Memo to Obama: time to break the refinance strike by the big banks

August 31, 2010

There are growing signs of unease bordering on desperation inside the Obama White House. Most of the O Team now understands that the real, private economy never got out of Dip Number One. The prospect of a permanent downward shift in “trend growth” to a lower track, and continued double digit unemployment, are driving a search for alternative measures that has even touched conservatives in the worlds of finance and economics.

The Obama Administration and the Fed have taken the position that the crisis affecting the U.S. economy and the financial sector is slowly ending. In fact, the largest banks remain profoundly troubled by bad assets on their books as well as claims against these same banks for assets sold to investors. By allowing banks to “muddle along” and heal these wounds using low interest rates provided by the Fed, the Obama Administration is embracing a policy of deflation that has horrible consequences for U.S. workers and households.

In a post over the weekend on ZeroHedge –  “Bernanke Fed Drives Deflation With Zero Rate Policy” — I described the negative effects of the Fed’s low interest rate policy on bank earnings, as well as consumer and corporate spending and saving. When interest rates are low, savers move their preference for liquidity to infinity, especially after the past several years of market breakdown. Retirees spend less because the interest earned on bonds and savings has plummeted.  Here’s an excerpt:

When the Fed buys securities through QE, it is removing duration from the markets, pushing down yields and volatility. For a while this boosts the net interest margin (NIM) of leveraged investors such as banks, who are able to borrow at lower rates to fund current assets. As assets re-price to the low rates maintained by the Fed, however, NIM begins to disappear. Over the medium to longer term, think of duration and NIM as being linked, so obviously a sustained period of QE is bad for NIM. This is why NIM in the U.S. banking sector is starting to fall.

Just as the earnings of leveraged investors like banks are starting to suffer due to zero rate policy, so too the spending by all manner of savers, from retirees to companies and not-for-profits to municipalities, is falling too. Fed Chairman Bernanke and the other members of the FOMC are killing the real economy to save the banks — but none of the benefit flowing to the banks is reaching U.S. households. In fact, the Obama Administration has been providing political cover for the Fed to conduct a massive, reverse Robin Hood scheme, moving trillions of dollars in resources from savers and consumers to the big banks and their share and bond holders.

The first priority is to make clear to the largest banks, especially the top four institutions — JPMorganChase (JPM), Bank of America (BAC), Wells Fargo (WFC) and Citigroup (C), that the party is over when it comes to providing credit to the real economy. Until President Obama and Fed Chairman Bernanke recognize that six institutions — FNM, FRE, BAC, C, JPM and Wells Fargo — have broken the mechanism which makes interest rate easing work, we will make little progress fixing the economy.

“In every Fed easing event during my career in finance (1986, 1992, 1998, 2002), it was the wave of refinancing of debt after the Fed eased interest rates that put permanent disposable income into the hands of households,” notes a former Fed official who worked in the banking industry for decades. “In this last easing, however, FNM, FRE and the TBTF banks have conspired to break the transmission mechanism for monetary policy and are now strangling the U.S. economy to save themselves from past errors.”

Rules changes made by FNM and FRE since the Treasury’s conservatorship began in 2008 have prevented millions of American consumers and business from refinancing their mortgage debts. The Bernanke Fed will attempt to compensate for this de facto freeze on refinancing with QE II, but this will fail.

So what should President Obama do?

First, the Obama Administration should use the power provided in the Dodd-Frank legislation to force an accelerated cleanup of bad assets and to mandate refinancing and principal reductions for performing loans with viable borrowers. If any banks resist, the Treasury should use the power under current federal law to remove recalcitrant officers and directors of these same banks.

Second, President Obama also needs to focus on the growing competitive problem in the U.S. mortgage sector. The mortgage banking industry suffered significant consolidation since 2007. In particular, the competitive, third part origination players went out of business via bankruptcy or by being taken over. The industry is now dominated by a cozy oligopoly of Too Big To Fail banks (TBTF).

The top three banks control 55% of all mortgage originations. The top 10 banks control 95%. The top five run the only surviving channels to sell loans to Fannie Mae (FNM) and Freddie Mac (FRE), and force their pricing upon the entire banking industry. Small banks give up half the economics of a typical loan to sell a loan to FNM or FRE indirectly, through WFC or JPM. Why is there no antitrust investigation of the top banks by the Department of Justice?

The Obama Administration should move to restructure FNM and FRE now, not in 2011. The Treasury should use its existing authority under the conservatorship to force FNM and FRE to make rules changes to allow for the refinancing of all existing residential mortgages, if only to reduce the current cost of the debt and increase disposable income for households.

By moving on reforming FNM and FRE, the Obama Administration can provide relief to home owners and also send a strong message to Wall Street and global investors that the practice of “too big to fail” is at an end. We should always remember that the model of the government sponsored enterprises (GSEs) goes back to fascist Italy and Germany of the 1920s. The very public demise of these GSEs is an important part of ending TBTF for the large banks — but only part of the story.

President Obama should make some political hay over the fact that loan origination margins for the top four banks have gone from ½ point to over 4 points in the last two years. This is the subsidy for Wall Street above and beyond the zero interest rate policy of the Fed. The Obama Administrations needs to require changes in the way in which FNM and FRE do business with the banking sector and with mortgage holders, and use these changes to reform the mortgage market in preparation for legislation from the Congress.

