Before we debate the merits (more accurately, the lack thereof) of the latest trial balloon of a plan being floated to rescue overextended mortgage borrowers, we need to consider a few not sufficiently discussed facts:
1. The problem is that banks are not making loan modifications as they did in the past. That is turn is due to securitization In the old days, including in the nasty (in the Southwest and Texas) housing bear market of the early 1990s, it was standard practice for banks to modify mortgages. That was not charity on the part of the bank but a cold-blooded economic calculation, that in the majority of cases, it would take a lower loss by changing mortgage terms than by foreclosing.
80% of mortgages are now securitized, however, and the servicers do not do mods in the vast majority of cases, despite over a year of tough talk, pressure, and various half-baked programs (Hope Now Alliance as the poster child).Why? Our belief is the big reason is the most obvious: servicers get pretty well compensated for foreclosing, but cannot charge (much if any) for the work of doing a mod. Servicers are also set up like factories, with highly standardized procedures. They are not set up to do anything on a one-to-one basis, lack knowledge of the borrower (no doc and low doc mortgages mean the initial files are skimpy, and I am told they are often a mess) and have no experience in assessing borrower ability to pay (ie, they never were in the credit-extension business). To top that off, many servicers have lousy relationships with their borrowers, and so borrowers would probably not be as forthcoming as they would need to be to work out a fair and viable deal (the borrower would assume anything could and would be used against them).
2. A foreclosure lowers the value of all other homes in the neighborhood. Readers have said that recent studies have found 5% is a typical level; anyone with better data or links is encouraged to speak up.
3. I am amazed that the banking industry is and remains opposed to the idea of letting bankruptcy judges modify mortgages. This is not a radical new idea; in fact, it is standard practice in commercial bankruptcies. And bankruptcy judges are not pinkos; most come from the creditor side of private practice and so would understand the banks’ viewpoint, but they are also pretty savvy about lender games-playing. Moreover, filing for bankruptcy has high personal costs; it is not something people do casually (anyone who thinks so I would hazard does not know anyone personally who has gone through bankruptcy, It is demeaning and isolating). So while any program of borrower relief has the potential for abuse, this one is a pretty unlikely candidate.
Moreover, it does NOT demand that servicers do something that they are not set up to do and are pretty likely to be bad at doing, And existing servicing agreements DO have provisions for how servicers get paid when the borrower declares bankruptcy, so servicers would not suffer under this approach.
But instead of admitting and addressing the securitization problem in a more direct fashion, the latest remedy has all the trappings of a costly workaround that does little to solve the real problem. In fact, it appears most likely merely to push the problem down the road a few years.
The proposed arrangement, at least as presented in the New York Times, is to offer borrowers lower payments for a few years (three seems to be the magic number) and only in very exceptional cases reduce the principal balance. What does that accomplish? It does nothing to improve the borrowers’ ability to repay, and with real wages stagnant since the 1970s, there is no reason to think most borrowers will be magically earning more in 2012. It is just about certain NOT to reduce the ultimate amount of foreclosures, just push off some until the relief expires.
With Alt-A and Option ARM resets kicking in at high levels in 2010 and 2011, all this program looks likely to do is delay the housing recovery further by giving temporary relief that will expire on the heels of resets petering out. Unless we have high inflation in the intervening years that erodes the real value of the mortgage and monthly payments, there is no reason to think with a deep recession just starting that most borrowers will be in markedly better shape in three years.
I am also bothered by the slant of the story, focusing on the resentment of those who might not get assistance, rather than on the practical shortcomings of the program. although it admittedly seems to be in the high concept stage and may not come to fruition.
In the Great Depression, one of my relatives ran the general store of a large island off the Maine coast. When people could not pay for food, he would take their deed. He wound up with all the deeds for the entire island.
He gave them all back when the local economy recovered.
From the New York Times:
As the Treasury Department prepares a $40 billion program to help delinquent homeowners avoid foreclosure, it confronts a difficult challenge: not making the plan too tempting to people like Todd Lawrence.
An airline pilot who lives outside Norwich, Conn., Mr. Lawrence has a traditional 30-year mortgage that he has no trouble paying every month. But, thanks to the plunging real estate market, he owes more on his house than it is worth, like millions of other people.
If the banks, which frequently lent irresponsibly, and many homeowners, who often borrowed irresponsibly, are getting government assistance, Mr. Lawrence says he believes sober souls like himself are also due a break.
“Why am I being punished for having bought a house I could afford?” he asked. “I am beginning to think I would have rocks in my head if I keep paying my mortgage.”…
“If the lunch truly is free, the demand for free lunches will be large,” said Paul McCulley, a managing director with the investment firm Pimco….
Government officials say that homeowner bailouts are not a gift. For one thing, they assert, most mortgages will simply be revamped so the monthly payments become affordable for the next few years. Reductions in loan balances, which are drawing the most attention, will generally be a last resort.
“This is not about trying to create fairness,” said Michael H. Krimminger, special adviser for policy at the Federal Deposit Insurance Corporation, which is working with Treasury on the latest plan. “The goal is to keep people in their houses.”
Still, he acknowledged, “a lot of people are angry because they feel some people are getting something they don’t deserve.”…
Though hard numbers are scarce, estimates are that foreclosures will surpass one million this year. Losses on home loans are piling up faster than banks can deal with them. First Federal Bank of California said this week that as of June 30 it owned 380 foreclosed houses. It managed to sell 329 of them during the third quarter but acquired another 450.
This sense of rapidly losing ground underlies the urgency behind the Treasury’s new plan, which is being developed even as various homeowner bailouts that were announced earlier are just getting under way.
A White House spokeswoman, Dana M. Perino, said on Thursday that the plan was not “imminent” and that several different proposals were being considered.
“If we find one that we think strikes the right notes and could meet all of those standards that we want to protect taxpayers, make sure that it’s also fair and that it would actually have an impact, then we would move forward and we would announce it,” Ms. Perino said.