Posted on Thursday, March 17, 2011
The new federal Consumer Financial Protection Bureau's website proclaims that no financial company "should be able to build, or feel pressure to build, a business model around unfair, deceptive, or abusive practices." How ironic, then, that the bureau itself is trying to extend its reach by extorting billions of dollars from private mortgage servicers, regulating their business by fiat, and stalling a U.S. housing market recovery.
This brouhaha started last year when mortgage servicers—J.P. Morgan Chase, Wells Fargo and other banks—were accused of mishandling foreclosure documentation. The feds have been investigating, and it turns out that most of the infractions were technical while very few borrowers lost their homes without cause. But state Attorneys General and White House special assistant Elizabeth Warren have spotted a political opening to smack the banks one more time and dole out $20 billion to potential voters in 2012.
They've sent a proposed 27-page "settlement" to the banks that would, among other things, force mortgage servicers to submit to the bureau's permanent regulatory oversight; impose vast new reporting and administrative burdens; mandate the reduction of borrowers' mortgage principal amounts in certain circumstances; and force servicers to perform "duties to communities," such as preventing urban blight. We warned during the Dodd-Frank debate that the new consumer bureau would become a political tool for credit allocation, and here we already are.
The legal language is so vague, and the potential liabilities so vast, that no CEO could in good conscience sign the agreement as it stands. The settlement includes, for instance, "unfair and deceptive business practice" clauses that would expose servicers to lawsuits for any "material" violation of the agreement, whatever "material" means. Homeowners and bank shareholders will ultimately pay for the compliance burden and the $20 billion to reward delinquent borrowers, as servicers pass on the costs.
Iowa AG Tom Miller, the public leader of the bank bashers, said last week that "what we're really trying to do is change a dysfunctional system." The reality is that the banks' mortgage service arms were overwhelmed with a flood of foreclosures that no one predicted. Their management was sloppy and in many cases the foreclosure process became an impersonal assembly line. But in nearly all cases the borrowers hadn't been repaying the loan for months, or even years. We're told that bank regulators at Treasury who've looked into this want the banks to clean up the process and pay a modest fine—which sounds like appropriate punishment.
Mr. Miller's real policy goal is to impose by fiat a measure that was roundly rejected in 2009, when a Democratic Congress defeated a "cramdown" measure that would have allowed bankruptcy judges to force servicers to do principal write-downs. That law was rejected because rewarding delinquent borrowers at the expense of responsible borrowers encourages bad behavior.
The principal writedown gambit is also a pre-election attempt to make up for the failure of the many Bush and Obama Administration foreclosure mitigation plans. As the nearby table shows, more than half of all mortgages modified during this housing depression have redefaulted within a year. A 50% failure rate is bad even for government work. Meanwhile, the foreclosure overhang has kept the housing market from finding a bottom so prices can recover.
As economists Charles Calomiris and Eric Higgins point out in a new paper, delaying foreclosures creates uncertainty for consumers and banks, impedes new housing construction and aggravates neighborhood blight. They find that any benefit to delaying foreclosures is short-lived, and usually insufficient to keep people in their homes in the long run.
The proposed settlement will only prolong the pain. HSBC has already frozen foreclosures in the U.S. and other banks will likely follow suit. RealtyTrac, which follows the housing market, said last week that foreclosure activity has already dropped to a 36-month low "as allegations of improper foreclosure processing continued to dog the mortgage servicing industry and disrupt court dockets." The securitization market will suffer too: Who will buy bonds backed by payment streams that are open to legal challenge?
This shakedown is so egregious that it is inviting a political backlash. Senate Republican Richard Shelby has called it "an attempt to advance the Administration's political agenda, rather than an effort to help homeowners who were harmed by a servicer's actual conduct." The Virginia and Oklahoma AGs are also balking.
They're right to do so, but the larger story here is the way Ms. Warren is already using the Consumer Financial Protection Bureau to tell banks how and to whom to lend money. She is doing so despite dodging a Senate confirmation that Dodd-Frank says is required for the person who runs the agency. The Warren-Miller diktat will harm the banking system, the housing market and borrowers who pay their bills on time. Quite the achievement.
THE WALL STREET JOURNAL