Consumer Law & Policy Blog

Moralizing Bankers

By Alan White

Last week the chief executives of JP Morgan Chase, Bank of America and Wells Fargo home lending wrote to Congress, and decried the danger and immorality of forgiving debts.  Specifically, they protested that any effort to compel them to reduce the principal owing on mortgages that exceed home values would strike at the heart of the sanctity of contract, and furthermore, discourage bankers from ever making any future mortgage loans. 

Moral hazard in money lending, of course, runs both ways.  The more we condemn the debtor, imprison her, and flog her for breaching her promise, the more reckless the lender can become in making loans that cannot possibly be repaid.  Rigid enforcement of loans creates moral hazard for lenders, while fair and realistic bankruptcy relief and debt jubilees cause banks to lend prudently and fairly.  Chase is now the owner of billions in reckless loans made by Washington Mutual, and Bank of America now has the Countrywide portfolio, both of which are fattened with the infamous “option ARMs,” loans so hopelessly unrepayable that the borrowers were not asked to pay even the full interest due every month. 

In various faith traditions, the moralizing is more likely to condemn the lender than the borrower.  Isaiah railed:  “ye have eaten up the vineyard; the spoil of the poor is in your houses.”  The Q’uran and the Dhamappada are to the same effect.  Saint Thomas Aquinas urged the restoration of all interest as essentially the fruit of theft.

One might also note that Washington Mutual, unable to keep its promises to bondholders and depositors, relied on Chapter 11 bankruptcy and the FDIC to cancel its promises or fulfill them in its stead, and Bank of America compromised with bondholders on $36 billion in promises made by Countrywide.

Yes, homeowners made promises, nearly eleven trillion dollars of promises.  But these obligations were placed on them by moneylenders who should have known better, and whose imprudence has now cost millions of people their homes, their jobs and their life savings.  If forgiveness of debt today will make lenders more reluctant tomorrow, then let us forgive our debtors.

New Studies on the Effect of Federal Preemption of State Lending Laws on the Foreclosure Crisis

by Deepak Gupta

A new study, The Preemption Effect: The Impact of Federal Preemption of State Anti-Predatory Lending Laws on the Foreclosure Crisis (PDF), conducted by UNC-Chapel Hill's Center for Community Capital, concludes that federal action to exempt large national banks from state consumer protection laws led to increased numbers of home foreclosures and risky lending practices. The study analyzes data from 2.5 million mortgages before and after federal preemption in states with and without anti-predatory lending laws, controlling for other factors to isolate the impact of preemption. 

In a companion study, The APL Effect: The Impacts of State Anti-Predatory Lending Laws on Foreclosures, the researchers demonstrate the effectiveness of state laws by studying the quality of loans, from both the loan level and neighborhood level, in states with and without state anti-predatory lending laws. "Our research confirms that state consumer protection laws work, but that when one group of lenders is handed a regulatory free pass, they are going to take advantage of it," says Center for Community Capital Director Roberto G. Quercia. "In this scenario, unfortunately, we see preemption shifting the activities of federally insured banks to riskier activities than they would otherwise have pursued."

The research “proves that that vigorous state consumer protection laws make a positive difference for consumers throughout the country,” said Jim Tierney of Columbia Law School's National State Attorneys General Program, which funded the study. Contrary to the claims of two Comptrollers of the Currency last week, federal preemption of stricter state consumer protection laws has worsened the effects of the housing crisis on homeowners, according to the study.

A summary of both reports is provided below the jump.

Texas Consumer Laws Prevented Banking Crisis

by Richard Alderman

Paul Krugman's editorial in the New York Times today compares the results of the financial crisis in Georgia with Texas, noting that Texas did not face similar problems. He states, "Why didn’t the same thing happen in Texas? The most likely answer, surprisingly, is that Texas had strong consumer-protection regulation. In particular, Texas law made it difficult for homeowners to treat their homes as piggybanks, extracting cash by increasing the size of their mortgages. Georgia lacked any similar protections (and the Bush administration blocked the state’s efforts to restrict subprime lending directly). And Georgia suffered from the difference."

Krugman is correct that throughout the 1990s, Texas law prohibited home equity loans and made it difficult for consumers to get over their heads in what appeared to be low interest rate debt. What he doesn't note, however, is that Texas has since amended its law to permit home equity loans. Although the Texas law does have some consumer protections, I don't think we will fare as well in the next economic crisis.

American Bankers Association Predicts Tougher Federal Rules Will Reduce Availability of Credit

by Jeff Sovern

The rules in question extended the HOEPA loan protections to more subprime loans. The thing is, they were adopted by the Fed in 2000, over objections by the ABA that they would reduce the availability of credit. See Sandra Fleishman, Fed Favors Tougher Loan Rules: Abuses in Subprime Lending Are Targeted, Washington Post, Dec. 14, 2000, at E01. Yet the volume of subprime lending skyrocketed after adoption of the rules, ultimately leading to the subprime crisis and the Great Recession. So if the ABA's predictions were so wrong back then, how much credibility do they have now when making similar claims?

