Mike the Mad Biologist

You know things are going wrong when a Congresswoman urges her constituents (and others) to squat in their homes, even when the bank can foreclose on them:

It’s safe to say that the current system isn’t working. Some borrowers were stupid, and others just greedy, but these loans should have never been made. And when banks made them, they should have held onto the paperwork (the irony is that bundling loans into big piles of shit helped create this mess, and now banks are unable to trace the actual loans due to said bundling). Ian Walsh:

Banks have been abusing the privileges they received and as a result credit for the things America really needs has dried up. Wanted a loan for a hedge fund? No problem. Wanted a loan for a new company employing hundreds that would only make 5% to 8% a year? Probably not.

But it was the hedge funds returns that were fake. And it was the small businesses that never started because they could only make 5% a year which could have produced real value and lasting jobs. If you want people to start new businesses, if you want consumers to spend, then giving them credit at reasonable rates, and making that credit available is what has to be done.

At the same time, due diligence has to come back into the equation. Everyone in America needs a credit card. Might as well just give them one. Without it you can’t rent a car, stay in a hotel or really interact in a modern society. But eveyone doesn’t need or deserve the same credit limit. And everyone doesn’t need a home equity loan, in fact very few people do. Let the Fed do the drop dead easy lending “you have an income of $50,000 a year, you want a mortgage where you will pay $10,000 a year, that’s under 30%, you can have it”. Have the credit unions and the few remaining banks do the more speculative lending, but watch them like hawks. And take the credit bureaus and the ratings agencies under government sway, and either nationalize them or regulate the heck out of them, so that the ratings they give mean something.

Add in some federal anti-usury laws (no interest rates above fed funds + 15%, on anything, including fees) and you’ve got yourself a full new banking system where credit is available to those who need it at reasonable rates, while reasonable oversight is occuring. And because so many investors and lenders were wiped out, well, the lesson will have been learned, for a couple generations, that if you do really really stupid things, the government won’t just bail you out.

No more privatizing profits and socializing losses.

Probably won’t happen, but it’s a good idea. I’m loath to make sweeping pronouncements, such as “The End of the Banking System”, but what Walsh writes about will have to be done, in one way or another.

Comments

  1. #1 jay
    February 5, 2009

    It seems to me that if the banks negotiate some form of ‘bridge’ agreement, where they continue accrue some interest, but the user temporarily does not need to make payments, they and the customers will be much better off. Every reposession is a loss for the banks and the customer, and many of these customers will be in a position to resume payments in the future.

    Unfortunately there is probably some federal regulation prohibiting this, as with many sensible

  2. #2 Jivlain
    February 5, 2009

    I guess it’s safe to say that the plumbing is just not working.

  3. #3 Rose Colored Glasses
    February 5, 2009

    If we’re going to reform the system, then let us forgo all fines and make all punishments prison time. The Masters of the Universe are so far out there in Fantasy Land that it will take a locked-in-a-box experience to humble them down to human-sized egos.

    Since they all have assets overseas, there will be no bail hearing — never bail.

    Take them into custody at first opportunity, give them a perp walk for the cameras, and book them into the local jail. The only time they get out is for court appearances, and even then they should be in striped denims.

  4. #4 Troublesome Frog
    February 5, 2009

    I’m thinking about the state of these bad mortgages and wondering if one option might be a change in the term structure (assuming you could track down the legitimate holder of the note and make the change). Calculate the present discounted value of the current note and recalculate the payments to stretch them out over a much longer period of time to work out to the same discounted value.

    It wouldn’t protect you from ruthless default behavior, but it would solve the cash flow problem. Can’t make the monthly payments? Restructure it so that you can. You’re still overpaying, but over 50 years instead of 30. Yield curves being yield curves, they’ll end up paying more out of pocket over the long run, but cry me a river.

  5. #5 hibob
    February 5, 2009

    Jay, Troublesome Frog: the problem with your solutions is that both would require the holders of the mortgages to revalue the securities based on them. Once they accept terms that bring them less revenue, they have to stop pretending that the loans are profitable. A recent NY Times article detailed an investigation into a bank that valued a bond based on mortgages at 97 cents on the dollar, even though the bond is trading at 38 cents on the dollar. There’s at least a trillion dollars in bad mortgage debt that hasn’t been written off of the asset piles of financial institutions yet, and they are loathe to do anything that would force them to go ahead and face up to it.

