FreeMarketUnderBlog

One Way to Deal with the Mortgage Meltdown Crisis

Subsidize the mortgage write-down process to facilitate the rewriting of problem loans

There is currently a great deal of consternation regarding the home mortgage mess, and a great deal of debate regarding possible solutions. Various plans have been thrown about (many of which constitute election-year political grandstanding) that vary from freezing adjustable rate mortgages to allowing the Fed or some agency of Uncle Sam to “buy” delinquent mortgages from anyone unfortunate enough to own some.

As usual, I am strongly in the free market camp. The free market is largely responsible for this fiasco (with a little help, of course, from unscrupulous mortgage brokers, greedy high-financiers, and reckless/clueless/greedy investors/money managers), so we should allow the free market to take its course to resolve the problem - regardless of the pain and punishment meted out along the way. The sooner the readjustment starts, the sooner the cleansing process can complete. Then we can be on our way, good, bad or indifferent. The free market is seldom perfect, but often when the government comes up with the solution, the cure is worse than the disease. (Just look at the “success” of the decades-long War on Drugs.)

Nonetheless, when there are serious proposals that involve the taxpayers (i.e. you and me) picking up the potentially gigantic tab, I can’t resist the temptation to submit a perhaps slightly more reasonable plan. To wit, I hereby submit The Great Mortgage Write-down Match, or GMWM.

My plan for the GMWM involves a matching program whereby Uncle Sam (or one of its tentacles) would match the amount of the write-down that a holder of any delinquent mortgage loan is willing to take in order to re-write the mortgage into new terms. The write-down amount would be completely forgiven with respect to the borrower/homeowner, and would be immediately recognized on the lender’s books as such. The new terms would have to be on a conforming basis, that is, it must qualify as a Triple-A mortgage, or nearly so, as opposed to just a slightly smaller, but still sub-prime, foreclosure in waiting.

For example, if a lender has a $300,000 home as collateral on a $320,000 loan with an adjustable rate that has risen just high enough that the homeowner can’t quite make the payments, the lender can choose to write down the balance of the loan to, say, $240,000, with the lender and Uncle Sam sharing in the $80,000 write-down equally at $40,000 each. The new loan, of course, would have to result in a payment that the homeowner can reasonably handle. The beauty of this approach is that it avoids the “Free Money!” problem that usually infests government programs. Since the lender loses some serious skin in this game, and deservedly so, it will act as a natural check against the usual expectations of Uncle Sam footing the entire bill.

Sensible underwriting guidelines would, of course, have to be instituted, although I don’t see this as a major obstacle. Simply go back to the Fannie Mae underwriting guidelines of about two decades ago. If you’re old enough, you’ll remember those silly little rules such as a maximum loan amount of 80% of the collateral value, a minimum credit score of 680, and a maximum debt/income ratio of 36%. Yes, that’s right. This is no typo. Way back in the quant 1980s your total monthly debt obligations (i.e. mortgage plus all other loan payments) could be no more than 36% of your gross monthly income.

Will this approach solve all home mortgage problems? No, of course not. But should it? If there’s no way a floundering loan can be restructured to give the borrower a snowball’s chance in Hades of repaying it, then let it go. Pure and simple. Let the lender take it on the chin. This approach should help, though, in converting the near misses into performing loans instead of allowing them to form yet another floe in the avalanche of foreclosures.

Other guidelines? How about:

