War on the Home Front | Mortgage Loan Investigations | Securitization Audits

80458Leave a Comment2012-04-07+14%3A47%3A38Bill+Maurer+%26amp%3B+Stephen+Rea

While we’ve been blogging, Stevie has begun his dissertation fieldwork in Korea. He emailed Bill the other day: “Yesterday I opened a bank account here in Seoul, and conducted the entire interaction in Korean. For some reason, I don't get an ATM card, which is really strange. But in all likelihood I had no idea what the teller was trying to say to me, so I might end up getting a card in the mail next week or something. As ‘technophiliac’ as this culture seems to be, cash is still king; outside of the large department stores and global restaurant chains, I don't see any POS terminals.”

There’s hype, there’s reality, and there’s possibility around all the cashlessness claims that follow on the heels of mobile and other digital payment platforms. We want to conclude our guest blogging with a gesture toward some of the possibilities of mobile money--and a challenge for the Credit Slips community.

The other day, Bill received an email from a colleague at a large philanthropic organization:

"I heard you speak a while back at the foundation and was excited to see your blog reference to BTC."

At first Bill was confused—Bitcoin? He’d never written a blog about Bitcoin. Maybe she'd read his piece here. But then he realized: BTC = Better Than Cash (see our first post). This is a useful little object lesson. When some people hear "digital currency" and "toward a cashless society" they immediately think, oh no, here come the money nutters wanting to end the Federal Reserve and put us on a gold standard. Or they think, hooray! Let’s end fractional reserve currency once and for all! But that's the BTC/Bitcoin side of the conversation. The BTC/Better Than Cash side is different, and it's important to stress those differences.

In a recent blog post at CGAP, Ignacio Mas and David Porteous make a case not for freedom from cash, but alternatives alongside cash--for everyone. They envision a world of “LiFi” – liquidity with fidelity – in which “every person has an electronic store of value which they can easily use to make and receive payments in real time” (our emphasis). They compare this to the electricity grid. And, yes, they argue “the payments grid in developing countries has to function more like a utility.” They argue that oversight of such a grid should fall to payment regulators. Mas and Porteous’s proposal is roughly in alignment with the Bill and Melinda Gates Foundation’s Financial Services for the Poor unit’s new strategic focus, which includes “concentrating on connecting poor people to digital payment platforms and enabling them to access savings, credit, and insurance services over those platforms.”

What might mobile money as a payments platform that explicitly works as an enabling and inclusive technology that works with cash actually look like? It all hinges on two key elements that help mobile money interface with cash, and help mobile money services interface with other services and applications: 1) the agent network, which we've called a social infrastructure in our earlier posts, and 2) application programming interfaces (APIs): "You often have to rely on others to perform functions that you may not be able or permitted to do by yourself, such as opening a bank safety deposit box. Similarly, virtually all software has to request other software to do some things for it. To accomplish this, the asking program uses a set of standardized requests, called application programming interfaces (API), that have been defined for the program being called upon. Almost every application depends on the APIs of the underlying operating system to perform such basic functions as accessing the file system. In essence, a program's API defines the proper way for a developer to request services from that program" (from Computer World). So whereas agents facilitate the interoperability of cash and mobile money by acting as "cash merchants," APIs facilitate the interoperability of a mobile money service with other mobile money services or with applications that are built upon the mobile money platform like savings and insurance practices built on M-PESA (see Kendall et al. or this earlier version). Both agents and APIs extend the potential of mobile money, the former by connecting mobile money up with local social networks and the latter by encouraging the uptake of the mobile money platform by programmers and developers interested in designing new applications for that platform. A role for regulation here? or a sort of Underwriters Laboratories??

Apr

Revival on the Head of a Pin: Do U Pari Passu?

By Anna Gelpern | Securitization-MBS

80353Leave a Comment2012-04-06+21%3A26%3A47Anna+Gelpern

Argentina and its most intransigent creditors are duking it out again (or still) in the Second Circuit, reviving the crazy battle over the meaning and import of the pari passu (equal treatment) clause in sovereign debt contracts. For the small but committed contingent of pari passu pointy heads, this is WorldCupOlympicMarchMadnessSuperBowl. For everyone else, this bears watching because an obscure turn in the Argentina story could open the door to enforcement against sovereign debtors in general. (Nope, this is not a closet Eupdate. Pay no attention to the man behind the blue-striped curtain.)

Recap: Argentina defaulted on roughly $100 billion in debt in 2001, then restructured about three-quarters of it in 2005 with a 60%++ haircut, depending on how you count. In 2010, it mopped up most of the rest. However, a small subset of expert holdouts keeps on suing, lobbying, and trying to collect by any means necessary. Last December, the long-suffering SDNY Judge Griesa ruled that the Republic breached the pari passu covenant in its debt contracts by (a) paying the holders of its restructured bonds but not the holdouts, and (b) passing a "Lock Law" that bars the government from paying the holdouts. On February 23, the judge issued an injunction, telling Argentina to pay the holdouts pro rata whenever it pays the holders of its restructured bonds. Argentina has appealed, pointing out among other things that paying people who took a massive haircut on par with those who took none was not exactly equal or equitable. This week, the U.S. Government filed a Statement of Interest, joining the New York Fed and the New York Clearing House at a friend-filled party.

For those who care about neither Argentina nor pari passu, this matters because a broad reading of the February 23 SDNY order would subject countries who pay some creditors, but not others, to injunctions of the sort just slapped on Argentina. Creditors who get paid while the holdouts are not, or even intermediaries routing payments for the debtor, might be exposed as well. Pari passu clauses are ubiquitous in New York and English law sovereign bonds. Since successful sovereign debt exchanges so far have all relied on a credible threat of stiffing non-participants, upholding the order could spell the end of the prevailing restructuring regime.

A narrow reading of the order would tie the injunctive remedy much more closely to Argentina's "Lock Law." The law can be read as a formal subordination of the holdouts (as distinct from selective payment)—a breach of the pari passu covenant under a reasonably conservative reading of the clause. Because this law is unusual, this would at least limit the effect of the order on the foreign sovereign debt market. But even a narrow reading would not solve the problem raised most forcefully in the U.S. Government brief—that the injunction would give creditors a worldwide remedy beyond the scope of the Foreign Sovereign Immunities Act.

Now some might say that upholding the SDNY order, even broadly, would not be a bad thing: it would jolt a screwed-up legal regime, and might prompt sensible reform. The alternative appears to be effective impunity for sovereigns that, like Argentina, can afford to pay the nuisance tax of never-ending enforcement litigation, and bear what reputational cost it does in the markets. The argument obviously loses force with poor countries that cannot afford to stay out of the markets and live in court for a decade, and must choose between clean water and holdout creditors. Others might say that Argentina's continuing travails and the revival of pari passu as an enforcement device illustrate the cost to the international system of having no sovereign bankruptcy regime.

