On January 12th of this year, the Consumer Financial Protection Bureau issued it’s new mortgage servicing rules via a long-awaited press release. “For many borrowers, dealing with mortgage servicers has meant unwelcome surprises and constantly getting the runaround. In too many cases, it has led to unnecessary foreclosures. Our rules ensure fair treatment for all borrowers and establish strong protections for those struggling to save their homes.” said CFPB Director, Richard Cordray.
The new servicing rules highlight three basic areas of mortgage servicing: foreclosure avoidance, servicing transparency, and uncomplicated business procedures. The consumer Finance Protection Bureau has obviously done their homework. They probably conducted polls to find out what the major complaints were among those who were experiencing mortgage foreclosures. In the early to mid 2000’s, most American homeowners who found themselves trapped in bad mortgages were not wholly to blame as some would argue. Sure, there is something to be said for paying attention to what their loan paperwork actually said, but what if the loan originator had an ulterior motive that had absolutely nothing to do with what was even on the paperwork? Did not that loan originator have a fiduciary responsibility to their client? The answer to that obviously rhetorical question is, yes. In doing research to write this blog, I purposely read articles from differing perspectives – from the more conservative Wall Street perspective as well as from writers who had a more liberal perspective.
The differences between liberal and conservative perspectives on this issue were stark. The wall street pundits blame globalization, Trade deficits, market upheaval, shadow banking systems, world-wide fixed income investment increases, and artificial currency manipulation in the East. Liberal economists like Paul Krugman tended to focus on US Monetary Policy, Foreign Policy, and individuals like former Chairman of the Federal Reserve, Allen Greenspan, his predecessor, Ben Bernanke and their anti-regulation policies. Allen Greenspan publicly admitted during a Congressional hearing that he “had made a mistake in presuming that financial firms could regulate themselves.” In a Wall Street Journal article, columnist David Henderson, wrote, “It’s become conventional wisdom that Alan Greenspan’s Federal Reserve was responsible for the housing crisis. Virtually every commentator who blames Mr. Greenspan points to the low-interest rates during his last few years at the Fed” Henderson was referring to the decision Allen Greenspan made to lower interest rates from 3.5% to 1% in the wake of the 911 attacks and end of the Internet tech-bubble in hopes of avoiding an economic slowdown. I vaguely remember then President Bush telling America the best response to the 911 attacks was to, “go shopping.”
So let’s bring this thing back to Main Street America because that’s where you and I live – and because it was we who paid the price for Wall-Streets’ mistakes and Washington’s’ wrong-headed monetary policies. Now that the damage has been done, and lives have been ruined, we now look to our political ‘knight in shining armor’, the Consumer Financial Protection Bureau; the bureau that was birthed amidst a fire-storm of right-wing resistance, and was the brain-child of the champion of consumer rights herself – Elizabeth Warren. After all, it was she who originally sounded the clarion call in Congress to make those, “too big to fail” financial institutions pay back their TARP handouts, and pushed for more regulation of the financial services industry as a whole.
There is no longer any doubt in anyone’s mind that predatory lending was not just a phenomenon, it was going on before the credit crunch, and will continue if it is not stopped. It is malicious, destructive, and it is pervasive. It was born out of pure greed. The question is how to stop it. The CFPB has taken a very effective first step, but I believe the the problem goes much deeper than regulating the loan servicing department of a bank or financial institution. I believe the root of the problem is the securitization of Credit itself. In their book, The Securitization of Credit, James A. Rosenthal and Juan M. Ocampo, define credit securitization like this: “Credit securitization is the carefully structured process whereby loans and other receivables are packaged, underwritten, and sold in the form of securities (instruments called asset-backed securities).”
