At Vox, economists Atif Mian, Amir Sufi, and Francesco Trebbi make the case that foreclosures "had a significant negative effect on house prices, residential investment, durable consumption – and consequently the real economy."  It is not a new argument, but in going through state data, the authors present a clearer road map for the impact of foreclosures on housing prices, durable consumption, and the economy at large.

In recent research (Mian et al. 2011), we examine this idea in the context of the recent rise in foreclosures in the US. We ask to what extent this has been responsible for the recent collapse in house prices and the fall in durable consumption and residential investment – important factors in determining major macroeconomic fluctuations (Leamer 2007).

The stylised facts suggest a correlation at the very least. The top left panel of Figure 1 shows that aggregate foreclosure filings in the US increased from 750,000 in 2006 to almost 2.5 million in 2009. While we do not have data on foreclosures before 2006, the mortgage default rate increased above 10% in 2009, which is more than twice as high as any year since 1991. By any standard, the recent US mortgage default and foreclosure crisis is of unprecedented historical magnitude.

This sharp rise in foreclosures has been accompanied by large drops in house prices, residential investment, and durable consumption. As the top right panel of Figure 1 shows, nominal house prices fell 35% from 2005 to 2009. The drop in residential investment from 2005 to 2009 shown in the bottom left was larger than any drop experienced in the post World War II era. The drop in durable consumption is also large, but more comparable to recent recessions.

The authors go on to use what they describe as an instrumental variable approach to draw the connection between foreclosures and housing prices.  Read Foreclosures, house prices, and the real economy here.