Few would rally behind the status quo as first best, not by a long shot. Even if the SDNY order is overturned as totally wrong (as I think it is), there is something quite dysfunctional about a market where the contracts do not map onto the background legal regime. Normal-looking clauses turn into arrant nonsense when you stick them in sovereign IOUs. This is because private debt contracts are presumptively enforceable (even if not always enforced), and can be restructured in bankruptcy. Substituting immunity for bankruptcy in the sovereign context destabilizes, and occasionally eviscerates, the meaning of the contract text.

Pari passu is the poster child for this proposition: because sovereigns cannot file for bankruptcy, there is never a moment of agreed insolvency or a waterfall of asset distribution. Instead, creditors owed on Monday might get paid, but those owed on Thursday might not. Is that subordination, or luck of the draw? The one agreed way to breach the covenant is to shout out "I subordinate"—but who does that?? (OK, maybe Argentina ... I don't think the Greek "Retro-CAC" Law is comparable.)

The biggest mystery, given such apparent dysfunction, is why the brilliant lawyers who draft sovereign debt contracts don't just fix pari passu once and for all, so that it would make sense. Smart people have offered thoughtful explanations. I suspect the answer has something to do with the dissonance of writing a totally, utterly, certainly unenforceable debt contract. That’s just not what lawyers do—or is it?

Finally, there is a weird political/PR dynamic at play here. Argentina and Greece, represented by the same law firm and threatened by the same holdout creditors, have apparently conflicting PR strategies. For Argentina, the key is to hitch its case to the European caravan, so everyone thinks that a ruling against Argentina would bring on global financial apocalypse. Hence the reference to Greece, Portugal, Spain, and Ireland as potential victims in the Argentina brief. In contrast, the last thing Greece wants is to have the spectre of Argentina hover over its still-pending debt exchange. The holdouts want some combination of both -- they want Greece to feel threatened by the potential outcome in Argentina, but not so threatened that the U.S. and the EU establishment get scared too, and join the battle full force on Argentina's side.

All this for pari passu? Stay tuned for geek party of the century.

Revised to reflect the fact that the New York Fed did not file on appeal this time. It did file in a very similar case involving the same parties in 2004. Argentina refers to this earlier position in its 2012 brief.

Apr

Pari Passu Party (on behalf of Anna Gelpern)

80282Leave a Comment2012-04-06+18%3A46%3A32Adam+Levitin

This is Adam Levitin posting for Anna Gelpern. Only the awful illiterative post title is mine. Here's Anna:

Recap: Argentina defaulted on roughly $100 billion in debt in 2001, then restructured about three-quarters of it in 2005 with a 60%++ haircut, depending on how you count. In 2010, it mopped up most of the rest. However, a small subset of expert holdouts keeps on suing, lobbying, and trying to collect by any means necessary. Last December, the long-suffering SDNY Judge Griesa ruled that the Republic breached the pari passu covenant in its debt contracts by (a) paying the holders of its restructured bonds but not the holdouts, and (b) passing a "Lock Law" that bars the government from paying the holdouts. On February 23, the judge issued an injunction, telling Argentina to pay the holdouts pro rata whenever it pays the holders of its restructured bonds. Argentina has appealed, pointing out among other things that paying people who took a massive haircut on par with those who took none was an odd reading of equal treatment. This week, the U.S. Government filed a Statement of Interest, joining the New York Fed and the New York Clearing House at a friend-filled party.

For those who care about neither Argentina nor pari passu, this matters because a broad reading of the February 23 SDNY order would subject countries who pay some creditors, but not others, to injunctions of the sort just slapped on Argentina. Creditors who get paid while the holdouts are not, or even intermediaries routing payments for Argentina, might be exposed as well. Since successful sovereign debt exchanges so far have all relied on a credible threat of stiffing non-participants, upholding the order could spell the end of the prevailing restructuring regime.

Now some might say that upholding the SDNY order, even broadly, would not be a bad thing: it would jolt a screwed-up legal regime, and might prompt sensible reform. The alternative appears to be effective impunity for sovereigns that, like Argentina, can afford to pay the nuisance tax of never-ending enforcement litigation, and bear what reputational cost it does in the markets. The argument obviously loses force with poor countries that cannot afford to stay out of the markets and live in court for a decade, and must choose between clean water and holdout creditors. Yet others might say that the persistence of Argentina and the revival of pari passu as an enforcement device show again the cost to the international system of having no sovereign bankruptcy regime.

I would not go so far. But even if the SDNY order were totally wrong (and I think it is), there is something quite dysfunctional about a market where the contracts do not map onto the background legal regime. Normal-looking clauses turn into arrant nonsense when you stick them in sovereign IOUs. This is because private debt contracts are presumptively enforceable (even if not always enforced), and can be restructured in bankruptcy. Substituting immunity for bankruptcy in the sovereign context destabilizes, and occasionally eviscerates, the meaning of the contract text.

Pari passu is the reigning poster child for this proposition: because sovereigns cannot file for bankruptcy, there is never a moment of agreed insolvency or a waterfall of asset distribution. Instead, creditors owed on Monday might get paid, but those owed on Thursday might not. Is that subordination, or luck of the draw? The one agreed way to breach the covenant is to shout out "I subordinate"—but who does that?? (OK, maybe Argentina ... I don't think the Greek "Retro-CAC" Law is comparable.)

The bigger mystery, given such apparent dysfunction, is why the brilliant lawyers who draft these contracts don't just fix the provision once and for all, so that it would make sense. Smart people have offered thoughtful explanations. I suspect the answer has something to do with the weirdness of writing a totally, utterly, certainly unenforceable debt contract. That’s just not what upstanding lawyers do—or is it?

Finally, there is a weird political/PR dynamic at play here. Argentina and Greece, represented by the same law firm and threatened by the same holdout creditors, have polar opposite PR strategies. For Argentina, they key is to hitch its case to the European caravan, to demonstrate that ruling against Argentina would bring on global financial apocalypse. Hence the reference to Greece, Portugal, Spain, and Ireland as potential victims in the Argentina brief. In contrast, the last thing Greece wants is to have the spectre of Argentina hover over its still-pending debt exchange. The holdouts want some combination of both -- they want Greece to feel threatened by the potential outcome in Argentina, but not so threatened that the US and EU establishment get scared too and join the battle full force on Argentina's side.

All this for pari passu? Stay tuned for geek party of the century.

Apr

Does this Look like a Valid Credit Card?

By Nathalie Martin | Securitization-MBS

80151Leave a Comment2012-04-05+21%3A47%3A21Nathalie+Martin

I thought so. This is actually the key to my room from a recent business trip. I guess the symbolism is that this is also the key to life, right? It is also another example of how credit card comanies have inflitrated college campuses.

Apr

Does this Look like a Valid Credit Card?

By Nathalie Martin | Securitization-MBS

80152Leave a Comment2012-04-05+21%3A47%3A21Nathalie+Martin

I thought so. This is actually the key to my room from a recent business trip. I guess the symbolism is that the credit card concept is also the key to life, right? It is also another example of how credit card companies have infiltrated college campuses.

