Law, Institutions and Economic Development: Examining the Development of the Home Mortgage Market in India - Can Two Wrongs Make a Right?

Abstract

There is a vast literature examining the interactions between law, institutions and economic development, but it only occasionally examines how actual markets in emerging economies have developed and transitioned to relying on legal institutions. This paper addresses that question by examining the puzzling growth of the formal home mortgage market in India from the mid 1990s onwards. Enforcing a mortgage and foreclosing on property in the Indian courts were, until very recently, lengthy affairs with a typical case taking between 15 to 20 years to resolve. These delays, along with other factors, made writing mortgages unattractive for banks and led to a trivial home mortgage market until the mid 1990s. However, from about 1994 to 2003, and before any mortgage law related changes took effect, the home mortgage market in India grew quite impressively. This paper examines what led to this growth and finds that, amongst other things, banks in India relied on “dysfunctions” in the criminal justice system to help overcome dysfunctions in the civil justice system for enforcing mortgages. Quite simply two “wrongs” might make a “right”. In particular, in house departments at banks relied on a provision that criminalized “bounced” checks along with the predictability and regularity of extortion by the police to enhance their ability to obtain payments for mortgages and other kinds of debts (e.g., car loans, student loans). Although this aided the growth of the home mortgage market, it also resulted in substantial negative collateral effects by enhancing corruption and worsening adjudicative delays in India. Indeed, the “bounced” check strategy came to represent one of the largest areas of litigation in India. However, once the mortgage market started growing the banks pushed for law changes around 2003 that facilitated the continued expansion of the market, but reduced the need to rely on the “bounced” check strategy, which was becoming costly for banks. This account of the development of the home mortgage market in India not only tracks the incentives faced by the players and highlights the improvisational aspects of this market’s growth, but also has implications for a number of areas of research. This includes insights on the interactions between law, institutions and economic development, the role of private ordering, and key players like in-house lawyers, in market development, and how sustained change and legal reform might be effectuated in some contexts. These insights in turn facilitate the emergence of a richer and more textured approach for exploring the interactions between law, institutions and economic development.