In the last week, several ideas for fixing the housing market have surfaced. One is the Third Way proposal, which appears to be an Administration trial balloon. Predictably, it is yet anther bailout, with plenty of smoke and mirrors to disguise that fact.
A second proposal, from Sheila Bair yesterday, is to establish a “foreclosure claims commission“. This is in keeping with the direction that Iowa’s Tom Miller has been pushing for with the 50 state attorneys general investigation. This scheme sounds more promising that the Third Way proposal, but is very likely to wind up in bailout territory.
Third is a not-widely-covered plan by Senator Jeff Merkley which has two provisions that would force banks to address the fact that mortgages are deeply under water. That makes it firmly anti-bailout (or more accurately, any resulting bailouts would be explicit as opposed to buried in various mortgage market gimmies to banks). It would thus speed recognition of housing market losses, force debt writedowns, and accelerate repricing and clearing of the housing market.
The Merkley proposal is pro consumer and pro investor; the other two are pro bank. Sadly, it isn’t hard to see which is likely to prevail in the absence of public pressure.
The Bair proposal was presented at the Mortgage Bankers Association meeting in DC, In addition to the not-very-fleshed out idea of a claims fund, she also proposed a list of fairly modest but still badly needed servicing reforms, the biggest being required write downs of second mortgages when the servicer is negotiating the first mortgage with a borrower, and a independent process for appealing loss mitigation turn-downs. The latter is useful but needs to be made broader. Borrowers still lack any recourse save costly and time-consuming litigation if they believe servicers have made errors, so independent review should include a disclosure and dispute process for routine servicing.
The restitution fund concept is worrisome. It is not yet clear whether it will be funded, which means it could be a joint private/public kitty. The provision of any explicit government funding in the absence of a serious investigation, including possible criminal action, is not warranted. The hallmark of this financial crisis is no perps, save some foot soldiers (the hapless robosigners, for instance) have been identified, much less held to account.
And even the private funding model is likely to prove unsatisfactory. HousingWire suggested that it might be based on the BP restitution fund. That’s a red flag. The BP fund was seen as a win for the embattled oil company, since BP was given several years to contribute money to the fund. In addition, even though the fund in theory did not limit BP’s liabilities, most investors reacted as if the damage had been capped. And given that any participant in the fund claims process had to waive his rights to litigate, the process did serve to limit exposure (particularly of the punitive damages sort). Moreover, many people who applied for damages were deemed not to be eligible because the harm they suffered was allegedly too indirect (think hotel owners in affected areas). Others were denied because they could not document revenue and expenses (many small fishermen run heavily cash-based operations that are not hugely profitable even in the best of times).
So it is also easy to imagine, as with the various government mortgage mod programs, that the banks will run the process and will use strict documentation requirements as a way to limit payouts, when their abuse of the documentation procedures they created is at the root of this crisis.
By contrast, there is much to like about the Merkley proposal, which was covered by Dave Dayen at FireDogLake. It has two mechanisms to force banks to recognize and realize losses on underwater mortgages, and thus put an end to “extend and pretend”.
First is a “national short refinance program”. Per Dayen:
When a bank sends a home into foreclosure, it becomes an REO property, to be sold at auction at a large loss for the investors. Instead of going through the long process of resale, with the attendant upkeep that has to be spent by the bank on the home, and the disruption to the property values from having a vacant home in their neighborhood, this short refi program would allow qualified families facing eviction to refinance to an FHA-guaranteed mortgage based on current property values and interest rates. In the interim the family could stay in the home during the appraisal, new underwriting and final resolution. Many families would be able to pay a reduced payment if the home was written down to real value. The investor would get a bigger payoff than selling a vacant home in foreclosure. Neighbors would see their communities stabilized without a vacant property in their midst. And the family would get to stay in their home.
The main effect of the FHA short refi program is likely not to be a wave of mass refis, but to force servicers to offer deep principal mods. If a mortgage leaves the pool via a refi, the servicer loses all of the fees associated with that loan. If the servicer concludes a mod, it still gets ongoing servicing income, but on a lower principal balance.
The second mechanism is judicial modifications, aka bankruptcy cramdowns. In pretty much every other type of secured lending, save for residential mortgages (which were exempted via legislation), when the borrower goes into bankruptcy, the secured debt is written down to the value of the debt, and any amount owing beyond that is added to unsecured debts. The idea is commonsensical: you can’t say a $200,000 mortgage is “secured” by a house now worth $160,000. The court process is well established and not controversial (as in you don’t see fulminating about abuses).
The scaremongering by the banking industry used to forestall judicial foreclosures is that every Tom, Dick, and Harry will run to the courthouse to get out of his mortgage, As anyone who has contemplated or gone though bankruptcy knows, it’s a very painful, humiliating, and disruptive process. And the widespread use of background checks as part of employment screening, with a bad credit record seen as a sign of bad character, is yet another deterrent. Correspondents of mine who would be ideal candidates (for instance, one is underwater due to investments gone sour and Chinese drywall making a sale of their home impossible, yet still have decent cashflow from their main business) are still loath to file.