Apr

Cash as Social Infrastructure

80096Leave a CommentCash+as+Social+Infrastructure2012-04-05+16%3A46%3A11Bill+Maurer+%26amp%3B+Stephen+Rea

Sticker in San Francisco: "Of course it's cash-only, it's the Mission."

Overheard: "Oooh, yeah, no, we don't take cards. Because the coffee is, like, local?" (both items courtesy Lana Swartz)

The word “cash” derives from Latinate words referring to “a chest or box for storing money,” not the money itself. The term originally meant the practices of storing, and the objects used to store items of value – not just money -- as well as the act of going to those storage devices to receive money (to “cash” a bill of exchange,, meant to go to the specific box where the money was). Cash as we know it today is more than a store of value and a medium of exchange; it has symbolic, pragmatic and artistic functions. In the US, even before Durbin, small merchants placed an extra surcharge on credit or offered discounts if customers used cash. Research being conducted at the Institute for Money, Technology and Financial Inclusion (IMTFI) is bringing to light a host of social, ritual and religious uses of cash and coin beyond their economic functions. What's their relationship to, say, mobile money? For us, they are design challenges more than anything else (see, e.g., the Royal Canadian Mint's MintChip, or discussions among developers about Google Wallet). Building an infrastructure for digital payments, especially in places that have been cash-only, entails some connection to the existing social infrastructures of cash.

As Janet Arnado, one IMTFI researcher, notes: "Informal wealth storing strategies exclusive of formal or informal financial institutions may always be practiced by the rural poor in the developing world, side by side with people’s utilization of financial institutions, because these practices have social dimensions as much as it has economic significance." At a Buddhist temple in Seattle, devotees build money trees to raise funds; in Ghana, brides are showered with money on their wedding day (they used to use Ghanaian currency but when it was redenominated, they could no longer afford bills. Rather than pelt the bride with coins, they switched to Nigerian naira).

Mobile money has not obviated or eliminated the use of cash in any of the places that it has been implemented. Instead, people have incorporated mobile money into their monetary pragmatics alongside the use of cash. They use mobile money as a means for short-term value storage and P2P value transfer, mostly of small sums, i.e. as a “bridge” to cash, as Ignacio Mas et al. have put it. Curiously, mobiles and money both represent modernity and tradition. For people accustomed to transacting in shells, pigs and state issued currency, the latter is "modern." But when people incorporate cash into ritual practices, it becomes a symbol of "tradition." The mobile phone is a high-tech marker of having a modern identity; but it's also a link to others, to distant kin, and its workings partake of a magical aura sometimes symbolically associated with the gods and other spirits. Put mobile and money together and you get some interesting results: whereas mobile money makes gifting sums of money more easy, say, to pay for the costs of a religious holiday celebration, it also makes it harder to make those gifts secretly and anonymously according to tradition. Mobile makes traditional practices such as pooling cash and the social interaction surrounding those activities different as well.

We think Mas and company are on to something when they describe mobile money services as offering a “bridge to cash.” A bridge is an infrastructure that permits a passage without regard to the freight carried over it. It is an intermediary that permits any kind of person or thing over it and to the other side. In most mobile money systems, human agents, sometimes dubbed “cash merchants,” facilitate the exchange between cash and e-money stored in mobile money systems and themselves become “bridges” to and from cash and e-money. The benefits of e-money for branchless banking are indisputable: financial inclusion on the scale of M-PESA would not be possible without mobile. Yet at the end of the day, for the people that use mobile money it all comes back to cash: sending it, obtaining it, saving it. As Sarah Rotman has noted , from a financial inclusion perspective all of the excitement about going cashless for cashlessness' own sake doesn't really help financially excluded people who need to be able to access cash for their everyday purchases.This gets us back to the heart of USAID's Better Than Cash challenge and its chief differences from Bitcoin or other such endeavors--the financial inclusion imperative. It's important to treat this with the same seriousness as we give privacy or criminality. Doing so also adds another element of consumer protection into the mix, especially for very poor, illiterate or otherwised disadvantaged people.

With mobile money, there's a potential to harness the cash side of the equation to aid in consumer protection and financial literacy (we're being a little pie-in-the-sky here, but bear with us!). Consider how the agent network for mobile money has turned kiosk vendors into “cash merchants.” This turns cash into a kind of commodity it might not have been before (I am "buying cash" the same way and at the same place I buy rice, but with e-money in my mobile wallet instead of paper currency). But it also situates agents as one of the key components of a new financial infrastructure: a social infrastructure. We believe that cash, too, is a social infrastructure, evidenced in its use in solidifying social, religious, and other relationships.

Now, the bridge metaphor also suggests a new means of tolling, a potential privatization of currency—something lurking not too far underneath the surface for some anti-cash proponents—an enclosure of the commons and culture of payments. The task is to hold that part of the metaphor at bay, while taking a more careful look at what digital platforms for payments--with the lessons learned from our decades of experience with card networks--may actually afford. We'll take that up in our final post.

Apr

Downward Bankruptcy Filing Trend Continues

80097Leave a Comment2012-04-05+16%3A26%3A32Bob+Lawless

Bankruptcy filings for March continued to show a year-over-year decline. According to the latest release from Epiq Systems, there were an average of 5,550 daily bankruptcy filings in March, which represented a 12.8% decline from the same time last year. This decline keeps with the same trend we have been seeing for the past eleven months.

Extrapolating from the first quarter of 2012 and based on the experience of the immediate past three years, a projection for total bankruptcy filings this calendar year would be in the 1.21 - 1.25 million range. My projection of a 9 - 12% decline in bankruptcy filings for 2012 is somewhat higher than the projection from Fitch for a 4 - 5% decline. Although the Fitch projection is not outside the realm of possibility, it would require a historically unusual pattern where bankruptcy filings stay closer to their peak in the annual cycle that sees February and March as the months with the highest U.S. daily bankruptcy filing rate.

Apr

Why Us?

80060Leave a CommentWhy+Us%3F2012-04-05+13%3A13%3A53Bob+Lawless

What does it mean that the two most common forms of comment spam on this blog are people trying to sell sunglasses or handbags?

Apr

Why Us?

80061Leave a CommentWhy+Us%3F2012-04-05+13%3A13%3A53Bob+Lawless

What does it mean that the two most common forms of comment spam on this blog are people trying to sell sunglasses or handbags?

Apr

Cash: Killing It, or Building Bridges to It?

79892Leave a Comment2012-04-04+13%3A18%3A09Bill+Maurer+%26amp%3B+Stephen+Rea

Much has been written about the inherent riskiness of cash. It is dangerous because it can be lost, stolen, eaten, destroyed, etc. It is dangerous because it is difficult to track, thereby helping to facilitate crime. Many a potboiler plot hinges on a cache of unmarked bills. Anyone remember Trixie Belden? “‘That governess of yours won’t argue when I tell her to leave a fat roll of unmarked bills under a stone at the Autoville entrance tonight. She won’t notify the police either.’ He reached up a grimy hand and touched one of Honey’s shoulder-length curls. ‘Not when I send her a lock of your pretty hair with the note, eh?’” (Julie Campbell, Trixie Belden and the Red Trailer Mystery, New York: Random House Children’s Books, 1950, p.180).

