184 posts categorized "Too Big to Fail (TBTF)"

Caulkett: SCOTUS Hands BoA a Victory

posted by Adam Levitin

The Supreme Court ruled unanimously in favor of Bank of America in Caulkett v. Bank of America. Basically the Court found itself bound by its previous decision in Dewsnup and didn't think that any of the distinctions presented (by yours truly among others) between Dewsnup and Caulkett were compelling. I continue to disagree, not least because the Court never explains why the distinctions weren't compelling, or even state what those distinctions were.  Given the lengthy opinions that the Court usually issues, I'd like to think that it could have taken the time to explain itself in this regard, if only to help guide future litigants. 

What all this means is that that I owe Bob Lawless a dinner:  I had been much more optimistic about the outcome of the case following oral argument.

Dodd Frank and Pink Champagne

posted by Stephen Lubben

Over at Dealb%k, I argue that section 117 of Dodd-Frank is more Siouxsie and the Banshees than Eagles.

Dodd-Frank 2.0: The Unfinished Business of Financial Reform

posted by Adam Levitin

Our former co-blogger, Senator Elizabeth Warren, delivered an incredibly important speech yesterday laying out the work still to be done on financial reform. This speech is a bigger deal than Senator Warren's Antonio Weiss speech or her famous Citibank speech. This speech is a blueprint for Dodd-Frank 2.0.  It lays out a detailed vision of the challenges for reform work going forward:

  • break up the big banks;
  • a 21st Century Glass-Steagal Act that promotes narrow banking;
  • a targeted financial transactions tax to reduce unnecessary volatility from excessive arbitrage;
  • elimination of the tax system's preference for debt over equity financing, a limit on the Fed's emergency lending authority;
  • a simplification of the financial regulatory system (does this as presaging a reduction in the number of bank regulators? The SEC should certainly feel the heat from this speech...);
  • reforms aimed at the various types of short-term debt that are the hallmark of the shadow banking sector (money market mutual funds, repo). 

There are three remarkable things about this speech.  First, what is truly groundbreaking is that Senator Warren recognizes that the problems in the financial regulatory space are not just technocratic ones but political, and that technocratic fixes will never work until and unless the political structure of financial regulation is reformed.  Senator Warren's speech says exactly what needs to be said:  the power of large financial institutions not only threatens our economy, it threatens our democracy. Senator Warren has picked up the mantle of Teddy Roosevelt. 

Second, as a political matter this speech announces a reform offensive. Since the high-water mark of Dodd-Frank's passage in 2010 we have seen a steady push for deregulation. For Senator Warren to take the offensive here, particularly when her party is in the minority in both houses of Congress shows real moxie. That this speech is credible in such political circumstances is also a testiment to its substantive strength. 

Third, this speech presents the only vision for financial reform in the policy space. (OK, I guess the "deregulate 'em all" approach is a vision of sorts, but come on...) There isn't a competing right or left alternative out there.  No one else has a cohesive reform platform.  I think that makes Senator Warren's speech all the more important because this is the speech that will shape the policy field going forward into 2016.  This is the yardstick against which all presidential candidates, Democratic and Republican will be measured. It will be interesting to see which ones endorse what parts of Warren's vision and how enthusiastically. Silence will be particularly telling, as it is a vote for the dysfunctional status quo that leaves the Too-Big-To-Fail banks intact and growing. 

Read the speech.  This is important. 

 

Rodgin Cohen: Pay No Attention to That Man Behind the Curtain

posted by Adam Levitin

The Wall Street Journal ran a story today about H. Rodgin Cohen, the Senior Chairman of Sullivan & Cromwell and "one of Wall Street's top lawyers" decrying "the myth of regulatory capture." All I can say is wow. That's some chutzpah. 

For Rodgin Cohen to downplay regulatory capture is a like the scene in the Wizard of Oz when the Wizard says, "Pay no attention to that man behind the curtain." It's hard to think of an individual more at the center of the regulatory capture phenomenon than Rodgin Cohen.  Cohen plays a particular and unique role in the regulatory capture problem. Cohen is not just "one of Wall Street's top laywers". He is the top bank lawyer. He's a node through which all sorts of connections happen. Cohen is the eminece grise of financial services law and is an institution unto himself. Think of him as a sort of super-consiglieri or Mr. Wolf. There's no one who quite plays the role of Cohen in the world of financial regulation, and he's rightly greatly respected. 

I don't think of Cohen as an anti-regulatory ideologue (heck, regulation is how he earns a living), but he is deeply implicated in the regulatory capture problem because his strong suit is mediating between financial institutions and regulators. His job is to convinece regulators that they are on the same team as the banks and to get issues resolved quietly and out of the spotlight. Cohen, for example, was a drafter of the little noticed 1991 amendment to section 13(3) of the Federal Reserve Act that enabled the Fed to bailout non-banks like AIG and Goldman Sachs. Cohen's skill in persuading regulators to advance the financial services' industry's agenda is part of why Cohen is so respected and valued. But it also means that for him to admit that there's a capture problem of any sort would be to admit that financial institutions and regulators do not have aligned interests and to recognize that he's an advocate for financial institution clients, whose interests are not those of the public. And that would undercut the very sort of cozy relationship between banks and regulators that he aims to foster. Cohen's success is based in part on capture, so he's the last person who'd want it to go away. 

Continue reading "Rodgin Cohen: Pay No Attention to That Man Behind the Curtain" »

Community Banks and the CFPB

posted by Adam Levitin

I'm testifying before the House Financial Services Committee on Wednesday at a hearing entitled "Preserving Consumer Choice and Financial Independence." I'm the only non-industry witness (no surprise there). For those interested, my testimony is linked here.  Here's the highlight:  

Community banks face a serious structural impediment to being able to compete in the consumer finance marketplace because they lack the size necessary to leverage economies of scale. The CFPB has repeatedly acted to ease regulatory burdens on community banks in an attempt to offset this structural disadvantage. While community banks continue to face serious problems with their business model, their profits were up nearly 28% in the last quarter of 2014 over the preceding year, which strongly indicates that they are not being subjected to stifling regulatory burdens.

