Richard Epstein
It is widely agreed that housing markets are a mess. The run-up in prices before 2006 was fueled in large measure by a cheap money policy that allowed individuals to overbid on real estate and then mortgage the properties to the hilt. Once the house of cards came tumbling down, many of the mortgages went into default. In other cases owners kept up their mortgage payments on "underwater" property--where the amount of the lien exceeded the market value of the property.
The risks involved in these cases were all systematic, which means that the problems were not confined to the personal circumstances of this or that buyer. Systematic solutions are needed, and unfortunately, since 2008, the policies chosen have only perpetuated the difficulties. The root of the difficulty lies in the treatment of foreclosure remedies.
The traditional legal attitude on this point was clear: foreclosure was strict, delays were not tolerated. The lender had to prove nonpayment of the loan, at which point, he was entitled to reclaim possession of the property. He was also entitled to renegotiate the terms of the loan, if he were left better off by the extension than by foreclosure. The only role for the legal system was to make sure that these contracts and contract modifications were enforced to the letter.
The logic behind this position is simple. Once a borrower falls behind in his payments, and knows that foreclosure looms in the future, two motives dominate. First, don't make any payments on the mortgage because eventually you won't be able to keep it anyhow. Second, don't perform any maintenance on the property above and beyond the minimum. To maintain your property when defaulting on your mortgage is to be a sap, and to make expenditures that will only help your creditor.
Strict foreclosure forces the defaulting owner out onto the street. That is all to the good: of course, these people will need housing, but they will purchase some at far lower cost, or, more likely, return to the rental market, which demands less by way of capital. The unit then can be resold by the bank at its market value, where new buyers can afford the smaller mortgage, and make a larger down payment that will tend to stabilize the situation. After some hiccups, the situation would become far more stable.
Unfortunately our policy makers thought they had a better idea. Their first imperative was to keep the borrower in possession by delays and formalities, ignoring all these serious externalities. That policy has now failed, so other bad ideas have been put forward. At the federal government level, a Home Affordable Modification Program (HAMP) has been put into place on the ground that pressuring lenders to defer foreclosure will improve the situation.
Instead it threw good public dollars after bad, prolonging the agony.
Now we have another equally bad proposal to intervene in the mortgage market. Recent pieces in the New York Times by Joe Nocera and Robert Schiller, have eagerly embraced an idea put forward by Cornell University Law Professor Robert C. Hockett. In an incredibly tedious and self-important article, Hockett suggests that local government agencies use eminent domain power to condemn mortgages that are underwater but not yet in default--at reduced prices (what Nocera calls "steep but fair discount")--and then let some municipal authority refinance the loans and resell them in bundles for a profit to the agencies in question. Naturally such a scheme would require a middle man, and a fat fee. Mortgage Resolution Partners (whom Hockett advises) is happy to play that role.
The idea has already been rightly panned by the Wall Street Journal. But the entire proposal needs still further consideration. First off, Hockett and his group insist that there is a huge collective action problem that prevents the rationalization of mortgage matters. And there is. It is called local government regulations that have blocked the foreclosure measures set out above. Handle those and the externalities to which they refer disappear. No longer do we have owners neglecting property or clogging the courts with endless motions.
Next, note that this whole proposal seeks to create something out of nothing, and like all such schemes, necessarily fails. The initial argument in favor of this position is that the state can condemn for public use a mortgage, just like it can condemn any other property. The current definitions of public use are so broad, that the transfer of money from one pocket to another might now qualify, which is hardly a ringing endorsement of why this ploy should be adopted.
The just compensation requirement here is a lot stiffer, and the right question to ask is just where the increase in social value comes that justifies all the financial sleight-of-hand that goes on. And here there is only one way to make the numbers work, which is to rob the current mortgage holder blind.
The key question to ask is this: why do people whose property is underwater not walk away from the property? The answer is that the subjective value of the home to them exceeds the value of the mortgage, even if the mortgage exceeds the sale price of the property. If therefore the mortgage is not in default, there is a good chance that it will stay out of default for some time to come. At that point, using a valuation process that compares mortgage amount to market value systematically undervalues the mortgages and forces the groups that hold these mortgages to part with them for a fraction of their value. The government in other words cherry picks the portfolio with a free option to take mortgages for less than their intended worth.
The scheme is, moreover, subject to all sorts of political corruption, for once borrowers know of the system, they can collude with the so-called middlemen to have their mortgages on the list. After all, what borrower is against paying less. So this turns out to be nothing more than a fancy con game, in which two parties use the power of eminent domain to pillage a third. The idea has been proposed for the City of San Bernardino, which is itself bankrupt. If this system is allowed to go forward, it too will be bankrupt--morally as well as financially.
Richard A. Epstein is the Laurence A Tisch Professor Law at New York University, the Peter and Kirsten Senior Fellow at The Hoover Institution, and the James Parker Hall Distinguished Service Professor of Law and senior lecturer at the University of Chicago, as well as a visiting scholar with the Manhattan Institute's Center for Legal Policy.
http://pointoflaw.com/columns/2012/07/more-nonsense-on-the-home-mortgage-front-dont-let-municipal-governments-condemn-mortgages-at-bargain.php
It is widely agreed that housing markets are a mess. The run-up in prices before 2006 was fueled in large measure by a cheap money policy that allowed individuals to overbid on real estate and then mortgage the properties to the hilt. Once the house of cards came tumbling down, many of the mortgages went into default. In other cases owners kept up their mortgage payments on "underwater" property--where the amount of the lien exceeded the market value of the property.