In the comments on our last post, we can clearly see two poles of the cash debate: cash is for criminals, but digital payment will welcome Big Brother into our wallets. Why so stark a choice? Last year, the Fletcher School held a conference titled, “Killing Cash.” It was framed explicitly in terms of the possibility that “mobile money”—mobile phone enabled payment and money transfer services, like Safaricom Kenya’s much vaunted M-PESA—heralds the possible end of cash and coin. Most of these services work on a prepaid model via the mobile telecommunications network – basically like prepaid airtime minutes for a top-up (not subscription) phone (nice article here on e-money in Central Africa by Andrew Zerzan; short piece here on mobile money regulation). I put cash into the system by visiting an agent. The agent sells me “e-money” in exchange for my cash, and gets a commission. I can now send e-money to another client on the network, who goes to another agent to cash it out (usually without a commission). Or, I leave the value in my mobile wallet, for a little while or for a long time. This is not an “end of cash” scenario, however. It’s an addition of e-money to what had been—for the poor, without access to financial services and digital financial platforms—a cash-only world.

Some of the debate at Fletcher: 1) The advantages of e-money over cash: “Cash is addictive and easy to spend; e-money controls temptation. Cash bill payments and transfers over long distances are time-consuming and costly. Electronic budgeting is extremely useful. Cash offers no payment tracking. Cash is easily lost and stolen... There is no privacy with cash—children, neighbors, and relatives can see it. Cash limits choice in financial management.” “Cash is NOT free—it is an expensive instrument for which the social cost is often in excess of the cost of electronic payments. Even worse, cash is opaque—its costs are concealed.” 2) In defense of cash: “Studies show that people actually perceive a greater loss when using cash over electronic forms of payment. Most transactions actually occur within villages, for which paying a flat fee for M-PESA is needlessly expensive. E-budgeting requires financial literacy. Cash offers anonymity—something valued by many, not just criminals. At least the security of cash rests with the owner as opposed to third parties. … Cash is a public good free and open to all. Alternatives to cash are run by the private sector and carry transaction costs and fees. Cash is reliable—it will always work, even when the mobile towers go down. E-money may not be as sustainable as we think. If it were, why would we so often have to fund it with public sector resources?”

The anti-cash folks say that cash is risky, costly, cannot be tracked (and therefore facilitates crime, corruption, terrorism, etc.), and limits financial choices. The pro-cash position argues that cash is a public good and transactions can be done without having to pay fees, that it has an intrinsic affective value, that its anonymity is a benefit (not only to criminals), that alternatives are unproven, potentially unsustainable and require technological and financial literacies. The audience felt that the pro-cash position won the debate.

Public, private; tangible, intangible: These are core concerns over the purportedly inevitable disappearance of cash.

Between the date of the Fletcher conference and the USAID pronouncement, we’ve see the rise of experiments like Bitcoin (an anonymous “cryptographic currency” online that seeks to provide an alternative both to PayPal and to “fractional reserve banking”), the rapid uptake of some new payment technologies like Square, and a proliferation of mobile money transfer and payment schemes especially in emerging markets (see the Mobile Money Deployment Tracker). But our question is: why are these seen as supplanting cash, rather than adding to the portfolio of payment options? One argument made by USAID is that electronic means of payment permit “oversight.” Yet this is precisely what adherents of Bitcoin seek to avoid. Both mobile money and Bitcoin are technological fixes to a particular payment problem—but what, exactly, is that problem imagined to be? Why all the fuss, really? Mobile money does not kill cash – it builds bridges to it. This then raises a next question: what kind of technological platform is cash itself? And how is that platform interfacing with new digital platforms in actually existing mobile payment systems today? We turn to the first part of this question in our next post.

Apr

Deepthroat: Debt Collector Edition

79837Leave a CommentDeepthroat%3A++Debt+Collector+Edition2012-04-04+02%3A58%3A15Adam+Levitin

The American Banker has been running an important series on credit card debt collection (here, here, and here) that Joe Nocera highlighted in his NY Times column today. The story that they're telling, however, is only part of the picture. To fully understand the debt collection industry, it's necessary to take Deepthroat's advice, and "follow the money."

I haven't gone very far down this rabbit hole, but it's clear to me that there's another important angle to this story, namely, who is funding the debt collectors.

A lot of debt collection is done by law firms, because if you can't convince the borrower to pay on unsecured debt, then you've got to go to court in most cases. So enter the law firms. These aren't law firms as anyone would traditionally recognize them, however. A traditional law firm would have a bunch of lawyers supported by paralegals and administrative personnel. It would fund its operations from cash flow and perhaps a line of credit and partners' contributions. And the income-generating work would be done by lawyers.

That doesn't describe a lot of the collections law world. Instead, collections law firms are the dystopia of the legal industrial complex. These firms take the theory of the firm serious and rather often the "firm" is little more than an lawyer or two and their law license. Everything else, from the office equipment to the support staff, is contracted out. Most of the work is done by non-lawyers, and the lawyers are essentially renting out their law license to firms that supply the equipment and staffing. Instead of rent-a-BIN or rent-a-charter, it's rent-a-license lawyering. Robosiging? Of course--the whole point of the operation is to be industrial. It's transaction processing with a legal heksher. And it is the antithesis of the sort of judgment and counsel that lawyers have traditionally prided themselves as providing.

These firms also often work in network pyramids--a national contractor firm will then farm work out to regional contractors, who ultimately farm it out ot the locals. (That's the LPS network model, for example). Again, industrialized transaction processing and economies of scale.

But back to the money. Who do you think is funding the firms that are renting the law license? That's Wall Street money. It wouldn't shock me at all if some of the Holier than Thou financial institutions mentioned in the stories happened to have a sizable stake in a firm that provides virtually everything but the law license for debt collection. And if that's right, then what's really going on, is a PR move, in which Wall Street can claim that it isn't engaged in debt collection abuses, while it profits from it all the same.

Again, follow the money.

Apr

One Answer to Why People Hate Banks

79686Leave a CommentOne+Answer+to+Why+People+Hate+Banks2012-04-03+16%3A47%3A09Bob+Lawless

My last post mentioned a column by Joe Nocera on debt collection practices. Nocera's column is entitled "Why People Hate the Banks," and it appears on the penultimate page of the national print edition of today's New York Times. In a moment of sweet, sweet irony, Citi provides another reason to hate the banks just by turning the page.