Ultimately, if Congress wants to help community banks, the answer is not to tinker with the details of CFPB regulations... Instead, if Congress cares about community banks it needs to take action to break up the too-big-to-fail banks that receive an implicit government guarantee and pose a serious threat to global financial stability. Until and unless Congress acts to break up the too-big-to-fail banks, community banks will never be able to compete on a level playing field. 

SPOE: Backdoor Bailouts and Funding Fantasies?

posted by Adam Levitin

I'm thrilled that Jay Westbrook has finally come into blogosphere with his posts on Single-Point-of-Entry.  I've blogged a little on SPOE already, but I want to highlight what I still think are two critical problems with SPOE.  In keeping with Jay's spirit, let's call them "Backdoor Bailouts" and "Funding Fantasies". 

Continue reading "SPOE: Backdoor Bailouts and Funding Fantasies?" »

Translating the Warren-Yellen Exchange

posted by Adam Levitin

Senator Elizabeth Warren surprised a lot of people by laying into Federal Reserve Board Chair Janet Yellen as hard as she ever laid into Timothy Geithner. I think this was a really important exchange. But it's easy to miss exactly what's being communicated in it. Senator Warren's comments can basically be translated as follows:  

"Janet, I like you, but let me level with you. You need to replace your General Counsel, pronto. He's not on the same page about regulatory reform, and it's a problem. There's really no place for obstruction by Fed staffers, even the General Counsel. It's time for him to go."

There was a further subtext, though, that I think should be highlighted, and that's "What you do about your GC is a shibboleth about whether you're serious on regulatory reform."

Continue reading "Translating the Warren-Yellen Exchange" »

TBTF and The Single Point of Entry (SPOE): Part Two

posted by Jay Lawrence Westbrook

In an earlier post I described the FDIC’s proposed SPOE approach to resolution of SIFI banks and other financial institutions under Title II of Dodd-Frank. That post discussed two of the three components of SPOE: control of the process by the regulator and no bailout for management or owners. This post lays out the role of the third component, the “forlorn hope” debt. Shutterstock_95970961

That debt is unsecured debt owed to a bank holding company (BHC) and predestined to get little or nothing in case of the failure of the BHC. It serves in effect as a debt reserve to buffer the financial distress of the bank group. By being dumped, it would make the group as a whole solvent. By contrast, legislation already passed by the House would ignore the need for the reserve, thus setting up another bank bailout. The reserve debt component of SPOE awaits a strong rule from the Fed to make it a reality. This post discusses what the rule must do.

Continue reading "TBTF and The Single Point of Entry (SPOE): Part Two" »

Busted Banks: TBTF and the Single Point of Entry

posted by Jay Lawrence Westbrook

Shutterstock_95970961A Single Point of Entry (SPOE) sounds like the route of a returning astronaut or perhaps a building’s security plan or even a sex guide, but actually it is the FDIC’s proposal for saving the financial system when a giant financial institution strikes out on the derivatives market or discovers it has a school of London Whales. SPOE is important because the FDIC and the Bank of England have agreed on it as the best approach to a global resolution of a failing SIFI, the polite term for a TBTF bank. That agreement is crucial, because the largest banks can only be resolved on a global basis.

SPOE is a method of resolution of a SIFI in financial distress without having to choose between a government bailout or the collapse of the global financial system. By contrast, legislation passed by the House would privatize the SPOE process and likely result in future bailouts. The legislation is being marketed under the term SPOE, but bears little relationship to the FDIC proposal. The three key aspects of the FDIC plan are that a) the resolution process will be controlled by the regulator; b) there will be no bailout of the SIFI’s owners and management; and c) the creditors of the parent holding company will be tossed overboard, returning the bank group to solvency by erasing debt and lessening the need for government money to make the process work. This post discusses the first two points, control and no bailout, while a second post will talk about the debt dump. 

Continue reading "Busted Banks: TBTF and the Single Point of Entry " »

A 21st Century Trust Indenture Act?

posted by Adam Levitin

MBS investors suffered a serious legal blow a couple of months back when the Second Circuit held that the Trust Indenture Act of 1939 doesn't apply to MBS

The Second Circuit's decision hinges on treating a "mortgage" as a "security." That's rather counterintuitive.  The Trust Indenture Act doesn't define "security," but refers to the Securities Act's definitions. The Securities Act defines "security" to include "any note" but the definition bears the caveat "unless the context otherwise requires." I'd think that the context would have pretty easily counseled for reading "note" not to include residential mortgages. What the Securities Act is trying to pick up are issuances of corporate notes.

Frankly, I think the Second Circuit's reading (and the resulting decision) are absurd.  First, it is hard to see any context in which "note" should be read to include "residential mortgage" (especially in light of all of the other things that constitute a "security" under the Securities Act, when Congress could easily have included a "mortgage" in the definition).  Second, the Second Circuit's reading arrives at an absurd policy result.  It excludes from the Trust Indenture Act the very sort of securities (proto-MBS) that were the driving force behind the creation of the Trust Indenture Act of 1939 (and the NY state Trust Indenture Act of 1935 before that).  The groundwork for the federal Trust Indenture Act was a 1936 SEC report authored by William O. Douglas, Jerome Frank, and Abe Fortas (among others) that documented in incredible detail the abusive role of trustees in mortgage bond reorganizations.  (While bankruptcy scholars have tended to focus on the railroad reorganizations chapter of the report, the real estate chapter is just as important, and goes a long way to understanding why Douglas was such a champion of the absolute priority rule.)

