I use "the banks" and "mortgage servicers" interchangeably because according to a list of the ten biggest mortgage servicers compiled by Reuters last fall, the top five are: 1. Bank of America (BAC), 2. Wells Fargo (WFC), 3. JPMorgan Chase & Co (JPM), 4. Citigroup (C) and 5. GMAC/Ally Financial. Not coincidentally, those banks were Nos. 5 through 9 on the list of recipients of federal bailout money, according to Pro Publica, for a total of $160 billion of your tax dollars. It's irrelevant that all but the $16 billion given to GMAC/Ally has been paid back. What matters is that when the big banks needed help, the taxpayers had their back.
So who are the banks' allies? In the Senate, their leader is Richard Shelby (R-Ala.), who also lead the opposition to the creation of the Consumer Financial Protection Bureau. In the House of Representatives, the banks' allies are the Republican leadership, including Financial Services Committee Chairman Spencer "Washington and the regulators are there to serve the banks" Bachus (R-Ala.), and Rep. Scott Garrett (R-N.J.).
Among Rep. Garrett's largest campaign contributors recently and throughout his career have been Bank of America and the debt collector trade association ACA International. Incidentally, Garrett has taken large campaign contributions from a hedge fund -- and now chairs the subcommittee overseeing hedge funds. Both Bachus and Garrett were also fierce opponents of the Consumer Financial Protection Bureau.
Campaign cash aside, why do these people oppose forcing mortgage servicers to do things like "ensure accuracy and timely updating of borrower's account information, including posting of payments and imposition of fees" and making sure that those fees are "bona fide, reasonable in amount, and disclosed in detail to the borrower"?
I mean, can you imagine if your bank handled your checking account this way, failing to credit your deposits and charging you outrageous fees without telling you about them? You'd change banks in a heartbeat. But therein lies the rub: Borrowers aren't the mortgage servicers' customers, and borrowers have no way to change servicers.
Decoding Senator Shelby
Let's start with Senator Shelby. Here's what he has said, according to American Banker article linked above. Missing words (...) are not Shelby's, but are rather things like "he said." I follow each quote with a sincere effort at translation:
Quote 1. The term sheet is a "regulatory shakedown" to "advance the administration's political agenda."
Translation: The Obama administration wants to coerce banks, under threat of prosecution, to obey the law and deal fairly with borrowers in good faith. I think that's bad policy. It's akin to blackmail and is purely political.
That must be what he means since the settlement explicitly tells the banks to obey the law either explicitly or implicitly at least 11 times.
As to good faith and fair dealing, the lack of both was so extreme that beyond making many specific demands for fair dealing -- e.g., no foreclosing while a modification application is pending or a trial modification is under way, no telling people to default if they want the bank's help, no telling credit reporting agencies wrong information, and so much more -- the proposal includes a blanket requirement:
"Servicer shall have a general duty of good faith and fair dealing in its communications, transactions, and course of dealing with each borrower in connection with the servicing of the borrower's mortgage loan."
Indeed, the lack of good faith on the banks' part has extended beyond borrowers to communities. That's why the proposal also would impose a duty to: "ensure that vacant, abandoned, [bank owned], and charged-off properties do not become blighted." The proposal also tells banks they can no longer abandon properties by failing to complete foreclosures, dumping them on struggling municipalities.
Quote 2. Sen. Shelby also said: "Under the guise of helping homeowners hurt by improper foreclosures, regulators are attempting to extract a staggering payment of nearly $30 billion for unspecified conduct ... Setting aside for a moment the attempt to end-run Congress, I question whether removing $30 billion in capital through a backdoor bank tax is the best way to jump-start lending. The long-term consequences of this settlement could be even more serious. It would politicize our financial system."
Translation: Well, it speaks for itself. I'll note though that the settlement isn't just about improper foreclosures. Framing it that way is simply a political tactic to make it seem like the remedies are disproportionate to the problem. In fact, the settlement proposal targets a huge range of illegal and abusive practices that have been well-documented for years, practices that the servicing industry knew weren't kosher at least since the 2003 Fairbanks settlement. As to the $30 billion, well I hope Sen. Shelby's right about that -- it's more than I've otherwise heard floated.
And what might Sen. Shelby mean by "politiciz[ing] the financial system?" That such a settlement would trigger even more campaign contributions and lobbying by the banks? The settlement surely would, as the only way to overturn it would be through legislation or regulation. But how is that different from any effort by government to put the interests of consumers before the interests of the big banks?
Quote 3. Regarding the Consumer Financial Protection Bureau, Shelby said: "Just last year, I warned that the new bureau of consumer financial protection would prove to be an unaccountable and unbridled bureaucracy. I did not expect to be proven correct so quickly ...The process by which it is being imposed is potentially far more concerning ...The proposed settlement would fundamentally alter the regulation of our banks. Yet this would be done without congressional involvement. Instead, it would be done by executive fiat through intimidation and threats of regulatory sanctions."
Translation: Shelby seems to be railing against the idea of a corporate compliance agreement being used by law enforcement agencies to resolve corporate law breaking. Odd, since that's how prosecutors typically deal with law-breaking corporations.
He couches his defense of the banks as a concern over the usurpation of congressional power, but the proposal is no such thing. Congress explicitly gave the Consumer Financial Protection Bureau jurisdiction over mortgages. This settlement is about mortgage servicing, and its compliance provisions are overseen by the bureau and the states' attorneys general. It doesn't "fundamentally alter the regulation of our banks" in any sense.