The last page of the New York Times national print edition has a full-page color ad touting the achievements in the bank's 200-year history. The print ad evokes the same idea as currently appearing on the Citi home page, but the print ad has a more detailed time line:

1812: Citi opens in New York
1866: Citi funds the first transatlantic cable
1904: Citi funds the Panama Canal
1948: Citi supports the Marshall Plan to rebuild Europe
1956: Citi backs uniform cargo containers
1958: Citi backs the commercial jetliner
1977: Citi pioneers the ATM
2011: Citi is the first card in Google Wallet

Exactly. For the first 150 years, the bank helped build infrastructure that made the U.S. the largest economy in the world. For the past 50 years, it has been figuring out how to get fees out of consumers' wallets and pocketbooks.

Apr

American Banker on Credit Card Debt Collections

79687Leave a Comment2012-04-03+16%3A23%3A51Bob+Lawless

Jeff Horwitz at the American Banker has been doing some great reporting on abusive debt collection practices in the credit card industry. Joe Nocera's column took up the subject today. Robo-signing and other abuses have been a problem for a while with credit card debt collections, and Horwitz and Nocera do a public service by drawing attention to the problems. The situation cries out for congressional hearings and for regulatory investigation. It is great to see the Consumer Financial Protection Bureau make debt collection practices one of its top priorities.

Horwitz's articles at the American Banker include:

A summary of the debt collection problems at JP Morgan Chase
The story of a courageous whistleblower at JP Morgan Chase
The facts about how credit card debt is sold with little to no documentation or supporting evidence, focusing especially on the problems at Bank of America

Maria Aspen at American Banker separately reported how the sloppy sales of delinquent credit card accounts and shoddy debt collection practices were a nightmare for one Maryland woman.

Apr

Toward Cashlessness?

79436Leave a CommentToward+Cashlessness%3F2012-04-02+15%3A17%3A02Bill+Maurer+%26amp%3B+Stephen+Rea

One of my students came across a humorous blog post from February, 2012. Titled, “What your payment method reveals about you,” the author listed a series of unlikely payment actions and a line on the presumed personal characteristics of the payer. The humor appeals to… well, us, anyway, and probably you, too.

Slinging your card down: You've definitely shoved a dog's face away from you because "move."
Slinging cash down: You've consumed alcohol that's involved whipped cream in the past week.
Using your Hello Kitty-themed card: You have many other credit cards.
Handing a bag of nickels and dimes, uncounted: You are nine.

Around the same time, the United States Agency for International Development launched an initiative to replace the use of cash in aid efforts with electronic forms of value transfer:

"If you care about reducing poverty, then you must also care about reducing the reliance on physical cash. We begin a movement to do just that. USAID Administrator Rajiv Shah is announcing a broad set of reforms [in order to] reduce the development industry’s dependence on cash. This includes integrating new language into USAID contracts and grants to encourage the use of electronic and mobile payments and launching new programs in 10 countries designed to catalyze the scale of innovative payments platforms."

The USAID “Better Than Cash” program was the culmination of at least a year’s discussion internally and with major donor agencies over the costs of cash for the poor--the heightened risk of theft associated with physical currency, the anonymity of cash, the difficulty in transporting and storing cash for those without access to formal financial institutions. Our own work has been enlisted in this effort, yet we are a bit more circumspect: although there are very real problems associated with cash, there are also virtues. One of these virtues is that cash is publicly issued, not privately enclosed and tolled like most electronic forms of value transfer, and almost always accepted at par value. We’ll return to this topic as we examine some mobile phone-enabled money transfer and payment systems in the developing world, and regulatory responses to them, that might provide useful models. Over the course of the week, we will look closely at cash and how the debate over cashlessness—at times downright silly—is getting more serious, as at least some major actors shift from “the evils of cash” to “the benefits of an agnostic digital payment platform.” We think this is a consequential shift.

And we’re agnostic ourselves: we find virtues in proposals for digital payment platforms, but don’t want to lose certain aspects of cash—its social and public nature.

Indeed, the cashlessness rhetoric is getting a little crazy. Shortly after the USAID announcement, David Wolman, author of a new book titled, The End of Money, appeared on numerous radio talk shows throughout the United States. Among other things, Wolman dallies with the purveyors of literally apocalyptic predictions that money itself must end for the final redemption of Man. Just last week, Maurer witnessed an Occupy protestor doing a sort of interpretative dance with a dollar bill that culminated in its being set ablaze, accompanied (naturally) by primal chanting and drumming. And in this election year, the Tea Party movement on the American right has brought critiques of currency and the Federal Reserve back into political discourse. PYMNTS.com last week produced a roundup of recent discussions on the end of cash... and its continued dominance for everyday payments; and Bloomberg posted a more sober commentary on how "the road [to a cashless society] will not be as smooth and straight as enthusiasts might suppose." We agree, and we'll be circling back to this theme during the week.

From Nigeria’s “Cashless Lagos Project” to mobile phone-enabled services that promise to help the poor go cashless or “cash-light,” new technologies—and protests from the Tea Party to Occupy—are calling cash into question. Something’s definitely up. Cash is attracting heightened scrutiny, and from a wide (really wide) cast of characters. This week, we’ll be looking at what’s going on with cash today, why so many diverse constituencies are looking for alternatives, and why we might want to pause before announcing its demise.

One of my students came across a humorous blog post from February, 2012. Titled, “What your payment method reveals about you,” the author of the post, Erin Sullivan, listed a series of unlikely payment actions and a line on the presumed personal characteristics of the payer. The humor appeals to… well, us, anyway, and probably you, too.

Slinging your card down: You've definitely shoved a dog's face away from you because "move."

Slinging cash down: You've consumed alcohol that's involved whipped cream in the past week.

Using your Hello Kitty-themed card: You have many other credit cards.

Handing a bag of nickels and dimes, uncounted: You are nine.

Around the same time, the United States Agency for International Development launched an initiative to replace the use of cash in aid efforts with electronic forms of value transfer:

If you care about reducing poverty, then you must also care about reducing the reliance on physical cash. We begin a movement to do just that. USAID Administrator Rajiv Shah is announcing a broad set of reforms [in order to] reduce the development industry’s dependence on cash. This includes integrating new language into USAID contracts and grants to encourage the use of electronic and mobile payments and launching new programs in 10 countries designed to catalyze the scale of innovative payments platforms

The USAID “Better Than Cash” program was the culmination of at least a year’s discussion and debate internally and with major donor agencies over the costs of cash for the poor -- costs related to the heightened risk of theft associated with physical currency, the anonymity of cash, and the difficulty in transporting and storing cash for those in the developing world without access to formal financial institutions. Our work has been enlisted in this effort, yet we are a bit more agnostic: although there are very real problems associated with cash, there are also virtues. One of these virtues is that cash is publicly issued, not privately enclosed and tolled like most electronic forms of value transfer, and almost always accepted at par value. We’ll return to this topic as we examine some mobile phone-enabled money transfer and payment systems in the developing world, and regulatory responses to them, that might provide useful models. Spoiler alert: over the course of the week, we will look closely at cash and how the debate over cashlessness—at times downright silly—is getting more serious, as at least some major actors shift from “the evils of cash” to “the benefits of an agnostic digital payment platform.”