The point here isn't to belabor a questionable decision by the Second Circuit (which did not mention the policy issues in its decision, but I don't know if they were argued), but to underscore the ruling's consequence. At least in the 2d Circuit, it's now clear that MBS investors are not protected by the Trust Indenture Act, and that's a bad thing. This decision means that there's very little (if anything) protecting investors from wrongdoing by MBS trustees, whether acts of omission (e.g., failing to police servicers) or commission (e.g., entering into sweetheart settlements of rep and warranty liability). This is exactly what the Trust Indenture Act was supposed to prevent. If Congress cares about investor protection, it's time to devise a 21st century Trust Indenture Act. 

[Update:  A state securities regulator emailed me to draw my attention to the Supreme Court's 1990 decision in Reves v. Ernst & Young.  That decision expressly adopted an older 2d Circuit case's test regarding what is a security. That case excluded residential mortgage loans from the definition of "security" in the context of a securities fraud action. The 2d Circuit cited to its older decision (but not the Supreme Court's subsequent adoption of its test), but said that the context was different. Unfortunately, the 2d Circuit didn't think it was necessary to explain what about that context was sufficiently different to merit a different result. I can't see any plausible contextual distinction. There's really no context in which loans made for personal, family, or household purposes should ever be considered securities. They are subject to entirely different regulatory regimes, they are part of different markets, and no one would ever think to refer to such loans as securities. Except, apparently the 2d Circuit. It's one thing to arrive at the wrong conclusion after a serious analysis, but I am troubled that the 2d Circuit didn't bother to explain itself in this context.]  

 

Hacking and Systemic Financial Risk (Encore)

posted by Adam Levitin

The data breach stories just don't seem to stop. (And why would they?). The latest (I think) is about a massive and sophisticated multi-million dollar hacking of several banks.  If you read down through the story, one of the things the hackers did was manipulate the balances of real accounts.  They'd change a real $1,000 balance to $10,000 and then have $9,000 wired to an account at another institution.  

But why take out only $9,000?  The hackers were being nice, I suppose, in that they didn't steal any actual depositor's funds (as far as we know). And that was also probably smart, because if they zeroed out an account, there might be a bounced transaction that would alert the consumer and then the bank to the theft.  But I don't know that we can count on future hackers being so polite, considerate, or careful. Indeed, they might actually want to create havoc by messing with account balances.  

I raised this scenario several months ago, and before that a couple of years ago. I think today's news confirms that the financial Armageddon via hacking scenarios I have nightmares about aren't totally farfetched. Between state-sponsored hacking (I'm looking at you DPRK), terrorist hacking (ISIS and Newsweek), and rogue individuals, I think we're looking at a matter of when, not if, we see consequences from financial hacking that go beyond a few hundred million in losses and result instead in institutions failing. 

Size Matters: Community Banks' Real Problem

posted by Adam Levitin

Community banks are ailing.  Over the past decade many of them have failed or been gobbled up by larger banks. What's going on? 

A new study by a fellow and a masters student at the Harvard Kennedy School of Government thinks it has found the culprits:  Dodd-Frank!  The CFPB!  Regulation! Not surprisingly, this paper is already getting circulated by bank lobbyists as a prooftext for their anti-regulatory agenda. 

Let me make no bones about this study. It is gussied up to look like serious academic research, with footnotes and working paper series cover page, but don't let looks fool you. The study doesn't conform with basic norms of scholarship, such as discussing contrary evidence and having conclusions flow from evidence. Instead, the study is really a mouthpiece for a big bank anti-regulatory agenda that pretends to really be looking out for community banks.  

I'm not going to spend the time on a full-blown Fisking of this piece, but let me point out some serious problems and then talk about the real problem facing community banks and how big banks exploit community banks' problems to advance their own agenda. 

Continue reading "Size Matters: Community Banks' Real Problem" »

Corporate Recidivism? Ocwen's Charter Problems

posted by Adam Levitin

Last month mortgage servicer Ocwen (that's NewCo backwards) was mauled by the NY State Department of Financial Services. Now the California Department of Corporations is seeking to revoke Ocwen's license to do business in that state. 

Here's the thing that is often forgotten:  this ain't the first time!  Ocwen used to be a federal thrift. In 2005, however, Ocwen "voluntarily" surrendered its thrift charter in the face of predatory lending/servicing investigation. And here we are, a decade later. What's changed?  By the NY and California allegations, not much. In other words, we're looking at a potential case of corporate recidivism. I'll refrain from commenting on the merits of the allegations, but there should be zero tolerance for corporate recidivism. 

Continue reading "Corporate Recidivism? Ocwen's Charter Problems" »

Safe Banking

posted by Adam Levitin

Just in time for the new year, I've got a new article called Safe Banking up on SSRN. The article is a first principles reexamination of the industrial organization of financial services. It identifies the institutional combination of deposits and lending as the key problem in our financial system. We've developed an enormous financial regulatory state to attempt to hold these lending and deposits together, but it might be time to admit that bank regulation just doesn't work and can't. Our bank regulatory system is simply too complex and too politicized to work flawlessly as it must.

My solution is a radical, yet conservative structural change that has become possible because of recent technological and market changes: mandate the institutional separation of deposits from lending in both traditional and shadow banking markets, a reform I call "Pure Reserve Banking". Pure Reserve Banking means 100% reserve banking plus withdrawal of the entire panoply of government support and subsidization of shadow banking products. There's a host of financial stability and political economy benefits that would flow from such a change, but at core Pure Reserve Banking means ending the subsidization of a volatile growth economy in which gains are privatized and losses socialized and shifting to a more stable—and inherently equitable—growth economy.

The abstract is below the break:

Continue reading "Safe Banking" »

For the Soul of the Party: the Budget Showdown and Financial Reform

posted by Adam Levitin

Will we have an appropriations bill before a government shutdown? The fight over the 2015 Appropriations Bill is now focused on one of the non-appropriations measures stuck onto the bill by the House GOP. That provision would repeal section 716 of the Dodd-Frank Act, which prohibits bailouts of swap entities and pushes certain types of particularly risky swaps out of insured depositories. Section 716 might be thought of as the "Banks Aren't Casinos" provision of Dodd-Frank.