NCLC Practice Tools

by Jon Sheldon

This monthly update lists news re new NCLC practice tools, including a consumer attorney fee survey, free webinars, new case summaries, and other aids: 

A consumer attorney fee survey showing hourly rates and other  firm characteristics is now available on NCLC's website (thanks to Ron Burdge). A must for LSC funded offices now authorized to seek fees!

Free webinars:  

• Consumer  Fraud  Targeting  Seniors  (April 14);  
• Repo Madness  (April 15); and
  
• Credit Reporting and Repair for Domestic Violence Survivors (April 27) .  

Go here for the 2010 schedule and free downloads of past webinars, or contact jhiemenz@nclc.org.

FDCPA case summaries from the last 12 months are now on the companion website to NCLC's Fair Debt Collection treatise.  This password protected site is free to those subscribing to the treatise.

Four manufactured home policy guides are now available on NCLC's website: (1) promoting resident ownership of parks, (2) protecting  fundamental freedoms, (3) advocacy at the local level, and (4) weatherization and replacement of homes.  

Disability discharges for some private student loans are described on NCLC's very helpful website for all things student loans, www.studentloanborrowerassistance.org

 

NCLC's new report, Repo Madness, is now available. An excellent piece not only for law reform, but also to argue for strict construction of breach of the peace. 

More Coverage of Rent-A-Center v. Jackson

by Deepak Gupta

 Last week, I blogged about Rent-a-Center v. Jackson, a very important arbitration case that will be argued before the U.S. Supreme Court on April 26. My post focused on the bottom-side amicus briefs in the case, particularly a brief of arbitrators and arbitration scholars supporting the plaintiff/respondent. You can read more coverage of the case at Text & History, PrawfsBlog, and ContractsProfBlog.  The Virginia Law Review's online component has just published an interesting essay by David Horton (Loyola Law School, Los Angeles) called "The Mandatory Core of Section 4 of the Federal Arbitration Act."  Here's an abstract:

This Essay . . . argues that parties cannot arbitrate the issue of whether the arbitration clause is unconscionable, even when there is "clear and unmistakable" evidence of their intent to do so, because courts possess the exclusive right to decide whether all or part of an arbitration clause is valid. The judiciary's monopoly on settling this matter arises from Section 4 of the FAA, which provides that if the "making of the arbitration agreement" is "in issue," the "court shall proceed summarily to the trial thereof." In fact, Section 4 only allows a court to submit a case to arbitration if it is "satisfied that the making of the agreement for arbitration . . . is not in issue." This language bars parties from contracting around the judicial duty to evaluate "the making of the arbitration clause." Moreover, this reading dovetails with the FAA's legislative history, which reveals that the statute's proponents cited this layer of judicial protection to allay concerns about privatizing a customary governmental function.

A Bank President on the CFPA

by Jeff Sovern

According to the News and Record of Greensboro, North Carolina, here's what one bank president said of the CFPA proposal:

The consequences to the consumer will be equal or worse than what they’re trying to legislate away,” said Robert Braswell, president of Greensboro-based Carolina Bank.

The regulations proposed in the measure would duplicate some limits already on the books, he said.

Banks, he said, will pass on added costs to consumers or stop offering some services, such as free checking. Braswell said when he has been on lobbying trips to Washington on behalf of bankers groups, congressmen and congressional staffers did not seem receptive to points made by those in the industry.

“There is no consideration to (whether it’s duplicative); there’s no consideration as to cost,” he said. “Those who are behind this legislation are absolutely ill-informed and under-educated ... They refuse to consult with anyone who does possess the requisite knowledge.”

I'm not going to bother responding to the idea that Harvard law professor Elizabeth Warren is "ill-informed and under-educated." But I have to say something about the complaint that the measure is duplicative. The CFPA is needed precisely because agencies that had the power to protect consumers failed to use it.  So those powers would be taken away from the agencies that failed to prevent the subprime crisis and given to the CFPA.  Accordingly, the CFPA would not be duplicative. 

As for Braswell's claim that the CFPA might increase costs or reduce the availability of credit, first, it's impossible to know what the CFPA will do, so it's impossible to know whether it will generate any costs or reduce the availability of credit.  But second, personally, I hope it will adopt measures that will reduce the availability of the types of loans on which consumers are now defaulting in the millions.  Third, does Braswell really believe that the CFPA's cost to the consumer will exceed the cost of the bailout or the cost in misery to consumers who have been foreclosed upon  (and personally, I'd like to know whether he favored the bailout and whether his bank accepted bailout money)?