And we’re agnostic ourselves: we find virtues in proposals for digital payment platforms, but don’t want to lose certain aspects of cash—its social and public nature. We will discuss this in a subsequent post.

Shortly after the USAID announcement, David Wolman, author of a new book titled, The End of Money, appeared on numerous radio talk shows throughout the United States, speaking of the necessity for a successor to this centuries-old form of payment. For Wolman, the issues are similar to those identified by USAID, but he also dallies with the purveyors of literally apocalyptic predictions that money itself must end for the final redemption of Man. Just last week, Maurer witnessed an Occupy protestor doing a sort of interpretative dance with a dollar bill that culminated in its being set ablaze, accompanied by primal chanting and drumming. And in this election year, the Tea Party movement on the American right has brought critiques of currency and the Federal Reserve's monetary policy back into political discourse.[Stephen R1]

From Nigeria’s “Cashless Lagos Project” to mobile phone-enabled services that promise to help the poor go “cashless” or “cash-light,” new technologies—and protests from the Tea Party to Occupy—are calling cash into question. Something’s up. Cash is attracting heightened scrutiny, and from a wide and diverse cast of characters. Over the next series of posts, we’ll be looking at what’s going on with cash today, why so many diverse constituencies are looking for alternatives, and why we might want to pause before announ[Stephen R2] cing its demise.

[Stephen R1]I added this bit just as a way of foreshadowing Bitcoin/Ron Paul/conservative money nutter stuff around cash, but I'm not certain of the wording. I don't know if it's really a “bringing back” into political discourse and not more of weird attention being given to the Fed in a way that maybe it wasn't in 2008.

[Stephen R2]I love this, very straightforward.

Apr

Welcome to Guestbloggers Bill Maurer and Stephen Rea

By Katie Porter | Securitization-MBS

79238Leave a Comment2012-04-01+13%3A16%3A00Katie+Porter

Credit Slips welcomes Bill Maurer as a guest blogger this week. Bill is NOT a lawyer! Isn't that great? (We all need an occasional break from lawyers, even those of us who are lawyers.)

But Bill is one of my colleagues at the UC Irvine School of Law, where he has a joint appointment. He is a cultural anthropologist whose work focuses on law, property, and money and finance. Of great interest to Slips readers will be Bill's expertise on payment systems, and particularly on mobile money. He is the Director of the Institute for Money, Technology, and Financial Inclusion, a Gates Foundation-funded center for academic and policy research.

Bill's recent paper, Regulation as Retrospective Ethnography: Mobile Money and the Arts of Cash, examines how we are integrating mobile money products into our understanding of money, which traditionally has meant cash. He also has published work on BitCoin, Islamic banking, offshore financial structures, and other payments issues.

Bill will be joined by Stephen Rea, a graduate student in anthropology at UC Irvine. Stephen also is affiliated with the Institute for Money, Technology, and Financial Inclusion and has co-authored a forthcoming paper with Bill and another scholar on mobile money agents in the developing world.

We look forward to their insights.

Mar

Fannie and Freddie Charitable Donations?

79058Leave a Comment2012-03-31+02%3A21%3A24Adam+Levitin

I'm generally skeptical about corporate charitable donations. My sense is that they are primarily a transfer of value from shareholders to managers, rather than a value-enhancing investment in goodwill. So on the DC Metro, what did I see today, but a poster advertising the 2012 DC Servathon that featured the logos of a variety of corporate sponsors, including Fannie Mae and Freddie Mac.

Aren't Fannie and Freddie insolvent and in conservatorship? Whatever one thinks of corporate charitable donations, they are a lot harder to justify when the corporation is insolvent. Critically, as far as I can tell, the sponsorship is from Fannie and Freddie themselves, NOT their charitable foundations--at least there is no indication that it is the foundations, not the GSEs involved. If that is correct, then why on earth is FHFA permitting Fannie and Freddie to make charitable donations? It is practically a fraudulent conveyance. It is also using taxpayer money for charitable donations outside the appropriations process. That strikes me as really problematic. It also raises the question why FHFA will let Fannie and Freddie spend taxpayer money on charitable donations, but not on principal writedowns that might actually save taxpayers money in the long run.

So what are Fannie and Freddie doing with their corporate sponsorship? At best, it is an attempt to build goodwill. Remember that Fannie and Freddie do no business with consumers (other than foreclosing on them). And given that they are in a duoposony situation, they hardly have to advertise for their bank customers. So the only thing I can see this advertising as being about is currying political goodwill, which is lobbying in another form, something that Fannie and Freddie are forbidden from doing.

I'm all for charitable giving (with my skepticism about whether it is better done by corporate entities than individuals--there are obvious economy of scale issues for fund-raisers that cut the other way) and this is a good cause, but I really hope insolvent GSE aren't funding charities.

Update 4.1.12: A reader in the know directed me to this FHFA Office of the Inspector General report on the GSEs' charitable activities. Two points of interest. First, GSE charitable giving from 2008-2011 has totalled $219 million. Small potatoes relative to the scope of federal assistance, but still. Second, in October 2008 (months into the conservatorship), FHFA expressly permitted the GSEs to continue their charitable activities "because of the supporting role that such activities would play during the economic downturn." For real? That seems WAY outside of the FHFA's purview as conservator. Since when does conservatorship mean doing macroeconomic policy? And if it does, then let's talk about those principal reductions... Then in 2010, the FHFA ordered the GSEs to wind down their charitable activities by the end of 2013. It seems that there are complications in winding up the Freddie Mac Foundation. That aside, it's not clear to me why three plus years were necessary. imho, the FHFA should have stopped all new charitable giving as of the date of the conservatorship and allowed the Foundations to wind-down. I'm glad to see the IG has been on this issue.

Mar

Tax Rebates Lead to Bankruptcy Filings

78723Leave a CommentTax+Rebates+Lead+to+Bankruptcy+Filings2012-03-29+15%3A28%3A05Bob+Lawless

Jialan Wang has a blog post up summarizing her and her co-authors very interesting NBER paper estimating that at least 30,000 to 60,000 liquidity constrained households this will be priced out of bankruptcy because of the increased costs that came with the 2005 changes to the bankruptcy law. Actually, the research does not find that tax rebates lead to bankruptcy filings -- that was just a cheesy trick to get you to read the post. The researchers find that, after receiving tax rebates, people are more likely to file bankruptcy as they now have funds they can use to pay for the bankruptcy fees. They then use the randomization of the delivery of tax rebates in 2001 and 2008 to identify the effect that the higher fees caused on the bankruptcy rates of liquidity constrained households. It is a clever research design, and Credit Slips readers will want to check it out.

Mar

Is Loaning Money at a 350% APR Evil?