On the surface, the fight about section 716 looks like a partisan squabble. But the real issue is the internal Democratic Party struggle going on because if the Democratic leadership doesn't force party discipline in opposing the appropriations bill with this provision, the appropriations bill will likely pass. The outcome of the internal Democratic debate is frankly more important than whether section 716 gets rolled back. (I write that because I don't think the no-bailouts prohibition in section 716 is credible or that any prohibition on bailouts can be credible. When things get hairy, we'll bail, law be damned.) No, what matters here is how Democrats line up. The fight over section 716 is a struggle for the soul of the Democratic Party.

Continue reading "For the Soul of the Party: the Budget Showdown and Financial Reform" »

MetLife as a SIFI

posted by Stephen Lubben

Along with some thoughts about FSOC's designation of SIFIs in general, over at Dealb%k.

QRM's Missed Opportunities for Financial Stability and Servicing Reform

posted by Adam Levitin

There are three major new regulations shaping the housing finance market:  QM (qualified mortgage), QRM (qualified residential mortgage) and Reg X.  QM is a safe harbor from the statutory ability-to-repay requirement that applies to all mortgages.  QRM is a safe harbor from the statutory risk retention requirement that applies to mortgage securitization.  And Reg X are the new mortgage servicing regulations.  It's important to understand how these three regulations interact and how they're going to affect the housing finance market.  (There's also new TILA/RESPA disclosure stuff, but I don't think that's particularly impactful, in part because I don't think disclosure regulation is especially effective in most real world circumstances.) 

Continue reading "QRM's Missed Opportunities for Financial Stability and Servicing Reform" »

Are You Sure That's Your Testimony?

posted by Adam Levitin

Yves Smith has had some great coverage of the AIG bailout trail over on Naked Capitalism.  While the litigation, as Yves has characterized it, is a bit like a brawl between the ugly stepsisters, it's telling us all kinds of stuff we didn't know (or at least couldn't document) about the 2008-09 bailouts.   

Today's coverage is a must-read piece by Matt Stoller about the civil service regulatory capture at the Fed, as personified by its general counsel.  The AIG trial has highlighted some of the worldview problems at the Fed. It has also included some jaw-dropping exchanges like the following:

Q: Would you agree as a general proposition that the market generally considers investment-grade debt securities safer than non-investment-grade debt securities?
A: I don’t know.

You can't make this stuff up.  I'll let readers draw their own conclusions. 

Unseal the Doomsday Book!

posted by Adam Levitin

When I first heard about the NY Fed's Doomsday book, my initial thought was, "Wow, they've got a comprehensive survey of land titles, so MERS really isn't an issue!" Then I realized it was a Doomsday book, not a Domesday book. Apparently the Doomsday book is some sort of "in case of emergency" do-it-yourself bailouts manual that outlines the steps the NY Fed believes it can legally take to stave off economic Armageddon. 

I'm rather puzzled by the NY Fed's claim that it should be kept under seal.  I guess we'll find out more of the Fed's reasoning soon enough, but it hardly seems to be particularly sensitive of secret information.  This isn't the Coca-Cola recipe or some sort of trade secret. It's hard to believe that we didn't see the full panoply of the Fed's bailout powers on display in 2008, and perhaps then some. (A colleague has suggested that they might be developing some sort of secret, stress-tested, boilerplate clad bailout machine in the basement of the NY Fed. Of course such a bailoutbot would exercise its own free-living-will. Its only vulnerability would be following a haircut.)

The fact that the Doomsday book apparently contains legal advice is not a seal issue--that's a privilege issue. Once that privilege is waived (I'm guessing it has been), I can't see why the fact that the document includes legal advice presents cause for remaining under seal. 

Courts have a lot of discretion in what they can allow to remain under seal, but I just don't see the Doomsday book as fiting into traditional categories of sealed documents. But as I said, we will see.  

Hacking and Systemic Financial Armageddon

posted by Adam Levitin

The revelation that 76 million JPMorgan Chase consumer accounts were compromised by hacking should be scaring the heck out of us. The Chase hacking is a red flag that hacking poses a real systemic risk to our banking system, and a national security risk as well. Frankly, I find this stuff a lot scarier than either ISIS or our still largely unregulated shadow banking space.  

Consider this nightmare scenario:  what if the hackers had just zeroed out all of those 76 million Chase accounts and wipes out months of transaction history making it impossible to determine exactly how much money was in the accounts at the time they were zeroed out? The money wouldn't even have to be stolen.  Just the account records changed.  What would happen then?

Continue reading "Hacking and Systemic Financial Armageddon" »

Single-Point-of-Entry: No Bank Left Behind

posted by Adam Levitin

Last December the FDIC put out for comment a proposal for a Single-Point-of-Entry (SPOE) Strategy to implement its Orderly Liquidation Authority (OLA) under Title II of Dodd-Frank. Single-Point-of-Entry has gotten a lot of policy traction. The Treasury Secretary supports it and there’s huge buy-in from Wall Street.  And it’s an approach that is likely to ensure financial stability in the event that a systemically important financial institution gets into trouble.  There’s just one problem with it.  SPOE means “No Bank Left Behind”.  

Continue reading "Single-Point-of-Entry: No Bank Left Behind" »

MBS Settlements--Following the Money

posted by Adam Levitin

Financial crisis litigation has been going on for several years now and has been resulting in lots of piecemeal settlements. As a result, it's easy to miss the big picture.  There's actually been quite a lot of settlements covering a fair amount of money.  (Not all of it is real money, of course, but the notionals add up).  

By my counting, there have been some $94.6 billion in settlements announced or proposed to date dealing with mortgages and MBS.  

Continue reading "MBS Settlements--Following the Money" »

Once More, With ... Something

posted by Stephen Lubben

So we are again treated to what has become an annual tradition:  the analysis of Dodd-Frank on its anniversary.  The Republicans trot out a report critical of the Act, and the Democrats defend it.  Yawn.

