Money to Burn: Economic Incentives and the Incidence of Arson

By Goebel, Paul R.; Harrison, David M. | Journal of Housing Research, January 1, 2012 | Go to article overview
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Money to Burn: Economic Incentives and the Incidence of Arson


Goebel, Paul R., Harrison, David M., Journal of Housing Research


Abstract

This paper examines whether, and to what extent, the incidence of single family residential arson may be explained by vectors of economic, demographic, crime deterrent, and jurisdiction specific variables. While previous research has reported mixed results as to the existence and strength of these relationships, the study results indicate that per capita arson rates are significantly related to the economic growth and vitality of a metropolitan region. Specifically, using arson incidence data obtained from the Federal Bureau of Investigation (FBI), the results provide robust evidence that arson rates are positively related to both an area's unemployment rate and foreclosure rate, while negatively related to both regional housing appreciation rates and income levels.

(ProQuest: ... denotes formula omitted.)

Incentives matter. This fundamental rule of economic theory has been employed countless times to explain myriad observable financial and economic phenomena and has even been used to bridge the fields of criminology and finance. But are some acts so egregious as to be immune from the profit-motivated incentives to perpetrate them? As the United States continues to endure a nationwide housing slump, the mortgage marketplace offers a natural setting in which to broaden our understanding of both human behavior and the nature (and potential limitations) of economic choice modeling.

Why should mortgage market outcomes be related to criminological incentives? Consider a standard model of mortgage termination behavior. At origination, the mortgagor takes out a collateralized loan on a piece of real property in exchange for the promise to make periodic payments to the mortgagee for a specified time period. Typically, these loans also contain embedded prepayment and default options that are valuable to the borrower and have been shown to significantly influence mortgage termination behavior.1 Now suppose after X periods, the above borrower finds they are in a negative equity situation (e.g., their house value declined) and are confronted with a triggering event necessitating the termination of the existing mortgage contract (e.g., a job transfer or loss, divorce, ballooning subprime adjustable mortgage payments, etc.). Standard termination models would predict this borrower would likely exercise the prepayment option if the value of the home, net of transactions costs/selling expenses, exceeds the unpaid balance on the mortgage; or would default if the (now lower in this example) home's net value was insufficient to cover the outstanding mortgage obligation.2 Interestingly, however, such models do not typically account for the (potentially perverse) incentives introduced into the mortgage contract by hazard insurance. Frequently, such insurance contracts are written to reimburse homeowners for either the replacement cost value of the structure, or at a minimum the outstanding loan balance (net of the estimated site /land value) of the mortgage. Under either of these scenarios, borrowers facing default would be (financially) better off incurring a hazard, such as a (potentially intentionally set) fire, and thereby effectively selling the property to the insurance company for an amount equivalent to the outstanding loan balance (or more). Thus, the hazard may well both eliminate the borrower's existing negative equity position in the property, and also avoid damaging the borrower's credit rating as default is avoided. Anecdotal evidence in the popular media suggests these incentives may well have already influenced borrower behavior (e.g., Zucco, 2007; Lewis, 2008; Rushe, 2008; or Leamy and Weber, 2009). The purpose of the current investigation is to test whether, and if so, to what extent, the incidence of arson may be explained by economic incentives within the housing and mortgage markets.

The remainder of this paper is organized as follows. Section two further delineates potential linkages between the incidence of arson and economic conditions.

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Money to Burn: Economic Incentives and the Incidence of Arson
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