• Limit Uncle Sam’s match to $50,000 per loan, or perhaps $100,000 in certain markets. (Remember, the lender loses just as much skin as the taxpayers, so abuse should be kept to a relative minimum.)
• Rewritten loans must have fixed interest rates, with no balloon payments ever.
• Perhaps second mortgage holders (i.e. local banks with home equity loans and lines of credit) should get a 2:1 match if they consolidate another lenders existing first mortgage loan. (Probably with the condition that the first mortgage loan balance must be greater than their second mortgage loan.)
• A new appraisal would be a must, with the mortgage holder picking up the tab for the appraisal cost as well as all other costs of underwriting the new loan. Sure, this means more skin from them, but they can then use their judgment (and their dime) to decide whether they want, say, new title insurance. They can also use their buying power to negotiate discounts with appraisers, title companies and other service providers.
• Lenders must be allowed to classify the new loans as conforming and performing on their books, without having to classify them as substandard. Otherwise, the hit to the lender’s capital might otherwise create resistance to recasting these loans.
• Hold the lender’s feet to the fire with respect to underwriting guidelines. Any violations, which would be uncovered by a stringent auditing regimen, should be severely punished (allowing, of course, reasonable leeway for those inevitable gray areas that come with the territory in the lending business). Serious violations should result in significant penalties, to individuals as well as to entities. (Forget that corporate veil crap. I’m a firm believer that people, not corporate entities, break rules and violate confidences.)
• Make this program available for loans created before, say, 6/30/07, and that were 60 or more days past due as of today. And give the banks about one year to take advantage of the program. This may be a monumental task, but there are plenty of unemployed mortgage originators and underwriters that could be brought into the process.

How about the cost of such a program? Considering that there may be 2 million loans in some stage of the foreclosure process and another 2 million delinquencies, an average cost per loan of $50,000 would translate into $200 billion.

Yes, $200 billion is a staggering number, but quite possibly a lot less than what the tab might be if Uncle Sugar starts handing out blank checks. And remember to keep this in perspective; $200 billion is only 6.5% of the U.S. Government’s budget of $3.1 Trillion for fiscal year 9/30/09. It also compares relatively favorably to the $29 billion loan (or whatever that thing was) by the Fed to facilitate one transaction, Chase Bank’s purchase of Bear Stearns.

There you have it. It may not be perfect, but at least it entails some free market forces that should serve to limit the otherwise runaway cost of the typical government program. And as long as politics dictates some sort of meddling by the government, we might as well inject as much free market action into the process as possible.

No matter what happens politically, fasten your seat belt. Despite whatever optimistic prognostications you may hear, we are not anywhere near turning the corner on this one.

FREE MARKET UNDERDOG.COM
Respond to joe.specht@comcast.net

I have mixed feelings about your obvious outrage. On one hand, I’m sorry you (and I, and others) have to experience it. On the other hand, this is the kind of outrage that I believe is necessary to motivate the masses to take a more critical look at our government. 

“Creeping Socialism” is probably the best term I’ve heard to describe the inch-by-inch slide toward the authoritarianism you describe. It has taken a few generations since the New Deal, but today most people assume the necessary and proper role of government is to meddle in virtually all aspects of our lives.  

Particularly disappointing in the case of Kelo v. New London was that this was an action of the Supreme Court, rather than of Congress - of which this type of collectivism is, by now, to be expected as routine.

It was outrage that lead to the American Revolution, and, unfortunately, I see no other way to stop today’s reckless authoritarian socialists than a similar level of outrage. The bad news is that one generation or another of fine Americans are destined, probably in the not too distant future, to experience the cataclysmic upheaval necessary to alter the present course. As sad as it may be, I plan to prepare my children for this eventuality, and I will tell them, in turn, to prepare their own children as well. Sad indeed.   

Thank you for your comments, and please visit again soon.

Joe Specht   

Excellent question, which, of course, brings to mind Thomas Jefferson’s comment that “the tree of liberty must be refreshed from time to time with the blood of patriots and tyrants”. 

The question of when this will happen is, I think, largely a function of mass psychology. Right now the masses are still living at the height of complacency, oblivious to the fact that the bus is about to hurtle over the cliff. That bus, of course, is being driven by the nitwits, idiots and morons in

Unfortunately, history tells us that it takes cataclysmic events to move people from complacency to action. (As I like to say, revolutions are started on empty stomachs.) History also tells us that an early and necessary component of cataclysmic social change is financial calamity. Only after this country is ruined by a bankrupt federal government (and I mean a real bankruptcy, not the de facto kind we have now), will people feel compelled to water

So, When does it start?, you ask? How about now?  