Actually, this year the Republican report is not half bad.  Sure it contains the usual rubbish about the Community Reinvestment Act, which really had nothing to do with the crisis.

But in many respects, it raises good points and real concerns about whether Dodd-Frank actually solved the "too big to fail" problem, and whether regulators got off too easy by saying they needed new powers, while barely using the ones they already had.

The name on the cover will scare off some Slips readers – Chairman Hensarling's politics are rather strident, to put it mildly.  But the report deserves to be read.

On the other hand, former Congressman Frank's retort that "[t]he Dodd-Frank Act is clear:  Not only is there no legal authority to use public money to keep a failing entity in business, the law forbids it" is something of a head scratcher.

The law against bailouts is binding on Congress in the same way that Conan Doyle was bound by his decision to send Holmes to Reichenbach Falls.  

Dodd-Frank was a start, but we should not pretend it is perfect.  The Republican report raises some very important questions – I likely disagree with them about how to address those questions, but that does not take away from their importance.

And a Vision Thing

posted by Stephen Lubben

I note two of the more brazen attempts to undermine Dodd-Frank's FSOC, over at Dealb%k.

Larry Summers' Attempt to Rewrite Cramdown History

posted by Adam Levitin

Larry Summers has a very interesting book review of Atif Mian and Amir Sufi's book House of Debt in the Financial Times. What's particularly interesting about the book review is not so much what Summers has to say about Mian and Sufi, as his attempt to rewrite history. Summers is trying to cast himself as having been on the right (but losing) side of the cramdown debate. His prooftext is a February 2008 op-ed he wrote in the Financial Times in his role as a private citizen. 

The FT op-ed was, admittedly, supportive of cramdown. But that's not the whole story. If anything, the FT op-ed was the outlier, because whatever Larry Summers was writing in the FT, it wasn't what he was doing in DC once he was in the Obama Administration.

Let's make no bones about it.  Larry Summers was not a proponent of cramdown.  At best, he was not an active opponent, but cramdown was not something Summers pushed for.  Maybe we can say that "Larry Summers was for cramdown before he was against it." 

Continue reading "Larry Summers' Attempt to Rewrite Cramdown History" »

Book Review: Jennifer Taub's Other People's Houses (Highly Recommended)

posted by Adam Levitin

I just read Jennifer Taub's outstanding book Other People's Houses, which is a history of mortgage deregulation and the financial crisis. The book makes a nice compliment to Kathleen Engel and Patricia McCoy's fantasticThe Subprime Virus. Both books tell the story of deregulation of the mortgage (and banking) market and the results, but in very different styles. What particularly amazed me about Taub's book was that she structured it around the story of the Nobelmans and American Savings Bank.

The Nobelmans?  American Savings Bank? Who on earth are they? They're the named parties in the 1993 Supreme Court case of Nobelman v. American Savings Bank, which is the decision that prohibited cramdown in Chapter 13 bankruptcy. Taub uses the Nobelmans and American Savings Banks' stories to structure a history of financial deregulation in the 1980s and how it produced (or really deepened) the S&L crisis and laid the groundwork for the housing bubble in the 2000s.

Continue reading "Book Review: Jennifer Taub's Other People's Houses (Highly Recommended)" »

Regulation of Financial Politics

posted by Adam Levitin

I have a multi-book review essay on the financial crisis that is now out in the Harvard Law Review. Sadly, Timothy Geithner went to print to late for me to include his book. James Kwak has written a nice response to my essay here.   

Faith-Based Markets

posted by Adam Levitin

Paul Krugman has a column today about the blind, fundamentalist faith in efficient markets.  This is a phenomenon that Stephen Lubben and I have been discussing recently (did Krugman just preempt our paper idea?), as we've both encountered it in the financial regulatory policy debate: 

  • The Chapter 14 proposal that would resolve large financial institutions in bankruptcy takes it as a matter of faith that there would be sufficient private DIP financing available to resolve, say, JPMorgan Chase. I don't know how much would be needed, but it would be a multiple of the largest private DIP loans to date:  $10B for Energy Future Holding and $8B for Lyondell Chemical.  Where would the, perhaps $100B needed for a megabank come from?  Well, not from that megabank...  But don't worry, the market will provide.
  • Housing finance reform proposals that would either total privatize the housing market (the House Republican solution) or privatize 10% of the market (the Johnson-Crapo bill in the Senate).  We could have a completely private housing finance system.  But don't be surprised when home prices drop precipitously.  There just isn't enough private risk-capital willing to assume credit risk on housing to finance the whole market. It's not clear to me that there's enough private risk-capital willing to assume the credit risk on 10% of the market, and if there isn't it is going to result in at least a 50 basis point increase across the board, and much higher price increases for riskier borrower.  But don't worry about these details.  The market will provide. 

So here's the inconvenient paradox of market fundamentalism:  the idea that the free market can be directed. Either the market is free or it will follow direction, but it's not going to do both. Markets do what markets want.  

Continue reading "Faith-Based Markets" »

DIP Loans and the SIFI Problem

posted by Stephen Lubben

Word on the street is that the company formerly known as TXU – now known as Energy Future Holdings – is lining up the biggest private DIP loan ever. About $9 billion.

Still substantially less than the $33 billion that GM needed, and that is still much, much less than a global SIFI might need upon failure. A few years ago I suggested that number might be as high as $300 billion.

So why do we continue to pretend that private DIP lending can work in SIFI resolution? Do we really think the DIP loan market will provide more lending than usual during times of financial stress?

Everything You Wanted to Know about CLOs, But Were Afraid to Ask

posted by Adam Levitin

Well, not exactly. But for anyone who is interested, here is my written Congressional testimony for a House Financial Services Committee, Subcommittee on Capital Markets and GSEs hearing on "The Dodd-Frank Act's Impact on Asset-Backed Securities".  If you've been dying to understand the Volcker Rule's impact on ABS and on CLOs in particular, then this testimony is for you! 