78691Leave a Comment2012-03-29+12%3A25%3A00Bob+Lawless

In the early part of this year, a new start-up called ZestCash launched. Founded by former Google CIO, Douglas Merrill, it appears to be an attempt at short-term consumer lending with a Google-like "don't be evil" approach and markets itself as an alternative to payday loans.The venture caught my eye when mentioned in the New York Times this weekend as part of a story about Gil Ebaz's work of adding value to different services by providing better, more reliable data.

ZestCash intends to use different information and algorithms to assess the likelihood of repayment. The New York Times story suggests that this information will include cell phone bills. As someone who works a lot with data, I have little doubt that there is a lot of information that will do a better job of predicting repayment than the information currently in credit reports. Better accuracy should translate into lower interest rates for consumers. If there is transmission of consumer information from an unrelated company to another, as a lawyer I wonder whether this can all be done without becoming a credit reporting agency and triggering regulation under the Fair Credit Reporting Act. But, I presume (or at least hope) ZestCash has lawyers advising it on those FCRA isssues.

Here is the catch, ZestCash's own web site discloses that its maximum rates may have up to a 350% APR. There has been laudatory and not-so-laudatory coverage of ZestCash. As a friend of mine was fond of saying, personally I feel strongly both ways. Demand for short-term consumer loans is not going to go way. High-priced and abusive consumer lending needs solutions, and we should not discourage market-based experiments to provide better short-term loans. ZestCash does eliminate the abusive rollover feature of payday loans. Also, its bounced-check fee of $10 also strikes me as reasonable. ZestCash's web site even directs potential customers to legitimate web sites that help people deal with debt such as the Consumer Federation of America or the Center for Financial Services Innovation.

But, 350% APR . . . wow. Credit unions are offering products similar to payday loans at interest rates under 36%. To be fair to ZestCash, the 350% APR is the maximum rate. It would be useful to know at what actual rates ZestCash's lending is occurring, but the disclosures on its web site suggest rates much higher than what many credit unions offers for a similar product. ZestCash claims to have better predictive models on repayment, but such a high APR would still be suggestive of high default rates. Maybe it is fixed costs that just translate into a high APR, but even considering the fixed costs of a short-term loan, amortizing them over a two- to six-month should not yield such APRs approaching 350%.We need solutions to high-priced consumer lending, but those solutions are not more high-priced consumer lending.

Mar

New Panel Data!

By Alan White | Securitization-MBS

78546Leave a CommentNew+Panel+Data%212012-03-28+19%3A35%3A37Alan+White

The Fed has just released their data from the 2007-2009 panel Survey of Consumer Finances. The SCF, conducted every three years, includes hundreds of variables on the assets, liabilities, income, and financial product shopping and utilization of American consumers. Some questions include "what was the most important factor in your decision to refinance your mortgage?" and "during the past year, have you taken out a payday loan?". The 2007-2009 panel data set is especially valuable because it offers a picture of household finances before and after the Global Financial Crisis; the 2007 survey respondents were resurveyed in 2009. There is also a separate 2010 SCF survey, but those data have not been released yet.

Possible research subjects one might explore with this data set include the relative wealth loss of different racial and ethnic groups, what type of consumers chose different types of mortgage loans and other credit products, and how financial product choice interacted with changes in consumer finances as the crisis unfolded.

The Fed staff's own summary of the data is here. The paper describes wealth losses by wealth category and geographic region, but not by race or ethnicity.

Mar

Congress Has Its Own Limiting Principle

78508Leave a CommentCongress+Has+Its+Own+Limiting+Principle2012-03-28+17%3A48%3A44Bob+Lawless

This is supposed to be a blog about credit and bankruptcy, but I can't help myself in making a short comment about one aspect of the oral argument and discussion from yesterday's challenge to the individual mandate. Credit Slips purists should note that many bankruptcy filers have lots of medical debt, so the topics are not completely unrelated.

There has been a lot of discussion about the search for the so-called "limiting principle." If Congress can make you buy health insurance, could it make you buy burial insurance or (gasp) buy broccoli to eat? If the Supreme Court does not protect us, what is to stop Congress from passing all sorts of dumb laws like these?

The same crowd who is aghast at the possibility of having people purchase health insurance are also the same crowd who always reminded us (or at least used to remind us) that it is not the Court's job to stop Congress from enacting dumb laws. Congress has its own limiting principle. It's called the ballot box.

Jamal Greene over at Slate makes a similar point. And, if you're still looking for a limiting principle, Charles Fried, Reagan's solicitor general, offers one in an interview with the Washington Post's Greg Sargent.

Mar

Marketing $25 Billion AG Settlement to Consumers is Key to Getting Money

By Nathalie Martin | Securitization-MBS

78341Leave a Comment2012-03-27+21%3A37%3A07Nathalie+Martin

Our local AG's office just held a meeting for people who serve homeowners in foreclosure, to explain what the settlement means to consumers. In this blog, I share what I learned. Homeowners in each state that is a part of the settlement (sorry Oklahoma) will receive tens of millions of dollars for forgiving principal on loans, refinancing for borrowers who are current but under water, and direct payments to those whose homes were foreclosed between January 1, 2008 and December 31, 2011. KEY FACT: Because people need to apply for these funds, education and outreach is essential. Please circulate this information as far and wide as you can. The funds are available for three years, and funds not used are retained by the banks. Five pots of money are available, and I’ll provide the New Mexico estimates where available just so you can see the proportions, but each state’s numbers are different and most will be much higher.

First, there will be money for those who are delinquent and whose loans are serviced by the five settlement banks (BAC, JPMorgan, Wells Fargo, Citi, and GMAC/Ally) (these funds are estimated to be about $63,000,000 in New Mexico). These funds are available for various types of assistance, including principal reduction or forbearance. Information and application forms can be found on most state AG’s web sites. As part of the settlement, banks agreed to 45 pages worth of servicing standards. The activities of the banks are subject to independent review by a former bank commissioner from North Carolina who will have “unfettered” access. AGs also have access and oversight. There are penalties for non-compliance, though I am not sure if there are third party beneficiary rights.

Second, moneys are earmarked for homeowners who are behind but cannot refinance because they are under water, as long as the homeowner's note is owned (as opposed to just serviced) by the five settling banks (an estimated $2,500,000 in New Mexico). It looks as though notes in a trust administered by one of the settling banks are eligible for this benefit as well. Third, money is set aside for state financial services, and fourth for foreclosure prevention.

Fifth and finally, homeowners whose homes were foreclosed between January 1, 2008 and December 31, 2011 are eligible for direct payments. These funds are not meant in any way to compensate for the loss of the home, just to say “I’m sorry.” These funds are estimated to be in the range of $1,500 to $2,500 per lost home Nationwide, depending on how many people apply.

There also will be some other assistance including deferred payments for homeowners, relocation assistance, waiver of some deficiency balances, and funds for fixing blighted properties. AG's offices will also get funds to ameliorate the problem however they see fit.

