The problem is that Republicans and their greedy corporate allies destroyed the economy

[ProSense]

There is no easy fix. Everything is interconnected.

Draconian Measures

by digby

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In my post yesterday I mentioned Iceland's rather radical solution. (They are proposing to wipe all debt clean and start over.) Here's economist L. Wrandall Wray who's been thinking along similar lines:

This is a complete mess. What President Obama must understand is that fraud is endemic at every level of the home finance food chain. We were long told that securitized mortgages cannot be modified because of the complexity involved—modification of most mortgages would require consent of the holders of the securities that each have a piece of the mortgage. But actually it is impossible to tell how many—if any—of these securities holders have a legitimate claim on any of the mortgages. Simply imposing a moratorium will not be enough—it will just give the banks time to manufacture false documents, encouraging even more fraud. Meanwhile, half of all homeowners with mortgages are already underwater or are within spitting distance of being underwater. Many of these are drowning because the epidemic of fraud perpetrated by financial institutions destroyed our economy and caused housing prices to collapse.

The President needs to try a different approach, consisting of the following series of steps:

1. Declare a national bank holiday that would close the biggest financial institutions—say, the top dozen or so. Send in the supervisors to examine their books to uncover fraud. Determine which ones are insolvent and resolve them. While resolving them, net their claims on one another (including derivatives). Do not allow any insolvent institutions to reopen, and do not use the resolution process to merge institutions (we don't need even bigger “too big to fail” banks). Prosecute the crooks and jail the guilty.

2. Stop all foreclosures. Investigate and prosecute all institutions that have been selling or buying fake documents to be used in foreclosures. Prosecute the crooks and jail the guilty.

3. Announce that all homeowners who occupied their homes on October 1, 2010 will be allowed to remain in their homes indefinitely. Create a national mediation board to adjust all mortgage payments to “owner's equivalent rent”—the fair value of rent for the home. Establish a fund to provide rental assistance to keep low income homeowners in their homes.

4. Give purported mortgage holders 30 days to produce the original notes; if they cannot find them, hand the homes over to the owner-occupants—free and clear of debt.

5. Create a process to allow securities holders to sue for recovery of value. This must be national—state courts will not be able to handle the case load.

6. Direct the GSEs to refinance mortgages at a low fixed rate. Mortgages would be provided against real estate appraised at fair market value to any borrower for a primary residence. The GSEs would pay holders of existing mortgages only current fair market value. Those holding these mortgages can seek redress through the process outlined in step 5. Only in the case of borrower fraud would the homeowner be held responsible for losses attributed to the refinancing.

7. There will be fall-out from losses. It is better to deal with the collateral damage directly than to prop up the control fraud banks. For example, pension funds hold toxic waste securities as well as equities in the control fraud banks, and by all reasonable accounting the Pension Benefit Guarantee Corporation is already insolvent. But it is better to directly bail-out pensions than to maintain the charade that fraudulently created securities have value.

Bill Black likes to joke that economists are afraid to use the “F” word (fraud). The President must come to realize that there is no other word that can be applied to the US home finance system. Until we deal with the fraud we will never resolve this financial crisis.

Regardless of whether or not any of these things come to pass, there's little doubt that this is a scandal of epic proportions that won't be swept under the rug. I have zero ideas about how it's going to play politically. It's fraught with danger for Democrats since it's happening right in the middle of the administration. But if they see it this time as a problem for citizens rather than a problem for banks and the markets, they might just find some political support for their actions.

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The Breakdown of the U.S. Mortgage Market

by Mike Konczal

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The real debate for me is: why are we having so many foreclosures? Think of the iconic example of a local housing bubble, Texas in the 1980s. Here’s how bad the foreclosure rate got:



That was after a pretty vicious oil and housing bubble popped around 1986, and we don’t see anywhere near as many foreclosures as we do now (the number has gone up throughout 2009 and 2010).

Because the first rule of mortgage lending is you don’t foreclose. And the second rule of mortgage lending is you don’t foreclose. For all the talk about how principal modifications will harm other economic parties, it’s the other way around. Imagine a house is worth $200,000, but the mortgage is worth $300,000. The homeowner can’t make the payments at $300,000 but can at $250,000. If the homeowner’s principal isn’t written down, the bank seizes the house and sells it at… $200,000. And that assumes they don’t lose 30+%, as is common for a foreclosure sale. This loss will raise the cost of capital for everyone else. Why is it breaking down this way?

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Last bit of real talk: there’s no point in making a partial payment on a mortgage from the standpoint of keeping the mortgage current. If your mortgage payment is $1,000, and you pay $900, you aren’t any more current for it. Is there an instrument we can use to see if people are trying to stay current and make some sort of payment? Here’s one from Mr. David Lowman, Chief Executive Officer, JPMorgan Chase Home Lending, at a House committee on “Second Liens and Other Barriers to Principal Reduction as an Effective Foreclosure Mitigation Program”:

It is important not to confuse payment priority with lien priority. In almost all scenarios, second lien holders have rights equal to a first lien holder with respect to a borrower’s cash flow. The same is true with respect to other secured or unsecured debt, such as credit cards or car loans. Generally, consumers can decide how they want to manage their monthly payments. In fact, almost 64% of borrowers who are 30-59 days delinquent on a first lien serviced by Chase are current on their second lien. It is only at liquidation or property disposition that first lien investors have priority.

So what you see is a lot of people, over half, who have stopped paying the first lien are trying to make some sort of payment. (In a way that strikes me as a weird conflict of interest if it’s consistent across all servicers. Talk about bad financial literacy.) If there’s ever been evidence that rather than trying to leech out a vacation, there are a large number of people trying to get current on their loans, trying to pay something to stay in their homes, it’s this number proving that people are paying the smaller junior lien first. Why can’t the system meet them halfway?

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2008: George Bush, proud parent of the mortgage crisis

2010: Wall St. pins foreclosure fiasco on homeowners

[tridim]

1. The first paragraph is a perfectly succinct description of the problem

I've been having trouble boiling it down to a few sentences, while trying to explain it to people.

As for the second article, I know why my bank wants to foreclose. It's because Chase "assumed" my mortgage from WaMu for $0.00, thanks to TARP. They still make a profit if it sells at auction for $1.00.

[ProSense]

2. People need to stop

pretending that this is a typical recession. The country was on the verge of a severe depression.