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“A Washington View on the Year Ahead”

“A Washington View on the Year Ahead”. Professor Peter Swire Ohio State University Formerly, Special Assistant to the President for Economic Policy Zelman Distressed Housing Forum December 10, 2010. Overview. Foreclosure-gate: the back office & the UCC

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“A Washington View on the Year Ahead”

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  1. “A Washington View on the Year Ahead” Professor Peter Swire Ohio State University Formerly, Special Assistant to the President for Economic Policy Zelman Distressed Housing Forum December 10, 2010

  2. Overview • Foreclosure-gate: the back office & the UCC • Robo-signing opens the door politically to reform of MSRs • Has D.C. fallen out of love with homeownership? • Mortgage interest deduction • GSEs have subsidized lower mortgage rates • New political climate creates risk for the traditional support for homeownership • Summary on next year in Congress • Disclaimer: left White House in August. My current assessment here, not confidential government information.

  3. Foreclosure-gate & the Back Office • What we saw in the S&L crisis • During the bubble, little attention in general to paperwork • Some fraud, as in Keating • Widespread lack of documentation • Back office of servicers and others in mortgage chain? • Servicing in this decade a low-margin business • Available funds were spent on phone calls etc. to collect payments • How much spent on assuring excellent back-office practices? • How many of the relevant players are bankrupt or merged, so tracing paperwork is harder?

  4. Foreclosuregate & the UCC • Fact: key law professors expert in the Uniform Commercial Code believe that foreclosure-gate is worse than the market is betting • Favorite current legal theory: the notes were not properly transferred to the trust; the transfers were thus void; the trust thus has no assets. If correct: • Defense for homeowners against foreclosure • MBIA and others have strong claims • MBS investor suits waiting in the wings • Response is that form will not triumph over substance – judges won’t give homeowners a free ride to stay in the home • Key variable – in decentralized court system, what fraction of judges will stick with formalities vs. let banks foreclose?

  5. From Robo-signing to MSR Reform • Fact 1: robo-signing and failure to get papers notarized are specific operational failures in mortgage servicing; • Fact 2: Congress and the regulators have now begun to look under the hood of mortgage servicing generally • Sheila Bair (FDIC) this month called for “broad based reform of mortgage servicing” to address “misaligned incentives”; • Dan Tarullo (Fed) called for “new national standards for servicers”; these may be done through Consumer Financial Protection Bureau • The saying that “there’s no such thing as bad publicity” may be wrong here • One possibility – with new spotlight on mortgage servicing, and huge challenges to passing general GSE reform, a reform package on mortgage servicing could come first • Bair has often been a leading indicator of regulatory change

  6. MSR Reform • “Misaligned incentives” – investors, GSEs, FHA, consumers all concerned that current servicing structure not working well for them • Servicers not thrilled either, with high costs and looming capital rule changes • The Fed’s testimony for “national standards” for servicers invites comparison to consumer protections of Fair Credit Reporting Act • Spotlight on servicing companies (MSRs; credit reporting agencies) • Their clients are major corporations (investors in MBS; lenders) • Consumers are not the customers, but can suffer serious harm (lack of a mod/high fees/etc.; incorrect credit history) • Conclusion – possibility that reform of MSRs could be down payment on housing finance reform, in Congress or by reg: • Logically, hard to do new forms of securitization until know how to service the loans • Hard to do full GSE reform soon, so do this piece first?

  7. Has D.C. Fallen Out of Love with Homeownership? • Previously, a loving relationship • Republicans praised “the ownership society” and often allied with builders and developers • Democrats supported expanding the range of families who could own homes, seeing a home as the pathway to the middle class • What might be causing a break-up? • From fifty years of faithful rises in housing prices to betrayal and price falls • A couple of hundred of billions of dollars lost can ruin a good relationship – GSEs, FTHBC, and other housing support cost a lot • Democrats angry at abuses in subprime • Republicans (and everyone else) mad at the “bailouts” • Consensus that the current relationship simply can’t last

  8. Hit the Housing Subsidies? • Mortgage interest deduction on the table • Bowles-Simpson Commission recommends cutting, for deficit reduction of >$100 billion/year • Critiques of current deduction • Encourages “too much house” per family • Question whether housing sector deserves subsidy vs. manufacturing & other sectors • Regressive – bigger benefits for upper-income families in larger houses • Second liens especially under scrutiny because of the problems revealed since the crisis hit – do first lien investors want government subsidies for seconds? • Historically, the deduction untouchable , but …

  9. Hit the Housing Subsidies? (part 2) • Implicit (now explicit) guarantees for Fannie/Freddie have reduced mortgage rates by about 25 bp • That was approximate advantage of F/F over major banks pre-crisis • Many doubt whether new housing finance system, whenever it passes, will have this goal of reducing mortgage rates • More focus on “tail risk” – role of the guarantees in providing support in a crisis, not during normal times • Cut in subsidies would likely mean a one-time hit to housing market • If $10 out of $100 is subsidy, new price at $90 (not actual estimate) • Prices have bounced so much that the one-time hit may not be as visible as usual vs. risky to take the hit when so many are underwater • History of D President and R Congress cutting deficit

  10. Republicans in Congress • Tea Party – end subsidies, spending, and bailouts • Housing subsidies can be cut • Allies with home builders, realtors, etc. • Traditional support for development and home building • But, harder now to support bailouts and subsidies • Allies with banks • Ten years ago, the banks lobbied hard against the GSEs, seeking bigger market share in origination and securitization • That position would mean cutting the GSE subsidy and minimizing any guarantee • Today, less clear how to do securitization without explicit government guarantee • So, more support for a modified version of GSE guarantee • Banks are long on the housing market, so big one-time hit, such as cut in subsidy, is a risk for them

  11. Conclusion: Next Year in Congress • Administration has promised legislative proposal for GSE reform in 2011 Q1. • Few think the big GSE package can move forward in this Congress • Rs see GSE as political wedge issue: bailouts, welfare, socialism • Ds want to preserve affordable housing, but that has become a flashpoint for controversy; fairness to “multifamily” as one possible new message for what a “balanced” housing policy would look like • Temptation to “do something” could lead to MSR or other piecemeal reform, or regs as the Fed seems to contemplate • But the default setting for the next two years is gridlock in Congress – “change,” to the extent it happens, will come elsewhere

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