A Non-Deal on Foreclosures

In Lyndon Johnson and the American Dream, Doris Kearns Goodwin (just Doris Kearns in NR’s copy of the book — we’re old-school) has one interesting observation about LBJ: He never got out of the legislative mind-set, and his measure of success when crafting his hallmark programs, from Medicare to the Civil Rights Act of 1964, was simply getting the bill passed. Never mind the contents of the program: Just get something signed into law. Tragically for LBJ, he didn’t have a Nancy Pelosi around to tell us that we had to pass Medicare so we could find out what’s in it.

I get the same feeling for President Obama’s new mortgage settlement: Never mind what it does, or whether it does any good, just get everybody’s signature on the deal.

Here’s what it does not do: It isn’t going to prevent a lot of foreclosures (and may in fact cause some), it isn’t going to assuage the terror in the mortgage markets, and it probably isn’t going to clean up the system that caused some number of homeowners to be foreclosed on without proper documentation.

Like the fiasco that was HAMP, this settlement will encourage homeowners to become delinquent on their loans: There’s $10 billion set aside for principal writedowns for delinquent homeowners, but paid-up borrowers only get $3 billion to encourage the refinancing of underwater mortgages. U.S. homeowners are upside-down to the tune of more than $750 billion, with more than a fifth of homeowners underwater. So, even if you think that the federal government ought to be in the business of trying to micromanage mortgage refis, this is four-tenths of 1 percent, assuming maximum utilization.

Also, those writedowns are going to cover (probably exclusively) mortgages that have been securitized. Guess who owns those? Fannie and Freddie have a pot of them, as well as pension funds, particularly large, government pension funds. So the banks are going to be taking a writedown: The taxpayers are going to be taking a writedown. (Though the markets probably have already discounted those securities by this point, so that point may be moot.)

And one of the biggest problems — the mortgage documentation system — goes largely unaddressed. Basically, the new rules say to fast-and-loose mortgage servicers: “Don’t do that again, and pay $1,500 to $2,000 to everybody you foreclosed on without proper documentation.” Given the complexity of assembling proper documentation and the legal costs involved, $2,000 per offense is a great bargain for the wrongdoers, practically an invitation to keep doing exactly the same thing. Everybody gets worked up about robo-signing, but robo-signing is not the root of the problem, only a symptom of it: The root of the problem is that the underlying system for keeping track of mortgage ownership in an age of securitization and mass default is entirely inadequate to the task. So far as I can tell, the new servicer rules basically say, “Document stuff the right way next time,” but don’t do much to spell out what that looks like and creates incentives not to comply. If the price of fraud is lower than the benefit to be derived from the fraud, then what is the disincentive to fraud?

None of this will stop President Obama from doing a little preening and bragging that he got the banks to cut homeowners a break, even though this deal costs the banks basically nothing and does basically nothing for homeowners.

I am not super-enthusiastic about most kinds of financial regulation, but the basic rule of law requires that you be able to legally document your right to foreclose on a house before you foreclose on it, and the current system does not provide that easily. We’d have been better off taking $27 billion to Google and asking them to design a proper document-management system.  


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