AN EMPIRICAL-ANALYSIS OF PROPERTY APPRAISAL AND MORTGAGE REDLINING

The recent literature advances a hypothesis that addresses the possibi lity of mortgage redlining caused by a dynamic information externality in property appraisals and mortgage lending. In particular, Lang and Nakamura (1993) hypothesize that because property appraisals depend on past transactions, appraisals in neighborhoods where transactions wer e infrequent tend to be less precise. The greater uncertainty about ho use valuation in such neighborhoods can lead mortgage lenders to impos e stringent requirements on borrowers. Lang and Nakamura's article, li ke most economic analysis of property appraisals, is theoretical. Usin g a sample of mortgages purchased by Fannie Mae, we present preliminar y research results that cast doubt on appraisal behavioral rules such as weighted averages or backward-looking expectations on which Lang an d Nakamura and other theoretical studies are based. Instead, our resul ts refocus attention on the moral hazard issues of appraisal. We find that in more than 80 percent of the cases, the appraisal is between 0 and 5 percent above the transaction purchase price, in only 5 percent of the cases is the appraisal lower, and in 30 percent of the cases, t he appraisal and transaction prices are identical. It would take a str ong statistical model to generate such occurrences. Our resutls also i ndicate that appraisal outcomes are used as a risk factor with differe nt weights for loans with different characteristics (loan-to-value rat ios and house prices). The results suggest that more empirical investi gation of appraisal practices be conducted to verify the validity of c onventional wisdom embedded in theoretical studies, and we offer an ec onometric framework toward this end.