannot be fixed is the opportunities foregone by throwing money into a black hole.