The mortgage industry in the United States is in a terrible mess,
and the steps we have taken to correct it are only going to make that
In a normal economy, banks lend money to people they expect to repay
the loans. Banks that are good at this can lend at interest rates below
immoral usurious ones and still make a very good profit. The banks
that are the best judges of their borrowers make the highest profits.
This is not a normal economy. In 1977, during the Carter administration,
legislation was enacted that required banks to lend money back into
the communities or neighborhoods out of which they drew their customers.
This changed a lot of things. The reputation of mortgage brokers no
longer depended on how often they produced reliable borrowers, since
the banks were no longer trying to lend only to reliable borrowers.
Instead, the banks wanted to keep the government off their backs by
lending in the politically designated neighborhoods. Appraisers’ reputations
no longer depended on accuracy but on how much business they could
generate, since the brokers with whom they dealt now knew that banks
would take junk off their hands.
Banks used participations in their mortgages as security to borrow
more money, and they relied on projections of default rates based upon
their history from the days when they tried only to make good loans.
Furthermore, a culture arose of charging interest rates (especially
on credit cards) based on having the reliable customer pay for the
risk the bank was taking with other borrowers. Some of this interest
is higher than the local criminal usury rate.
The result was a mess in which most of the financial system was under-secured
on its loans. When this became widely realized, everyone became reluctant
to make the kind of loans that had become normal.
In order to get out of this mess, the federal government has bought
all of the problems of Fannie Mae and Freddie Mac. This made the people
of the United States of America the owners of trillions of dollars
of mortgages, many of them in default. The government also bullied
the nine largest banks in the country into selling hundreds of billions
of dollars of new issue stock to the government. This makes the people
stockholders in the owners of every mortgage made by a big bank. Finally,
the government will probably buy half a trillion dollars in current
market value of defaulted mortgages and hold them directly. In short,
the people are going to have a stake in 20 million or so problem mortgages
and even more good mortgages.
The government’s final goal will be the same as that of any
mortgage lender: to get as much of the loan principal and interest
back as possible.
In a normal economy, a bank has experts who determine on a case-by-case
basis which mortgages to foreclose and which ones to save by forgiving
a monthly payment or two, or at least postponing the delinquent payments.
The better these experts are, the more profitable the bank will be.
The government is not very good at doing things on a case-by-case
basis. It will hire a new bureaucracy to handle its new portfolio.
The bureaucracy will probably be about as compassionate as the Internal
Revenue Service and as efficient as the Veterans Administration. There
will probably be four types of people in the new bureaucracy.
• There will be some ideologues who believe that it is the
right of poor people to own their homes, whether or not they can
• There will be some people who make an honest effort to return
the mortgages to the private sector as quickly as possible.
• The largest group will be people who want to advance their
careers by getting as much money as possible for the mortgages for
which they are responsible.
• The fourth and most significant group will be those who do
the planning, mostly by creating laws and regulations, to get the
government out of the mess.
The bureaucratic mentality will prevail. The nine largest banks have
government money, and obligations go with it. The people’s investment
in the bank loses value if the value of the bank’s collateral
goes down. This value goes down if the bank’s mortgage customers
do not replace their roofs or cut their grass often enough. Therefore,
we will need a set of government standards for the upkeep of houses
financed by any of the nine largest banks. Some banks are more compassionate
than others with delinquent mortgage borrowers. That will have to end,
and a uniform policy on foreclosure will have to be adopted. There
will, no doubt, be some in the government who want to stop all foreclosures,
but I cannot imagine that they will prevail. It is simply not politically
feasible to reward failure to pay one’s mortgage with a free
There will be half a trillion dollars or so of mortgages owned directly
by the government. We had a similar experience with the Resolution
Trust Company that acquired the bad loans of insolvent savings and
loan associations and collected or sold them. A lot of these loans
were foreclosed directly by the Resolution Trust Company as if it were
a bank. Our situation now is worse; the bureaucracy is going to have
to administer loans to poor borrowers living in single family homes.
This is something the big mortgage companies already do worse than
the banks. The Feds will probably show us new depths of incompetence
in an industry that has never been free of problems.
The cure we have chosen for our credit crisis is shaping up to be
worse than the disease.
The Confederate Lawyer column is copyright © 2008
by Charles G. Mills and the Fitzgerald Griffin Foundation, www.fgfBooks.com.
All rights reserved.
Charles G. Mills is the Judge Advocate or general counsel for the
New York State American Legion. He has forty years of experience in
many trial and appellate courts and has published several articles
about the law.
See his biographical sketch and additional columns here.
To sponsor the FGF E-Package, please send a tax-deductible donation
Fitzgerald Griffin Foundation
P.O. Box 1383
or donate online.