  6. #6 Troublesome Frog
    February 5, 2009

    hibob,

    Absolutely. The issue is that most of the solutions people are kicking around are ways of “discovering” that the “real” value is higher than the market price and that these banks are solvent. They’re not. We have zombies operating, and that’s why things aren’t working. Frankly, I’d like to see these things marked to market and the government take over / force mergers of anybody who isn’t properly capitalized.

    The reason I threw out what I did is that people are proposing all sorts of nutty “rescues” that involve giving free money to people who took out stupid loans to buy homes they couldn’t afford. The only reasonable rescue I see as workable (at least, from a moral hazard perspective) is to change the maturity of the loan.

    I suppose it could be used in a broader context in a government intervention (albeit a heavy-handed one) like this:

    *) We are the federal government. If you’re not paying your mortgage, you get the boot and we enforce it.
    *) If you want, you can take out a longer term loan (100 years if you need to) from us for the face value of whatever you owe on the home and use that loan to pay off the current note.
    *) Our new super-duper-federal-loan is a special loan that we can come after you for the rest of your life over, so don’t do it unless you can come to terms that you can afford. No wiping it out in bankruptcy or just allowing the government to take the house.

    Bad loans go off the books, lots of foreclosures happen, lots of pain happens. The government agency that does this can then either collect on the loans over time or resell them with the understanding that they are “low risk” due to the pain involved in getting out of them.

    I’m not sure if the cost outweighs the benefit, but the benefit that we don’t have to wait for the other shoe to drop is starting to look better and better.

  7. #7 llewelly
    February 5, 2009

    Jay, Troublesome Frog: the problem with your solutions is that both would require the holders of the mortgages to revalue the securities based on them. Once they accept terms that bring them less revenue, they have to stop pretending that the loans are profitable.

    Ironically, every halfway honest way to minimize the losses to the mortgage holders requires them face up to the non-profitability of their assets and write down the debts as fast as possible.
    Once again, human psychology prevents rational behavior.

  8. #8 Mike the Mad Biologist
    February 6, 2009

    llewelly,

    I agree part of it is human psychology, but the other part is that an honest accounting would make many banks utterly insolvent.

  9. #9 Mu
    February 6, 2009

    I agree that we can’t have an honest “clean-up the accounting” without a total write-off of all band equity. At the beginning of this fiasco, I was wondering how all this could be really this bad. Even the worst numbers still had 90% of all mortgage holders pay their dues, and I thought 10% loss isn’t all that bad. But the truth is, most banks were up to 30 times leveraged, so anything more than 3% defaults was wiping all the underlying capital.

  10. #10 Luddite
    February 6, 2009

    Funny, I don’t have a credit card and I’ve stayed in plenty of hotels. They usually want a $100 deposit, which you get back when you leave. No biggie.

    I’ve never tried renting a car, and I know it’s hard, but I used to know one fellow who did it fairly regularly. (His credit situation could be explained as “never date a hypochondriac nurse”.) Certainly a quick googling turns up an awful lot of hits.

  11. #11 zombie_bot
    February 7, 2009

    “Some borrowers were stupid, and others just greedy…”

    i semi-disagree. it is my opinion this recent period of sub-prime lending has been masking a problem that started before the sub-prime lending. a huge wealth divide where a huge number of people can’t afford homes.

    view it this way, you are at the bottom of the packing order, you have a choice, take out a loan you can’t pay and buy a house even if it means you might lose it in the future, or live with the prospect you may never own one. and it’s not just homes.

    the divide in the last 2-3 decades is rather disconcerting, it’s not only about money, it’s the attitude of education, health care, the job you work, even if you walk somewhere rather than drive. though whether it’s a characteristic or problem of society, who knows. since i’m fairly young and have only lived in this era.

    and i’m speaking as a brit, this isn’t only a US characteristic.

  12. #12 zombie_bot
    February 7, 2009

    education is another great example, the number of university/college enrollees in both the us and uk has dropped incredibly sharply.

    and transaction accounts really need interest rate controls, to prevent a very erratic money supply (inflation/deflation).

  13. #13 Paul Murray\
    February 8, 2009

    A contract is not the bit of paper that you sign. It is the agreement itself, between parties – the paper is merely a formal record of that agreement.

    If one of the parties does not understand the agreement, then there *is* no agreemet – no contract.

    All of these so-called contract that are pages and pages of dense legalese between enormous banks and undereducated poor people should be thrown ot on that basis. There never was an understanding between the parties, at all.