Four main points of interests to non-technical readers: 

(1) The loan/security distinction regarding CLOs (securitizations of high yield corporate loan syndication interests) seems silly, but it's also really hard to say what makes a CLO different from a hedge fund.  

(2) The ultimate Volcker Rule concern about any type of ownership interest in an investment fund (be it a hedge fund, a private equity fund, a CLO, or any other type of ABS) is that there will be an implicit guarantee and we'll have deposit insurance funding a bailout of an uninsured, speculative investment fund, like we had with the SIVs. 

(3) skin-in-the-game credit risk retention for securitizations is unlikely to work when dealing with too-big-to-fail institutions.  If downside is socialized, credit risk retention won't align incentives of securitizers and investors.

 (4) The SEC needs to start taking its systemic stability mandate seriously. You're not just an investor protection shop any more SEC! 

The Basic Problem with "Chapter 14"

posted by Stephen Lubben

There has been a big push, from several different directions, to develop a more "free market" – as compared with Dodd-Frank's OLA – approach to financial institution insolvency, the Hoover Institute's "chapter 14" proposal being the most famous of these "pushes."

The problem is in the funding. Chapter 11 depends on private DIP funding, but even the largest DIP loans are much smaller than the liquidity needs of a SIFI.

And then there is another problem, highlighted in this morning's issue of the Daily Bankruptcy Review, which lists the top DIP lenders of 2013. Because the list is behind the DBR firewall, I'll let your know that it begins as follows:

  1. JPMorgan
  2. Credit Suisse
  3. Bank of America
  4. Goldman Sachs
  5. Citi

The Senate, Chapter 14, and a General Lack of Seriousness

posted by Stephen Lubben

Word on the street is that a proposal to add a chapter to the Bankruptcy Code to deal with SIFIs will be introduced this morning in the Senate. 

I had a chance to look at an early draft. My initial thought is that its quite hard to take the proposal too seriously when its bookended by (a) repeal of Title II of Dodd-Frank, otherwise known as OLA, and (b) a prohibition on any government provided DIP lending in a "chapter 14" proceeding.

In short, take away OLA and make sure the new replacement can't work either. The DIP loan any of these institutions would need would be at least ten times the size of the GM DIP loan, the largest on record. And remember who had to provide that loan ...

Isn't it about time that we have a serious conversation about these issues?

What's a Bailout?

posted by Stephen Lubben

Some thoughts over at Dealbook.

Her Majesty, the Vulture Investor

posted by Stephen Lubben

So this morning's FT tells us that Royal Bank of Scotland is in hot water for allegedly playing hardball with its borrowers, in the hopes of acquiring some of their assets on the cheap. That is RBS has adopted something of a "loan to own" strategy.

That would be perfectly dull news if RBS were a distressed investing fund. And while banks continue to talk about client "relationships" we might not be too surprised if they – through a special arm of the bank, of course – did the same thing. 

The trick in this instance is that RBS is largely owned by the UK government since its bailout. And unlike the larger US firms, RBS does not look likely to get out from government ownership anytime soon.

The government criticizing its own portfolio company then does have a certain element of naval gazing

And it leaves the real question of what the plan is.  Does the UK government want RBS to act like a cutthroat, nasty old private bank? Or does it want it to be kinder, gentler?

Securitization, Foreclosure, and the Uncertainty of Mortgage Title

posted by Adam Levitin

I've got a new article out in the Duke Law Journal entitled The Paper Chase:  Securitization, Foreclosure, and the Uncertainty of Mortgage Title.  The article is about the confusion securitization has caused in foreclosure cases because of the shift in legal methods for mortgage transfer and title that accompanied securitization. 

The Paper Chase is not exactly a short article, but if you're the type that's into reading about UCC Article 3 vs. Article 9 transfer methods for notes and MERS, then this piece is for you. There's a lot of technical stuff in the article, but there's also a discussion of the political economy of mortgage title and transfer law, and some thoughts on how to fix the legal mess we currently have.  Abstract is below the break:

Continue reading "Securitization, Foreclosure, and the Uncertainty of Mortgage Title" »

Still too big to fail

posted by Stephen Lubben


On the train back to NYC – with menus not often seen on the Northeast Corridor – after IMG_0748presenting my take on OLA after SPE (or SPOE, take your pick). All part of the Roosevelt Institute and Americans for Financial Reform's new report on what remains to be done with regard to financial reform.

The event was highlighted by a great speech on TBTF by former Slips blogger, Senator Warren.

Housing Finance Reform: the Role of the PLS Market

posted by Adam Levitin

I testified on housing finance reform today before Senate Banking. It was a strange experience being in the Hart and Dirksen Senate Office Buildings with the shutdown. The halls were eerily empty. Fortunately, the Senate Banking Committee is continuing to do the people's business.

My testimony focused on the ability of the private label securitization market to support the US housing finance system. Short answer is I'm skeptical that it can support more than a fraction of the market, and even to do that will require significant reforms, particularly focused on the duties and incentives of trustees and servicers.

Yves Smith has a generous and thoughtful write-up of the issue.  My testimony is here.  

Is This Normal? Can I Get a Meeting with the Attorney General?

posted by Adam Levitin

I'm floored that Attorney General Eric Holder was willing to take a private meeting with JPMorgan Chase CEO Jaimie Dimon while the bank is under criminal investigation and negotiating an enormous civil (and possibly criminal) settlement.  I can't recall something like this meeting happening before. There's not anything illegal about such a meeting, but the optics are really bad and underscore the privileged position of the too-big-to-fail banks.  

Yes, perhaps the AG should have some level of involvement in a multi-billion dollar settlement, but I would be quite surprised if he was very hands on with it, and meeting personally with Dimon certainly adds a explicit political flavor to the settlement discussions.   And it shows the special solicitious treatment and access that Dimon and JPM and other too-big-to-fail banks receive in DC.  