Proof of the legitimacy of judicial mods as an option comes from the fact that most mortgage backed securities investors favor it, because they see it as a device for servicers to offer principal mods. With servicer fees and expenses coming first out of mortgage cashflow, the costly foreclosure process comes out of investors’ hides. All but a small percentage prefer principal mods because it will produce lower losses to them than costly foreclosures and sales of distressed property.
The Merkley plan has some other promising elements, such as requiring servicers to have a single point of contact (the Bair servicing reforms include this idea), a broad third party review process for mortgage mods (similar to successful programs at the state level) and the end of the “dual track” process (which keep the foreclosure process in motion while mod discussions are underway; this idea was present in a watered down form in the Bair speech as part of the foreclosure “settlement”).
Frankly, although individual borrowers may continue to suffer, the best prospect for an equitable long term solution is to let the wheels of justice continue to grind on. The outburst of reform ideas seems to be the direct result of the Massachusetts Supreme Judicial Court Ibanez decision. The terms of debate are, perversely, still very much skewed in favor of banks despite the considerable harm they have done to homeowners, investors, and communities. But judges are increasingly abandoning the assumption that banks must be right in foreclosure cases, and a more objective posture is sure to put the banking industry even more on the back foot. Letting the courts continue to do their work offers the best hope of exposing, and therefore ultimately remedying, large-scale misconduct by the securitization industry.
Through most of my adult life I’ve always believed that even though the country might be deeply divided about the direction of the county, there was at least one major party or movement sufficiently sane and principled to give us hope things could, with luck and effort, eventually work out. But not now.
Today, a Tea-GOPer group with the oxymoronic name, Republican Study Group, released a list of proposed spending cuts [complete list from Wendydavis]. which can be summed up in a few words: virtually every cut they want to make will make life meaner for everyone but the rich. We’ll have less public health research and care, more pollution, fewer public services, less science, less public art, more hardship for more people and less assistance for the poor, and on and on.
If we were a destitute nation, flat broke with no future for growth, one might accept some of this as regrettable but unavoidable, but we’re none of those. There is literally no rational barrier to spending the money on the things our society needs. The Tea-GOPers, with framing assistance from the President and very foolish Democrats, just want us to behave as though we’re an impoverished nation and so they’re willing to impoverish the nation’s spirit and cripple its governance to prove it. It’s as though a hostile enemy had put the nation under economic siege, and we’d decided to let them win.
If only there were at least one opposition party to call out these medieval nihilists and crackpots. But alas, we’re stuck with a party that foolishly allows itself to be led by an Administration with no respect for its roots, little vision and even less courage. Every day, Team Obama makes up a fresh excuse for not confronting the nation’s needs, or even describing them honestly, while pretending they’ve done everything they can think of that won’t upset the 60th Senator. Why did these people even want the White House?
And we’re told the Administration’s primary message is to endorse the enemy’s view of America’s economic helplessness and the necessity of making things worse for the most vulnerable in our society.
Yet today, the latest polls tell us Mr. Obama’s and Democrats’ approval ratings are up. Is it because despite his other priorities, Congress managed to adopt several clearly liberal policies in December? Or is it that voters are simply more optimistic about the economy even though they still have a dim view of the direction of the country?
I predict this momentary spurt will collapse. The country faces a related set of crises:
– 15 million unemployed, with millions jobless for more than six months; there is no apparent, dependable engine of growth to reverse that soon;
– a huge collapse in aggregate demand coupled with a deleveraging process after homeowners lost trillions when the housing bubble burst; with depressed demand, businesses have little reason to expand;
– a resulting severe mortgage crisis made even more cruel by pervasive fraud on the part of banks and their servicing entities, with negative implications for the housing market, underwater owners, bank insolvency and the integrity of the foreclosure/judicial system;
– massive budget crisis in many states, forcing layoffs and declining public services, including cuts to safety-net programs whose needs mushroomed because of the recession;
– an out of control financial/banking sector that continues to loot consumers and run an unregulated casino with nearly free money from the Feds;
– a mind-numbing denial about the dangers of global climate change, as its consequences literally begin to flood vulnerable parts of the planet;
– debilitating wars that continue to drain the US while destroying or destabilizing countries we presume to be helping;
. . . and on and on.
Now match that list of actual problems against anything we’ve heard from the Obama Administration or the new Tea-GOPer Congress about their priorities. There’s almost zero overlap. There’s no jobs program, no mortgage solution, no state budget rescue, no reining in the financial sector before the MOTU tank the economy again, no end to wars, no restoration of the rule of law. In short, we see nothing even remotely helpful coming from Washington.
Instead, the DC/Third Way’s top agenda is to cut Social Security, as though the problem with America is that our elderly, having seen their home or market savings wiped out, have too much economic security. Then they want to cut federal spending at the same time state and local governments are contracting and consumers are deleveraging, which can only reduce the country’s standard of living further. And to finish the demolition, they want to cripple government’s ability to address any of the actual problems.
Shouldn’t we be protesting in the streets? These people are trashing the place, but there are no grownups in charge, and as far as I can tell, none waiting in the wings, not even a government in exile, if the whole structure crashes again. We look like early Tunisia, only less aware.
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