The causes of the 2007 mortgage default crisis has been described as a “systemic event,” meaning that the entire US financial system was in crisis to the point of insolvency. Too big to fail is no joke. If Citi-group, Bank of America, AIG, and the other too big to fail financial institutions had not received TARP funds, the United States would have collapsed financially, and yes, we would have had another Great Depression on our hands. While I truly believe the CFPB has committed some of the best legal and economic minds we have in this country to solving this problem, I cannot believe anything less than a total overhaul of our financial system is the only remedy that will prevent this from happening again. It may not happen in the mortgage/housing industry, but possibly another sector. In an excellent paper written by Gale Gorton and Andrew Metrick of Yale University, they describe the securitization of credit like this:
What if those trade offs weren’t there? If you knew you could take risks without consequences, would you take more risk? What if someone else had to suffer the consequences of your actions? Moreover, Wikipedia notes: That is essentially what happened in mortgage default crisis with respect to the originators of sub prime loans, many may have suspected that the borrowers would not be able to maintain their payments in the long run and that, for this reason, the loans were not going to be worth much. Still, because there were many buyers of these loans (or of pools of these loans) willing to take on that risk, the originators did not concern themselves with the potential long-term consequences of making these loans. After selling the loans, the originators bore none of the risk so there was little to no incentive for the originators to investigate the long-term value of the loans. A party makes a decision about how much risk to take, while another party bears the costs if things go badly, and the party isolated from risk behaves differently from how it would if it were fully exposed to the risk.
Until the CFPB, the FTC, and Dodd-Frank can construct a systemic remedy for moral hazard in the financial services industry, you can bet the love of money will undoubtedly cause another financial catastrophe similar to the mortgage default crisis 2007.
The new servicing rules highlight three basic areas of mortgage servicing: foreclosure avoidance, servicing transparency, and uncomplicated business procedures. The consumer Finance Protection Bureau has obviously done their homework. They probably conducted polls to find out what the major complaints were among those who were experiencing mortgage foreclosures. In the early to mid 2000’s, most American homeowners who found themselves trapped in bad mortgages were not wholly to blame as some would argue. Sure, there is something to be said for paying attention to what their loan paperwork actually said, but what if the loan originator had an ulterior motive that had absolutely nothing to do with what was even on the paperwork? Did not that loan originator have a fiduciary responsibility to their client? The answer to that obviously rhetorical question is, yes. In doing research to write this blog, I purposely read articles from differing perspectives – from the more conservative Wall Street perspective as well as from writers who had a more liberal perspective.
The differences between liberal and conservative perspectives on this issue were stark. The wall street pundits blame globalization, Trade deficits, market upheaval, shadow banking systems, world-wide fixed income investment increases, and artificial currency manipulation in the East. Liberal economists like Paul Krugman tended to focus on US Monetary Policy, Foreign Policy, and individuals like former Chairman of the Federal Reserve, Allen Greenspan, his predecessor, Ben Bernanke and their anti-regulation policies. Allen Greenspan publicly admitted during a Congressional hearing that he “had made a mistake in presuming that financial firms could regulate themselves.” In a Wall Street Journal article, columnist David Henderson, wrote, “It’s become conventional wisdom that Alan Greenspan’s Federal Reserve was responsible for the housing crisis. Virtually every commentator who blames Mr. Greenspan points to the low-interest rates during his last few years at the Fed” Henderson was referring to the decision Allen Greenspan made to lower interest rates from 3.5% to 1% in the wake of the 911 attacks and end of the Internet tech-bubble in hopes of avoiding an economic slowdown. I vaguely remember then President Bush telling America the best response to the 911 attacks was to, “go shopping.”
So let’s bring this thing back to Main Street America because that’s where you and I live – and because it was we who paid the price for Wall-Streets’ mistakes and Washington’s’ wrong-headed monetary policies. Now that the damage has been done, and lives have been ruined, we now look to our political ‘knight in shining armor’, the Consumer Financial Protection Bureau; the bureau that was birthed amidst a fire-storm of right-wing resistance, and was the brain-child of the champion of consumer rights herself – Elizabeth Warren. After all, it was she who originally sounded the clarion call in Congress to make those, “too big to fail” financial institutions pay back their TARP handouts, and pushed for more regulation of the financial services industry as a whole.