Who else is able to call up the AG and just get a meeting like that when their firm is under criminal investigation?  Do other citizens get talk things through mano-a-mano with the AG himself? That Dimon even thought to initiate direct contact with Holder suggests that he has no sense of his place in society--or perhaps that he in fact does.  Bottom line is that Dimon (and JPM) shouldn't get any more special treatment than any other citizen, but it sure looks like he did. 

Follow the Money: Payday Laundry Edition

posted by Adam Levitin

Gretchen Morgenson is asking some interesting questions about where the money comes to fund predatory loans. The issue boils down to this:  the most questionable consumer is not done by depositories.  It's done by finance companies or (prior to 2008) by mortgage banks.  That means that these lenders need another source of funding for their loans. That could be their investors' equity, but more typically it is via lines of credit from other financial institutions. Absent lines of credit from large financial institutions, the amount of high-risk lending done in the US would likely be substantially less.

I hope that bank regulators (and Congress) start asking why banks are willing to fund loans that they aren't willing to make directly themselves because of reputational concerns. The current situation looks a lot like a rent-a-BIN variation:  instead of the bank providing the front to avoid usury laws or to enable MC/Visa card issuance, here we have the rent-a-finance-company situation, with the banks basically undertaking predatory lending behind the mask of the finance companies. Specifically, it sure looks as if NY banks were financing on-line payday lenders that made loans to NY residents at rates that violated the NY usury laws. (Let me emphasize that the issue here is not whether payday loans are good or bad--that's a separate discussion--but simply whether the NY usury laws were violated.)

It's hard to believe that the banks didn't know that the on-line loans were being made into NY. While there is a legal question about whether the on-line lenders are subject to the NY usury law, this was a risk the banks seem to have been willing to accept.  I don't know if that's enough to rise to the level to justify charges like aiding-and-abetting or conspiracy or the like (does Destro bear guilt for COBRA's actions?), but it's hard to call it anything other than payday loan laundering. 

The Rule of Law in the Financial System

posted by Adam Levitin

Felix Salmon has a depressing blog post about the Fab Tourre verdict and a criminal conviction in another Goldman Sachs-related case.  Felix concludes, "I’m increasingly coming to the conclusion that America’s system of jurisprudence simply isn’t up to the task of holding banks and bankers accountable for their actions." 

Felix's observation underscores that we cannot and will not see sufficient and durable financial regulatory reform without political reform. This core Brandeisian insight (e.g., Other People's Money) has been lost during the course of the 20th century and its turn to technocratic financial regulation. (Add two parts capital and one part co-cos, mix with risk retention requirements and garnish with macroprudential regulation...) Notice that the one piece of the Dodd-Frank Act that changed the politics of financial regulation--the CFPB--is also where the pushback has been the strongest.  We need to stop seeing financial regulation as a matter of technocracy and start seeing it as a matter of political importance of the first order.  At stake is nothing less than the rule of law. 

Regulating Bank Governance: Mandating CEO-Chairman Division at Too-Big-to-Fail Banks

posted by Adam Levitin

For a while, the battle over whether to split the JPMorgan Chase CEO and Chairman positions looked like the corporate governance battle of the year, but seems to have ended with a whimper, rather than a bang. The media coverage of the issue, however, largely overlooked the unique, bank-specific aspects of corporate governance. Specifically, what's at stake in the corporate governance of a too-big-to-fail bank like JPMorgan Chase is not just the share price, but also the public fisc.  There is a strong federal regulatory interest in having good governance at too-big-to-fail banks because of our explicit (FDIC) and implicit (bailout) insurance of too-big-to-fail banks. This suggests that federal bank regulators and Congress should be pushing to ensure that too-big-to-fail banks conform with best practices in corporate governance. To the extent good governance at a too-big-to-fail bank includes division of the CEO and Chairman positions, ensuring such a division should be on the regulatory agenda. Financial regulation may need to include governance regulation.

Continue reading "Regulating Bank Governance: Mandating CEO-Chairman Division at Too-Big-to-Fail Banks" »

Who is Mel Watt?

posted by Jean Braucher

On May 1, President Obama nominated Rep. Mel Watt (D-N.C.) to be the director of the Federal Housing Finance Agency, the conservator for the mortgage giants Fannie Mae and Freddie Mac.

These two entities together currently back a large majority of new mortgages and hold or guarantee about half of all U.S. mortgages. Like other entities immersed in the mortgage market, Fannie and Freddie suffered great losses in the mortgage meltdown and were taken over by the federal government at the end of the Bush administration in September 2008.

Watt could be a key figure in the late stages of the mortgage crisis and in redefining the role of Fannie Mae and Freddie Mac going forward.  So who is this eleven-term congressman and what does he care about most?

Probably the most important points to stress are these:  He rose from humble beginnings through the meritocracy and is a Yale-educated lawyer who likes to immerse himself in the facts.  He is broadly respected at home in Charlotte, N.C., and represents a safe district where he has biracial support.  He carefully listens to the financial services industry, a major player in his community, and one that has supported his campaigns.  Most important of all, he has made working for the economic well-being of African Americans his life’s work, whether as a lawyer in private practice representing minority businesses or as a lawmaker seeking to shore up consumer protection, particularly to strengthen the legal basis for challenging predatory lending, often used against racial minorities and other vulnerable populations.

Continue reading "Who is Mel Watt?" »

IFR Scandal: Magnitude of Mortgage Servicing Failure

posted by Alan White
Screen shot 2013-04-14 at 9.56.52 AM

A remarkable tabulation of the more than 3 million homeowners found to have been victims of mortgage servicing errors or fraud was released last week by the Fed and other bank regulators.  About 25,000 foreclosures were started while homeowners were in bankruptcy, nearly 200,000 foreclosures were completed on homeowners in approved modification plans, and another 168,000 foreclosures sales were conducted while modification requests were pending. 

Recall that these wrongful foreclosure tallies include only servicing in 2009 and 2010, and that the 3 million estimated violations by 11 banks are out of a nationwide total of about 50 million mortgages outstanding, about 7 million of which were delinquent at any given time in that period. 