What steps must consumers follow to take advantage of the settlement? Each servicer will have its own process, but consumers should contact their local AG's office and that office’s web site. Also check out this amazing web site that explains the settlement in clear terms, through diagrams.

We are lucky here in New Mexico, that the local AG’s office is so transparent. Part of their meeting Friday was dedicated to brainstorming about how to get the word out to consumers. Nothing could be more important in the context of this settlement, because servicers will only pay these high dollar settlement figures if people apply. The settlement website will be updated with helpful information and details on how to proceed as information becomes available, so help us spread the word.

These details are good to know, but the $25 billion question remains. Following robo-signing, fraudulent documents, incomplete ownership trails etc., will servicer behavior change? If not, won’t more liability follow for the servicers? If so, how will servicersaccomplish change? Better staffing? Better settlement opportunities for borrowers? Distribution of much of these funds is still in the discretion of the servicers, so one can only hope we see real change. I am a bit similar to those buyers in the Shaken faith cases. To quote my father, I am hopeful for change, but I’ll believe it when I see it.

Mar

Principal Reduction and Strategic Default

78191Leave a Comment2012-03-27+01%3A19%3A04Adam+Levitin

Moral hazard, moral hazard, moral hazard.... How often have we heard that as a reason for why principal reductions can't be done. As if it were the worst thing in the world.

As an initial matter, we don't have to do principal reduction in a way that creates moral hazard, such as making principal reduction contingent on default and no strings attached. (To put it another way, we don't have to be stupid about the way we do principal reduction.) One solution would be principal reductions contingent on level of negative equity, not on default. Another would be to offer principal reductions only to those who have already defaulted (I don't like this because it penalizes those who kept paying, but the point is that it avoids moral hazard inducement). Another possibility would be to make principal reductions contingent upon paymentshared appreciation, which doesn't have to be a 50-50 split. Instead, it could be that initial appreciation goes all to the lender and then it starts to shift to the borrower.

But let me suggest something counterintuitive and heterodox. Principal reduction is a case in which we WANT to encourage moral hazard. To understand why, you need to start with the understanding that our goal here is macroeconomic, not moral. The goal is stabilizing the housing market and the the economy, not balancing the moral cosmos and bringing harmony to the Force (not that there's anything wrong with that).

Making principal reduction contingent upon default means that there will be a bunch of people who default just to get the principal reduction. That's a "ruthless" group of people who are quite likely to be strategic defaulters otherwise. They are precisely the people who need to get principal reductions to incentivize them to stay in their homes in order to stabilize the market. We might not like rewarding people who would act opportunistically like this, but if you accept the issue as macroeconomic, not moral, then the results are what matter: fewer foreclosures and a stabilized housing market.

Mar

Calling DeMarco’s Bluff? Use the GSEs’ Market Power to Force 2d Lien Write Downs

78145Leave a Comment2012-03-26+21%3A27%3A42Adam+Levitin

There's been mounting pressure on the acting head of the FHFA, Ed DeMarco to order Fannie Mae and Freddie Mac to undertake principal reductions. DeMarco's pushed back, arguing that it's not fair for the GSEs to write-down principal when there are second liens on some of the loans that are on banks' books and the banks aren't doing write-downs (see here and here and Felix's critique here). DeMarco is arguing for strict observance of absolute priority. He notes that reducing the GSEs' first lien balances at taxpayer expense effects a bailout of the banks as it bouys the likelihood that their second liens will be repaid.

DeMarco's correct about a write-down of the firsts alone being a bailout of the banks. But his argument for doing nothing doesn't hold up for two reasons. First, there are plenty of GSE loans without seconds. There's no reason not to do write-downs on those loans. And second, the GSEs have the market power to force the banks to write down seconds as a term of doing business with the GSEs. If DeMarco's serious about dealing with negative equity, he'll start running the GSEs' like the 800 lb. gorilla they are in the housing market.

Not all GSE loans have second liens. It's not hard to determine if there's a second lien on a property--a title search and/or a credit report will show that. Those aren't free, but I hate to think that would be what's keeping DeMarco from ordering the GSEs to write-down principal on loans that don't have seconds. The possibility that some might have seconds shouldn't get in the way of writing down principal on those that don't have seconds.

More importantly, DeMarco's hardly a helpless babe in this situation. DeMarco has the leverage to force the banks' hand on second liens. The GSEs have no obligation to do business with anyone they don't want to deal with, and the GSEs get to set the terms on which they do business. There is nothing, absolutely nothing, that prevents DeMarco from instructing the GSEs to adopt a policy that they will not purchase mortgage loans from any financial institution that does not agree to abide by a second lien write-down policy. That could be a policy that says 2ds get written off completely if there is a principal reduction on the 1st, or one that makes for a pro rata reduction, etc. The precise terms aren't key.

What is key is that the GSEs have the power to force these terms on the banks. The GSEs ARE the mortgage market today. They have monopsony power. (The GSEs' could also probably condition continuation of servicing rights on second lien treatment...) If DeMarco wants to use the banks' seconds as an excuse not to do principal reductions, he needs to explain why he isn't willing to exercise the GSEs' market power. And it can't just be vague statements that it "isn't appropriate" or "legal restrictions." He needs to be citing chapter and verse, but I don't think there's anything to cite and certainly not something that forecloses (no pun intended) the possibility--at most there's an issue to be litigated, which gives FHFA all the leverage it needs. And fwiw, FHA could do the same darn thing. (Ahem, Shaun Donovan.)

Sadly, rather than thinking creatively about this issue, FHFA (and its GC in particular) seem to be spending an inordinate amount of time on devising ways to supp up the foreclosure process and get rid of those pesky laws protecting homeowners (such as through a uniform state law making to strip away consumer protections under the banner of uniformity--lowest common denominator prevails!) or requiring that servicers care for properties that have been abandoned.

I'd love to see DeMarco order the GSEs not to do business with anyone who won't enter into a second-lien reduction agreement with them. It would focus a very sharp spotlight on the second liens on the banks' books. Clearly they can afford some principal reductions without going belly up, or else we wouldn't (or perhaps shouldn't) be seeing dividend payments. But this is the shibboleth: if DeMarco's serious about principal reductions, he's got the tool to do it. And if he isn't, it's time for him to go.

Mar

FireDogLake Book Salon on BROKE

By Katie Porter | Securitization-MBS

77878Leave a CommentFireDogLake+Book+Salon+on+BROKE2012-03-25+04%3A12%3A15Katie+Porter

On Sunday, March 25, from 5-7pm Eastern/2-4pm Pacific, I am live-blogging about Broke: How Debt Bankrupts the Middle Class at FireDogLake's Book Salon. My host is Edwin Walker, a retired bankruptcy practitioner with over twenty five years of experience. I am certain that he will prompt a lively discussion. I am looking forward to his questions and to engaging with the public on these issues. All Credit Slips readers are welcome to join in the conversation.

Mar

A Must Read on the Financial Crisis