Quote 4. "The administration and our financial regulators are clearly hoping the banks will consent to these new regulations ...The precedent these strong-arm tactics could set, however, should be of concern to all citizens. If these tactics can be used successfully on financial institutions, they can be used on any business."
Translation: I realize that the big banks aren't sympathetic victims, so imagine Big Government coming after you, forcing you to accept rules you don't like. Oh, please ignore the fact that before you face any risk of that, you'd have to break the law so thoroughly that you got all 50 state attorneys general, the Department of Justice, and your regulators angry enough to take action against you.
A more honest warning would have been: "Hey, any company out there that is routinely breaking the law, take heed: The government might actually come after you and try to force you to change your ways."
Decoding the Banks' House Allies
Reps. Bachus and Garrett, among quite a few others, have sent a letter to Treasury Secretary Timothy Geithner complaining about the deal and asking a series of questions. American Banker posted the letter. Below are some of the questions. I've provided my own versions of the answers Secretary Geithner might consider giving the representatives.
A: An agreement is just that. If the servicers don't want to do principal reductions, they can choose to face prosecution. Law enforcement doesn't need Congress to pre-authorize contract negotiations, particularly not plea-bargains.
Similarly, state attorneys general don't need Congress's permission to choose the remedies they seek for the violation of their states' laws, absent Congress's preempting state action. And when Congress decided not to require mortgage principal reductions, it didn't preempt anything.
Q: What specific legal authority grants federal and state regulators and agencies the power to effectively legislate new rules and standards for the mortgage servicing industry?
A: See first answer. This deal would be an agreement between banks and regulators, not legislation. The reason its effects seem to resemble legislation is the scale of the lawbreaking. Nobody called it legislating when the Federal Trade Commission made a similar deal with a single lousy servicer in 2003. The substance and the process are the same this time -- the only difference is scale. And it was the banks, not the law enforcers, who determined the scale through their lawless actions.
Q: What role did persons associated with the [Consumer Financial Protection Bureau] have in drafting the proposals in the term sheet? What specific legal authority permits an official associated with an agency that does not have regulatory or enforcement authority to participate in settlement negotiations?
A: This is silly. The Consumer Financial Protection Bureau has been given jurisdiction over mortgages, and will naturally enforce any agreement reached. The agreement is necessary because of the way the servicers have mistreated consumers, after all. The fact that the agency doesn't go "live" until July doesn't change the fact that the substance of the settlement will fall squarely with in the Bureau's jurisdiction. Surely it makes sense for the agency that will enforce an agreement to participate in shaping it? In making some of these same arguments, Adam Levitin at Credit Slips notes a lot of this stuff is a "witch hunt" against Elizabeth Warren, the woman charged with setting up the agency.
Another question -- which I won't include in its entirety -- makes the same political framing move that Sen. Shelby did, and defines the settlement purely in terms of foreclosure violations. It then notes that mortgage principal reductions aren't foreclosure related, and asks: "What is the legal basis for using funds collected in an enforcement action to benefit parties who have not been harmed by the purported wrong doing?"
A: First, the wrongdoing extends far beyond foreclosures to servicing more generally. Second, the banks' risk-shifting securitization machine fed the housing bubble to otherwise-unreachable heights, which resulted in the sharp decline in housing prices that has left so many homeowners underwater -- a harm that is a direct consequence of the banks' actions. Third, funds collected under enforcement actions are used to help people not directly harmed by the wrongdoing so often, there's a legal term to refer to it: cy pres.
A: Good question. It's true that a settlement that left banks requiring another bailout would be counterproductive. But how can that not have been considered? Similarly, federal regulators right now are deciding whether or not to let banks pay higher dividends to their shareholders, which the banks insist they are stable enough to do. Surely the regulators will take the proposed settlement into account in making that dividend decision.
Q: Will forcing servicers to fund principal reductions for underwater loans they service affect the incentive of mortgagors to stay current on their loans?
A: YES! And in fact, that's an argument in favor of principal reductions. After income loss, one of the biggest predictors of defaulting is being substantially underwater. Reducing people's principal will make it more likely they will stay current on their loans. Negative equity leads to more defaults in other ways too, as the Center for Responsible Lending's recent congressional testimony shows. Homeowners with negative equity can't sell to escape a mortgage they can no longer afford. (As the many homeowners who have tried to get banks' permission for short sales have discovered, foreclosure typically results instead.)
The next question asks if fixing the foreclosure process will delay the housing market's recovery and further erode investor confidence, and if fixing foreclosures would deter private investment in the housing market.
A: Delay recovery? Yes and no. Yes, because foreclosures will be even slower to process, and until the foreclosure glut is processed, housing can't really recover. No, because fixing foreclosures will stem the clouded title problem, which is already a major obstacle to a housing recovery. After all, how many banks are going to make loans so people can purchase properties the title insurers won't insure? Fixing foreclosures now will at least cap the problem at damage already done.
As to fixing investor confidence, I presume the letter means investors in mortgage-backed securities. Those investors are often better served by modifications than foreclosures, so forcing the servicers to modify should increase their confidence, not reduce it. As to deterring private investment in the housing market, the clouded title issue will do that more than anything else. So again, foreclosures need to be fixed.
The last question notes that 11 million mortgages are underwater, and says they can't all be written down. How, it asks, will banks choose?
A: The term sheet sets some parameters, but gives the banks lots of discretion. Do these members of Congress want that discretion taken away?
To sum it all up: Any time anyone objects to this settlement proposal, hand them a copy and ask them to highlight which provisions bother them most. Then have a real conversation. But don't just take politicians at face value when they try to tell you what the settlement is, particularly not those members of Congress who see themselves as there to "serve" the banks.