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Underwater Homeowners Will Work for Less Pay: Cutting Research

Underwater Homeowners Will Work for Less Pay
People in that situation tend to value employment more than those with significant housing wealth do, because without a job they would default on their home loan. Photographer: David Paul Morris/Bloomberg

People who are underwater on their home mortgages probably will accept “significantly” lower wages than other homeowners, according to a study published this month by the Federal Reserve Bank of Atlanta.

The recent U.S. housing bust left many homeowners with mortgage debt larger than the equity value of their homes, say Fed Bank of Atlanta economist Chris Cunningham and Robert R. Reed of the University of Alabama.

They cite data showing that 31.4 percent of U.S. homeowners were underwater in the fourth quarter of 2011. People in that situation tend to value employment more than those with significant housing wealth do, because without a job they would default on their home loan, Cunningham and Reed said. They thus are willing to accept lower wages than their counterparts.

Their study found that being underwater is associated with a wage decline of between a 5 percent and 9 percent.

The risk is that by agreeing to work for lower wages, underwater workers create a negative feedback loop in which “house price depreciation leads to lower wages, and in turn, lower wages lead to greater housing losses,” they said.

* * *

Just because emerging and developing nations spent a longer period in expansion in the past decade than advanced economies, the first time that has occurred, they shouldn’t rest easy, according to an International Monetary Fund working paper.

Such economies must increase policy buffers if they want to continue to grow when developed nations are in a downturn, Abdul Abiad, John C. Bluedorn, Jaime Guajardo and Petia Topalova of the IMF wrote in the paper, published Dec. 20.

“Should the external environment worsen again, emerging market and developing economies will likely end up ‘recoupling’ with advanced economies, much as they did during the Great Recession,” they said. “To guard against such a scenario, these economies will need to rebuild their buffers, to ensure that they have adequate policy space to respond to shocks.”

A debate over the decoupling of the two blocs was silenced when emerging nations slumped in 2009 along with developed ones during the global financial crisis, they said.

A study of boom-and-bust cycles over the decades showed low inflation, limited public debt and high reserves extend growth periods and tend to hasten recoveries, they said. Inflation targeting and a countercyclical fiscal policy can also “significantly increase” the length of expansions and accelerate economic rebounds, the authors said.

“If improvements in policy frameworks -- including greater exchange rate flexibility and more countercyclical macroeconomic policies -- in many of these economies are maintained, this will also help them better weather potential shocks on the horizon,” they said in the report.

* * *

The U.S. risks undermining its scientific output by imposing visa restrictions that prevent foreign students from studying there, a report in this month’s Economic Journal said.

The study of 700,000 postgraduate students in 2,300 science and engineering departments of top U.S. universities from 1973 to 2004 found each additional student leads to 0.9 extra journal articles per year.

That points to a “key benefit of high-skilled immigration in the U.S, which relies on innovation for growth and helps to explain the vociferous complaints by U.S. academic departments about visa restrictions on foreign graduate students,” said academics Eric T. Stuen of the University of Idaho, Yale University’s Ahmed Mushfiq Mobarak and Keith E. Maskus of the University of Colorado Boulder.

* * *

The Federal Reserve has won a three-decade fight to better anchor inflation expectations, lowering the risk that a short-term shock leads to a sustained rise in prices.

Fed Bank of Dallas research economist J. Scott Davis calculated that on average from 2000 to 2011, a one percentage point surprise in the U.S. inflation rate raised long-term inflation expectations by 0.03 percentage points. That compared to a 0.28 percentage point increase from 1982 to 1989.

“The Fed has been better able to anchor such expectations so that now long-run expectations barely change following a series of dramatic, but ultimately transitory, inflation surprises,” Davis wrote in the Dallas Fed’s latest Economic Letter.

* * *

The U.S. economy’s sluggish response to the Fed’s easy monetary policy may lie in the performance of small businesses.

Small firms typically account for half of private employment and output as well as an even larger share of job creation, according to a Dec. 10 report by Citigroup Inc. economists Nathan Sheets and Robert A. Sockin. Such companies are particularly dominant in real estate and construction, where they account for 75 percent of output.

The trouble is, small companies are under “substantial stress.” Their aggregate share of output, employment and bank lending is trending down, Sheets and Sockin found.

In addition to cyclical impact, small companies may also be suffering because large businesses enjoy better access to global trade and are able to absorb the requirements of the new health-care law, they said. By tending to dominate capital-intensive industries, big companies probably also have benefited from the recent decline in interest rates and are better placed than smaller rivals to secure credit as the banking industry consolidates.

While small firms have accounted for 60 percent of recent job creation, Sheets and Sockin said that reflected entrepreneurism and the rapid growth of young firms rather than the gradual expansion of existing companies. They recommend that policy makers push to encourage entrepreneurship and small-business creation rather than supporting small business per se.

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