There is no longer any doubt in anyone’s mind that predatory lending was not just a phenomenon, it was going on before the credit crunch, and will continue if it is not stopped. It is malicious, destructive, and it is pervasive. It was born out of pure greed. The question is how to stop it. The CFPB has taken a very effective first step, but I believe the the problem goes much deeper than regulating the loan servicing department of a bank or financial institution. I believe the root of the problem is the securitization of Credit itself. In their book, The Securitization of Credit, James A. Rosenthal and Juan M. Ocampo, define credit securitization like this: “Credit securitization is the carefully structured process whereby loans and other receivables are packaged, underwritten, and sold in the form of securities (instruments called asset-backed securities).”
The causes of the 2007 mortgage default crisis has been described as a “systemic event,” meaning that the entire US financial system was in crisis to the point of insolvency. Too big to fail is no joke. If Citi-group, Bank of America, AIG, and the other too big to fail financial institutions had not received TARP funds, the United States would have collapsed financially, and yes, we would have had another Great Depression on our hands. While I truly believe the CFPB has committed some of the best legal and economic minds we have in this country to solving this problem, I cannot believe anything less than a total overhaul of our financial system is the only remedy that will prevent this from happening again. It may not happen in the mortgage/housing industry, but possibly another sector. In an excellent paper written by Gale Gorton and Andrew Metrick of Yale University, they describe the securitization of credit like this:
“An important part of the subprime mortgage innovation was how the mortgages were financed. In 2005 and 2006, about 80 percent of the subprime mortgages were financed via securitization, that is, the mortgages were sold in residential mortgage-backed securities (RMBS), which involves pooling thousands of mortgages together, selling the pool to a special purpose vehicle (SPV) which finances their purchase by issuing investment-grade securities (i.e., bonds with ratings in the categories of AAA, AA, A, BBB) with different seniority (called “tranches”) in the capital markets. Securitization does not involve public issuance of equity in the SPV. SPVs are bankruptcy remote in the sense that the originator of the underlying loans cannot claw back those assets if the originator goes bankrupt. Also, the SPV is designed so that it cannot go bankrupt.”
It stands to reason that any player in the financial services industry will undoubtedly experience what liberal economist, Paul Krugman calls ‘Moral Hazard.’ Moral is a concept saying that people will take risks if they have an incentive to do so. The idea is that people might ignore the moral implications of their choices. Instead, they will do what benefits them the most. Most people understand the trade off between risk and reward. If you take risks, there may be consequences. However, you might be rewarded.What if those trade offs weren’t there? If you knew you could take risks without consequences, would you take more risk? What if someone else had to suffer the consequences of your actions? Moreover, Wikipedia notes: That is essentially what happened in mortgage default crisis with respect to the originators of sub prime loans, many may have suspected that the borrowers would not be able to maintain their payments in the long run and that, for this reason, the loans were not going to be worth much. Still, because there were many buyers of these loans (or of pools of these loans) willing to take on that risk, the originators did not concern themselves with the potential long-term consequences of making these loans. After selling the loans, the originators bore none of the risk so there was little to no incentive for the originators to investigate the long-term value of the loans. A party makes a decision about how much risk to take, while another party bears the costs if things go badly, and the party isolated from risk behaves differently from how it would if it were fully exposed to the risk.
Until the CFPB, the FTC, and Dodd-Frank can construct a systemic remedy for moral hazard in the financial services industry, you can bet the love of money will undoubtedly cause another financial catastrophe similar to the mortgage default crisis 2007.
Related articles
- CFPB to Help Mortgage Industry With Implementation of Rules (broadcastarchives.net)
- U.S. Mortgage Overhaul Turns Eyes on Borrowers (bloomberg.com)
- Warren, Brown, Reed demand majority vote on Cordray nomination (dailykos.com)
- New Mortgage Rules Readied by CFPB as Banks Seek Time to … – Bloomberg (bloomberg.com
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