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“Modelling and Forecasting UK Mortgage Arrears and Possessions.”

JANINE ARON, Department of Economics, Oxford
JOHN MUELLBAUER, Nuffield College, Oxford
July, 2010

Abstract: This paper presents new models for aggregate UK data on mortgage possessions
(foreclosures) and mortgage arrears (payment delinquencies). The innovations include the
treatment of difficult to observe variations in loan quality and shifts in forbearance policy by
lenders, by common latent variables estimated in a system of equations for arrears and
possessions, for quarterly data over 1983-2009. A second innovation is the theory-justified
use of an estimate of the proportion of mortgages in negative equity, based on an average debt
to equity ratio, as one of the key drivers of possessions and arrears. A third is the systematic
treatment of measurement bias in the months in arrears measures. Finally, the paper does not
impose a proportional long-run relationship between possessions and arrears assumed in the
previous UK literature. A range of economic forecast scenarios for forecasts to 2013 reveals
the sensitivity of mortgage possessions and arrears to different economic conditions,
highlighting potential risks faced by the UK and its mortgage lenders. A comprehensive
review of data on arrears and possessions completes the paper.

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