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Any Bright Ideas?

posted by Adam Levitin

Jean Braucher has noted the FHFA's RFI on foreclosure prevention. A huge problem with any proposal is the time to implementation for anything. It took months to develop flops like FHASecure, Hope4Homeowners, and FHAShortRefi. Any program where the government and/or private parties have to do much gets a major ding in my book because by the time its rolled out and the kinks are worked out, it'll be too late.

So here are some thoughts. First, the government needs to settle on its policy goal. Why are we trying to prevent foreclosures? Is it a macroeconomic goal of stabilizing the housing market? Is it a macroeconomic goal of deleveraging consumer balance sheets? Is it a moral goal of helping unfortunates? Is it an electoral goal of making people feel that the government is doing something/is on their side?

Second, there are obvious limitations on what the administration can do. Anything involving legislation is a non-starter with this dysfunctional Congress. Rule-making too might be problematic. But there's plenty the administration can do without legislation or rule-making. What's upsetting is that the adminsitration doesn't seem to be giving any consideration to these options because it will involve some tussling with the financial sector. It's easier to pretend that its hands are tied by Congressional acrimony and that ideas don't exist. 

So let me throw out an idea: why not have FHFA order the GSEs as a safety-and-soundness measure to write-down the principal on all underwater mortgages?  Or to offer all underwater homeowners with GSE loans a shared equity refinancing? At the very least, this could be done no question on GSE portfolio loans, and with some smart lawyering probably also on GSE securitized loans. (And if there is securitizaiton fail with the GSEs, then they're all portfolio loans!) That deals with (1) strategic default/negative equity, and (2) consumer balance sheet deleveraging. It doesn't take much to expand that move to FHA/VA, bank portfolio loans, and to private-label (ah, what a squandered opportunity the servicing consent orders were...).  

Now this won't help with unemployment, but deleveraging consumers is the key to increasing consumer credit and increasing consumer spending, which is the key to increasing job growth. It's all connected.  It probably won't kick in until 2013-2014 (Maybe just in time for it to be known as the Bachman or Romney or Perry recovery?  If so, the GOP can thank the bank regulators), but it's the right thing to do. 

Comments

I agree with the idea.Treasury is going after Private Equity Firms to take down $30B of GSE REO.Any way you cut it, REO is a distressed sale.Private Equity would pick these properties up @<0.30 on the dollar.The per-foreclosure folks & the taxpayer would benefit from a combo re-fi/writedown.I don't see the fed could handle any equity sharing.Requires "real accounting" and "real collections".Sticky finger syndrome would kick in.

The refi/writedown gets the pain over quicker. The "death by a thousand cuts" from the GSE funding would end. I just think the NAR, ect. would fight this with all they had;no real estate commissions in a refi/writedown.

IMF staff suggested something like this in the Article IV consultation. Here's what we wrote:

"The FHFA... has so far declined to allow principal writedowns on the grounds that many have subordinate liens and mortgage insurance, which would mean that the benefits of successful modifications would mostly benefit others, writedowns would impose losses on GSEs, which is inconsistent with the mandate of conservatorship, and they would induce underwater homeowners to intentionally default. Staff agreed that the latter risk existed but noted that the positive externalities from lowering the housing market uncertainty induced by the large shadow inventory of houses would likely outweigh these costs, especially taking into account the large contingent fiscal liability of the U.S. Treasury. Furthermore, staff pointed to the analysis by the OCC which indicate that modifications significantly reducing monthly principal and interest payments consistently perform better."

In a selected issues paper we also suggested a principal reduction program that would include future appreciation sharing, much like the one introduced by Ocwen.

Prof Levitin,
I respect your work and your ideas. You ask the right questions here. But you ignore the politics. You simply cannot give underwater homeowners money/credit while giving nothing to everyone else.

Everyone has debts. Everyone is experiencing hard times. Why do some homeowners get a special break?

I write this as someone who gave up her family home last year. It wasn't easy. But we couldn't get a mod. We couldn't afford the payments. We couldn't afford the tax.

You know as well as I do that the chances of deep principal reductions for the majority of underwater homeowners is slim to none. Most will be offered (if anything) a bit off the top, and a jiggering of interest rates, etc. They will not be better off with such a deal. But they will take it eagerly.

We will not get a clean resolution to the legal morass of MERS and robosigning (someone will cut a deal, much cheaper and easier). We will not get a debt jubilee. There will be no hosannas.

Let people extricate themselves from a mess that has become a prison to most of them. Tell them to walk. You know it's the only thing they can do that makes any sense.

I suspect Leviathan has a good point. But I don't agree that the politics should prevent action. The action simply needs to be more bold and reach out to more people.

Personally I think the Obama folk should get over their allergy to dealing with the banks and offer a deal to all servicing institutions to transfer 20% of ALL consumer debt obligations held by Americans - ALL home loan principal, plus other consumer loans and credit card balances, roughly $3T in debt - to a special government account, to be paid in full by the Fed via their Fed reserve account. Demand that the GSEs participate. Then announce it, call it "QE3" and just print the money to put in reserves as it comes due.

This would result in inflation pressure, but only on the order of 2-3% and declining over a generation (which would help everyone else, including businesses and the government, eventually lower their debt obligations). And if inflation pressure mounts higher than that due to increased economic activity, the Fed has two levers - the Fed funds rate and the reserve interest rate - with which to maintain a target.

And in exchange, the banks get 20% of every loan guaranteed, including non-performing ones. That should prevent their further zombiefication and I'd imagine the banks would be amenable to discounting the cumulative interest rate charged on their special government account in return for the favor.

The arrangement would be with loan servicers, not the end owners, to whom the servicers would continue to pay per their arrangements. This would help get around the securitization issue.

And the consumer gets both long-term savings through increased equity across-the-board, which should stimulate the economy faster than merely helping out the underwater folks. And the credit card relief should have the instant effect of lowering credit card minimum payments, which would bring instant stimulus, plus more debt freedom to encourage spending.

I'm pretty sure all of that can be done under the same authority as QE, and the President can get credit for a wildly popular Main Street bailout without pissing off Wall Street in the process.

The latest program appears to be about stabilizing Neighborhood Home Values, not Propping Up sub-prime Bad Debt.

The velocity of REO's into the Market is set to increase up to 6x any quarter now that FDIC gets bold enough to demand Non-Performing Cleanup. Many folks that are NOT CURRENTLY underwater, will be submerged soon as the next Wave looks to be a REO Tsunami.

Mods and Foreclosure Prevention is a morass that should be Jettisoned to stabilize the market for the "able to pay" 80%+ of the market

From a Value perspective to Taxpayer, Banks, GSE's Treasury seems to be considering REMOVING all of these Bad Debt Homes from the Tax Value Calcs by converting to Managed Rentals, rather than continue the Downward Pressure on the market that additional REO inventory causes.

The Home RENTAL Market will be On Fire for many years, those returning to the TENANT Model may as well have some Inventory to select from instead of letting good roofs rot.

Perspective Disclosure: I am actively engaged in Residential Property Management and am a Colorado Broker.
3/31/11 WELLS FARGO held $5b REO and $30b non-accruing [future REO]

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