Worse, Senator Warren extracted an admission from bank regulators and the "independent consultants" at a hearing on Thursday (short version here) that neither the regulators nor the consultants checked the tally, which was produced by the bank servicers themselves.  The Fed and OCC also declined to release bank-by-bank tallies, or to share their investigation results with consumer victims who might want to seek compensation from the civil justice system.  If the large bank servicers are too big for the Fed and OCC to regulate, perhaps the CFPB can tackle this job when its mortgage servicing rules go into effect next January.

Banks, Governments and Cyprus

posted by Anna Gelpern

A key point is at risk of getting buried in all the din surrounding Cyprus's deposit levy (apparently poised for parliamentary defeat). To me it comes through most clearly in the latest from the tornado-chasing (or front-running?) duo, Lee Buchheit and Mitu Gulati. 

One message of the Cyprus program is that bank liabilities must not become sovereign liabilities. It is consistent with Europe's imperative of breaking the bank-government cycle. The approach implies that banks' creditors may suffer while the sovereign's creditors are spared--even in a systemic crisis. This might happen on purely ideological grounds (No Bailouts, Ever), or when the sovereign has no money/no appetite to nationalize the banks, or when government debt is a huge portion of the banking sector's assets. Proponents of the levy believe that going after the government's creditors here is both pointless and bad for incentives. Best to keep the banks separate, and to attack the problem at the source.

My hunch is that this entire line of argument is farcical, because banks and governments are, and always have been, joined at the hip. The purported separation is an accounting cover-up.  The fact that the separation is accomplished by means of mega-financial repression underlines the irony.

Continue reading "Banks, Governments and Cyprus" »

Cyprus: Is the Precedent Worth $7.25B?

posted by Adam Levitin

Stepping back from the Cyprus bail-in, I'm wondering if it is penny-wise, pound-foolish. The depositor tax is only supposed to raise about $7.25 billion (5.8 billion Euros).  Given the risks created by a bailout being rejected and the risk of runs created in other countries, does it really make sense to demand the depositor tax?  $7.25 billion seems like a really cheap price for avoiding the problems that the Cyprus depositor tax is making. Indeed, in the big picture, the whole Cyprus bailout package is only around $23 billion.  It makes me wonder why the EU doesn't just lump the whole thing.  (Easy for me to say when I'm not paying...)

There is, of course, a strong equity argument for parallel treatment of all bailed-out countries, and that suggests that Cyprus should have to pay like any other country. But that argument cuts both ways:  it means no freebies, but it also means just austerity measures, rather than a bail-in. 

Cyprus as Precedent: Will There Be Bank Runs Elsewhere?

posted by Adam Levitin

Anyone want to take bets on whether there will be runs on Italian, Spanish, and Portugese deposits? That's my bet. I'm not sure that we'll see small retail depositor runs, but I would predict that high dollar deposits in all of those countries will start flowing abroad very fast before any capital controls can catch up with them. And that will push up borrowing costs for those banks if they want to retain high-dollar deposits.

Cyprus Bailout: What Happened to Absolute Priority?

posted by Adam Levitin

Cyprus seems to be the next European domino to fall to bailoutitis.  Here's the situation as I understand it. Cyprus has unmanageable government debt, not least because of the liabilities that stem from supporting the insolvent banking sector. The EU will put in money to pay off Cyprus's bondholders, but only if there is a copay from Cypriot taxpayers.  Cyprus seems to have decided that the best way to do this co-pay is a (supposedly) one-time tax on all bank deposits. The tax is slightly progressive, with a higher rate on big Euro deposits.  

There is, of course, always the issue of whether there should be a bailout. But putting that aside, the problem with the Cypriot bailout, as I see it, is that it is a bail-in that does not comply with absolute priority because being done through the tax system, rather than through an insolvency proceeding. The problem isn't that Cypriot depositors have to make a co-pay, but that the co-pay costs are not being divvied up among Cypriot depositors and the other creditors and equityholders of Cypriot banks either per absolute priority or ratably. For all of the complaints about absolute priority violations with GM and Chrysler's bankruptcies, the Cypriot situation looks much worse. 

Continue reading "Cyprus Bailout: What Happened to Absolute Priority? " »

TBTF or Maybe WT-?

posted by Stephen Lubben

So the financial industry got a surprising amount of press over their obviously ridiculous statement that too big to fail no longer exists. Thankfully most saw this for what it was.

If I announced that bankruptcy professors are underpaid would the press cover that too?

But the actual claim made in press release is pretty interesting and easily overlooked. The bankers assert

since the passage of Dodd-Frank, any cost of funding advantage has been dramatically reduced or even eliminated.  In fact, two recent studies conclude that markets are now imposing a cost of funding premium on large banks of up to 35 basis points.

Read closely, the first sentence means (a) "we still get a subsidy, just not so much as before" or (b) "somehow Dodd-Frank precisely eliminated our subsidy without going too far, who knew Congress could be so precise?"

Or perhaps the second sentence suggests that Congress was not so precise after all?  That is, does the funding premium (if it really exists – Bloomberg casts doubt on that) suggest the business model of TBTF is no longer viable ... oh dear, better not say that in the press release!

Why the Independent Foreclosure Reviews Were Doomed to Fail

posted by Adam Levitin

Apparently part of the bank flaks' talking points regarding the foreclosure reviews is that to the extent homeowners harmed by wrongful foreclosures, they were actually drug dealers. The message: we didn't foreclose on anyone who didn't deserve it. We were just foreclosing on some scumbags and doing you all a favor by getting the meth lab out of the neighborhood before it blew up. We're part of the war on drugs. 

This talking point is particularly revealing, I think, both about how seriously our largest financial institutions take sanctity of contract, and about the nature of the whole independent foreclosure review sham.  

Continue reading "Why the Independent Foreclosure Reviews Were Doomed to Fail" »

Con Law Lessons

posted by Stephen Lubben
Uniting my current teaching load with Dodd-Frank, over at Dealb%k.

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