Finally,  Braswell complains that members of Congress and their staffs aren't listening to him.  Of course we don't know what he said, but if his argument was that the CFPA would be duplicative or Elizabeth Warren is under-educated, perhaps they shouldn't have listened to him.  But the sad reality is that someone is listening to him, or someone like him--because if they weren't listening, we would already have a CFPA.  (for more, see Baseline Scenario's view on Braswell's comments)

Update: ProPublica reports that in fact Carolina Bank did accept bailout money. (HT: Paul Kiel)

GM Claims It Is on the Road to Profits, Will Pay Back Government Bailout by June

We reported here last December that Bank of America paid back its $45 billion government bailout. And now General Motors claims that it has positive cash flow, will turn a profit in 2010, and will pay back its federal bailout by June.

George Bailey, Where Have You Gone?

Once upon a time, banks and thrifts served the important function of intermediating savings deposits and home mortgage loans.  Those days are gone.  My shiny new Mortgage Market Statistical Annual reveals that 86% of all mortgages, first and second, in 2009 were funded by securitization, not by bank deposits.  Out of $1.8 trillion in mortgages last year, banks and loan companies funded $80 billion in conforming first mortgages, $92 billion in jumbo loans, $10 billion in subprime mortgages and $77 billion in second mortgages and home equity lines. The securitization market was totally dominated by FNMA and Freddie Mac, with private market securitizations accounting for about 3% of mortgage-backed securities.

In other words, without Fannie and Freddie (and the Federal Reserve to buy their mortgage-backed securities),we would have a catastrophic shortage of mortgage capital.  Whatever you may think about the future role of Fannie and Freddie, they have provided a vital backstop to the moribund private capital markets in the current crisis.

Total bank deposits in the US, according to the FDIC, are at about $7 trillion, so what are banks doing with their deposits?  Funding credit cards, home equity lines of credit, and commercial loans, among other things. Oh and also buying mortgage-backed securities.

Mortgage Crisis Update: Treasury Tinkers with Failed HAMP Program, Delinquencies and Foreclosures Stubbornly Refuse to Go Away

By Alan White

While the stimulus package and bank bailouts have treated the symptoms of the crisis and saved the banking and mortgage finance systems from collapse, the foreclosure crisis itself is about as bad as ever.  As the foreclosure crisis enters its fourth year, there are some signs that things are not getting worse, but little evidence they will get better any time soon.  New foreclosure starts reached a peak of about 250,000 monthly in the third quarter of 2009, or about quadruple their level in mid-2006 just before the crisis.  The fourth quarter saw a significant decline in foreclosures starts, in both the Mortgage Bankers survey and the OCC/OTS report, to something like triple the pre-crisis numbers.  On the other hand the inventory of foreclosures remains at their peak of more than three times pre-crisis levels, as do total delinquent mortgages (about one in seven mortgages are now delinquent or in foreclosure, compared to less than one in twenty just before the crisis began.) 

Something like 2.2 million foreclosure sales have been completed since July 2007, which should have eliminated almost half a trillion dollars in mortgage debt.  On the other hand, an equal number of mortgages have been modified, in the majority of cases resulting in significant increases in mortgage principal through capitalization.  Net mortgage borrowing for all Americans has been negative for the past six quarters, but total mortgage debt has declined only slightly, from $10.5 trillion to about $10.2 trillion, from the peak in March 2008 to the Fed’s latest sounding on December 31, 2009.  The deleveraging of American homeowners has a long way to go (total mortgage debt was less than $5 trillion at the beginning of 2001.) 

Another way to think about it is to compare the drop in mortgage debt to the drop in home values, i.e. just how underwater are we?  The Case-Shiller index of home prices has declined about 30% from its peak, and mortgage debt is down by only 3%.  This can’t be good.  Incidentally, credit card and other consumer debt is down only about 5% from its 2008 peak, after a 30% runup in the five years prior.

The Administration’s HAMP program to address foreclosures by paying servicers to modify mortgages they should be modifying anyway, has failed.  It has resulted in a net decline in monthly modifications and no perceptible dent in the foreclosure inventory.  The HOPE NOW servicer coalition claims that in January 2010 for the first time HAMP modifications plus modifications servicers did without Treasury help rose to 150,000, significantly higher than the 120,000 monthly total modifications done before HAMP was launched in March 2009.  If true this would be good news, but the investor reports I follow are not showing the large increase in modifications HOPE NOW is touting.  In any event, 100,000 to 150,000 monthly modifications, even if they were all successful, does not solve the problem of 200,000 new foreclosures filed every month and an inventory of 6 million mortgages delinquent or in foreclosure.