The risks involved in these cases were all systematic, which means that the problems were not confined to the personal circumstances of this or that buyer. Systematic solutions are needed, and unfortunately, since 2008, the policies chosen have only perpetuated the difficulties. The root of the difficulty lies in the treatment of foreclosure remedies.
The traditional legal attitude on this point was clear: foreclosure was strict, delays were not tolerated. The lender had to prove nonpayment of the loan, at which point, he was entitled to reclaim possession of the property. He was also entitled to renegotiate the terms of the loan, if he were left better off by the extension than by foreclosure. The only role for the legal system was to make sure that these contracts and contract modifications were enforced to the letter.
The logic behind this position is simple. Once a borrower falls behind in his payments, and knows that foreclosure looms in the future, two motives dominate. First, don't make any payments on the mortgage because eventually you won't be able to keep it anyhow. Second, don't perform any maintenance on the property above and beyond the minimum. To maintain your property when defaulting on your mortgage is to be a sap, and to make expenditures that will only help your creditor.
Strict foreclosure forces the defaulting owner out onto the street. That is all to the good: of course, these people will need housing, but they will purchase some at far lower cost, or, more likely, return to the rental market, which demands less by way of capital. The unit then can be resold by the bank at its market value, where new buyers can afford the smaller mortgage, and make a larger down payment that will tend to stabilize the situation. After some hiccups, the situation would become far more stable.
Unfortunately our policy makers thought they had a better idea. Their first imperative was to keep the borrower in possession by delays and formalities, ignoring all these serious externalities. That policy has now failed, so other bad ideas have been put forward. At the federal government level, a Home Affordable Modification Program (HAMP) has been put into place on the ground that pressuring lenders to defer foreclosure will improve the situation.
Instead it threw good public dollars after bad, prolonging the agony.
Now we have another equally bad proposal to intervene in the mortgage market. Recent pieces in the New York Times by Joe Nocera and Robert Schiller, have eagerly embraced an idea put forward by Cornell University Law Professor Robert C. Hockett. In an incredibly tedious and self-important article, Hockett suggests that local government agencies use eminent domain power to condemn mortgages that are underwater but not yet in default--at reduced prices (what Nocera calls "steep but fair discount")--and then let some municipal authority refinance the loans and resell them in bundles for a profit to the agencies in question. Naturally such a scheme would require a middle man, and a fat fee. Mortgage Resolution Partners (whom Hockett advises) is happy to play that role.
The idea has already been rightly panned by the Wall Street Journal. But the entire proposal needs still further consideration. First off, Hockett and his group insist that there is a huge collective action problem that prevents the rationalization of mortgage matters. And there is. It is called local government regulations that have blocked the foreclosure measures set out above. Handle those and the externalities to which they refer disappear. No longer do we have owners neglecting property or clogging the courts with endless motions.
Next, note that this whole proposal seeks to create something out of nothing, and like all such schemes, necessarily fails. The initial argument in favor of this position is that the state can condemn for public use a mortgage, just like it can condemn any other property. The current definitions of public use are so broad, that the transfer of money from one pocket to another might now qualify, which is hardly a ringing endorsement of why this ploy should be adopted.
The just compensation requirement here is a lot stiffer, and the right question to ask is just where the increase in social value comes that justifies all the financial sleight-of-hand that goes on. And here there is only one way to make the numbers work, which is to rob the current mortgage holder blind.
The key question to ask is this: why do people whose property is underwater not walk away from the property? The answer is that the subjective value of the home to them exceeds the value of the mortgage, even if the mortgage exceeds the sale price of the property. If therefore the mortgage is not in default, there is a good chance that it will stay out of default for some time to come. At that point, using a valuation process that compares mortgage amount to market value systematically undervalues the mortgages and forces the groups that hold these mortgages to part with them for a fraction of their value. The government in other words cherry picks the portfolio with a free option to take mortgages for less than their intended worth.
The scheme is, moreover, subject to all sorts of political corruption, for once borrowers know of the system, they can collude with the so-called middlemen to have their mortgages on the list. After all, what borrower is against paying less. So this turns out to be nothing more than a fancy con game, in which two parties use the power of eminent domain to pillage a third. The idea has been proposed for the City of San Bernardino, which is itself bankrupt. If this system is allowed to go forward, it too will be bankrupt--morally as well as financially.
Richard A. Epstein is the Laurence A Tisch Professor Law at New York University, the Peter and Kirsten Senior Fellow at The Hoover Institution, and the James Parker Hall Distinguished Service Professor of Law and senior lecturer at the University of Chicago, as well as a visiting scholar with the Manhattan Institute's Center for Legal Policy.
http://pointoflaw.com/columns/2012/07/more-nonsense-on-the-home-mortgage-front-dont-let-municipal-governments-condemn-mortgages-at-bargain.php
No comments:
Post a Comment