Keep in mind that the fall of the

As for my part, I won’t be the first person to shoot my congressman – I don’t look good in an orange jumpsuit. But, like Samuel Adams and his associates, I won’t shed a tear for the treasonous and tyrannical when the masses awake from their collective, complacent delusion and decide the tyrants’ fates. 

Free Market Underdog

This one’s been talked about – mostly as an election year fantasy used strategically by the swine known as our elected officials to get re-elected. While this one might not be necessary if the income tax were reduced to 3% by an Amendment of its own, it wouldn’t hurt to have some extra insurance. 

In my opinion, the single biggest danger presented to this country by our government today is its increasing propensity to go broke. The bankruptcy of the United States government may take another 50 or 100 years – but probably not. Based on the drunken-sailor spending habits and the inevitable economic downturn, it may just happen within the next ten to twenty years. (In fact, the process has already started as you can see by the continued deterioration of the dollar against almost all other currencies. Remember what was once said about the decline of the Roman Empire: It was not an event, it was a process. Unfortunately, from a governmental perspective, this process is well under way in America.)    

A balanced budget amendment should have an exception allowing for deficit spending only in the case of war – as constitutionally declared by a three-fifths super-majority of Congress. (With no additional ear-marks tacked on by politicans.) 

Hear Joe Specht talk on the May 11, 2007 broadcast of the Michael Badnarik Radio Program right here:

http://mp3.wtprn.com/Badnarik.xml

On June 23, 2005, the US Supreme Court ruled in the case Kelo v. New London that a municipality can seize private property if there is a benefit to that municipality. This right of ‘eminent domain’ has, in the past, been used largely to secure land to be used to build infrastructure, such as expressways. But now, a municipality can seize property simply because it can generate more tax revenue under some future use than under its current use. In other words, if your town or city can generate more tax revenue by replacing your neighborhood with a shopping mall, it now has the right to do so.

Everyone’s knee-jerk reaction to this should be, “This is an outrage! Someone should show the US Supreme Court the Fifth Amendment to the US Constitution!” This is definitely a good first reaction, and it is the principle that should have guided the Supreme Court.

The portion of the Fifth Amendment that pertains to private property reads: “nor shall private property be taken for public use, without just compensation”. While the phrase “without just compensation” implicitly gives the government the right to take your property as long as they pay you fairly for it, the key phrase here is “public use”. Based on the general flavor of the Constitution, something tells me that our founding fathers would not have defined “increasing municipal real estate tax revenue” as a justifiable “public use”.

Part of the genius of the constitution, and its Achilles heel, is its lack of excruciating detail. (Compare this to the tomes produced by congress today. Senators and congresspersons virtually never read the bills they vote on in their entirety simply due to the massive number of pages, and are often surprised later by some of the provisions in them. See “US Patriotic Act” and “Campaign Finance Reform”.) In the case of the Fifth Amendment, the founding fathers didn’t specifically define “public use”. They simply took it on faith that future generations, once having their private rights affirmed by the US Constitution, would not so easily let them go. How wrong they were.

Like most constitutional issues, this one is subject to some interpretation. Again, in this case, it boils down to what any given person (or Supreme Court justice) defines as “public use”. I think the two camps in this debate today can be pretty clearly defined: those who think the government should have more authority over your rights and your property, and those who think it should have less. The point at which government has total control over all property can be “socialism”, “communism” or even “fascism”, and none of those are very pleasant, nor do they work. (See “North Korea” or “former Soviet Union”.) The point at which government has little or no control over private property is called “freedom” or “liberty”. This is the direction the founding fathers wanted to take this country, which clearly cannot be said of this Supreme Court.

If the founding fathers were alive today, they would be grabbing their pitchforks and marching to Washington. I am sure they would want to have a few words with the Supreme Court justices who ruled in favor of this decision. Where is Samuel Adams when we need him?

For more information on this particular case, visit the Institute for Justice. For more information on the Fifth Amendment, and other components of the US Constitution, visit Find Law for Legal Professionals.