By reducing barriers to refinancing by FNM and FRE, and aggressively forcing private banks to mark mortgages to market and accept principal write-downs or short sales to clear the backlog of bad debt, the Obama Administration can restore balance to the economy and create a healthy basis for new growth.

Comments

Wow! This could be one particular of the most beneficial blogs We’ve ever arrive across on this subject. Actually Excellent. I am also an expert in this topic therefore I can understand your effort.

 

Great post, you have pointed out some fantastic details , I too think this s a very good website.

 

Just marked this site. Nice info.

 

Spot on with this write-up, I truly think this website needs much more consideration. I’ll probably be again to read much more, thanks for that info.

 

Hello, Neat post. There is an issue with your site in internet explorer, might check this… IE nonetheless is the market leader and a big section of people will omit your excellent writing due to this problem.

 

I have been browsing online more than 3 hours today, yet I never found any interesting article like yours. It is pretty worth enough for me. In my opinion, if all website owners and bloggers made good content as you did, the web will be a lot more useful than ever before.

 

My brother recommended I may like this website. He was entirely right. This post actually made my day. You cann’t believe simply how much time I had spent for this info! Thanks!

 

Great article. I will certainly share this article with my friends. Thanks as a service to the info

 

Very informative site, thank you very much for taking the time to write the blog.

 

Nike Air Jordan 11 XI Retro – All Black White Blue Nike Air Jordan 10 X Retro – White Varsity Red – Light Steel Gr Nike Air Jordan 11 XI Retro – Black Varsity Red Grey Nike Air Jordan 11 XI Retro – All Black White Green Bean Air Jordan 11 (XI) Original Og Black True Red White Nike Air Jordan 11 XI Retro – Black White Concords Nike Air Jordan 11 XI Retro – All Black White Transparent Air Jordan 11 (XI) Original Og Columbia White Columbia Blue Black

 

very nice article, i surely love this amazing site, keep it.

 

Very decent write-up. We really located a person’s site plus needed so that you can tell you this We have quite loved browsing a person’s site plus reports. However I’ll often be checking a person’s feast plus I actually hope so that you can read through a person’s site again.

 

That is very interesting, You are an overly skilled blogger. I’ve joined your feed and sit up for in quest of more of your excellent post. Additionally, I’ve shared your website in my social networks!

 

Wow!, this was a top quality post. In theory I’d like to write like this too – taking time and real effort to make a good article… but what can I say… I keep putting it off and never seem to achieve anything

 

I see your site has a copyright. How would I go about getting permission to use it?

 

Because of reading your blog, I unquestioned to write my own. I had on no account been interested in keeping a blog until I proverb how beneficial yours was, then I was inspired!

 

It is really a nice and helpful piece of info. I am glad that you shared this helpful information with us.

 

Needed to post you that little word just to thank you the moment again over the magnificent solutions you’ve featured on this site. It has been certainly generous of you to give unhampered what exactly most of us could possibly have offered as an e book to help make some cash on their own, mostly now that you could have done it if you desired. Those techniques in addition acted like the good way to be aware that most people have similar keenness just as my own to grasp a little more with regard to this problem. Certainly there are numerous more pleasant instances in the future for folks who look into your website.

 

Great job here. I actually enjoyed what you had to tell.

 

Let me start by declaring great publish. Im not certain if it has been talked about, but when using Chrome I can never ever get the entire web site to load without having refreshing numerous times. Could just be my computer. Thanks.

 

Hey there, You have done a great job. I will certainly digg it and personally recommend to my friends. I’m confident they’ll be benefited from this site.

 

Superb read, I just passed this onto a friend who was doing a little study on that. And he actually bought me lunch because I found it for him smile So let me rephrase that: Thanks for lunch!

 

I admire the important information you supply with your articles. I will bookmark your blog and have my children check up right here typically. I am very positive they’ll find out plenty of new stuff here than anybody else!

 

This is really interesting,I have joined your feed from your fantastic post.

 

Very good post, thanks a lot for sharing. Do you happen to have an RSS feed I can subscribe?

 

hairdo

 

so much excellent information on here, : D.

 

Interesting, thanks

 

This is my first time i visit this web-site. I found several important things inside your blog specifically this discussion. From the bunches of comments on your articles, I assume I am not the only one getting all of the excitement right here!

 

You are a very bright person!

 

I’m not sure where you are getting your info, but good topic. I needs to spend some time learning more or understanding more. Thanks for excellent information I was looking for this info for my mission.

 

Great tidings, I value all of these opinions. All and sundry needs to sensible of unbidden to tell themselves freely

 

I admire the important information you offer in your content. I will bookmark your blog and have my children check up right here often. I am quite sure they will learn lots of brand new stuff here than anybody else!

 

This blog seems to recieve a large ammount of visitors. How do you get traffic to it? It offers a nice unique twist on things. I guess having something useful or substantial to post about is the most important factor.

 

Let me start by saying nice post. Im not confident if it has been talked about, but when using Chrome I can never get the entire website to load with out refreshing many times. Could just be my computer. Thanks.

 

I know this is really boring and you are skipping to the next comment, but I just wanted to throw you a big thanks – you cleared up some things for me!

 

Comfortably, the blog post is during truthfulness a hottest on this subject well known subject matter. I agree with ones conclusions and often will desperately look ahead to your updates . Saying thanks a lot will not just be sufficient, for ones wonderful ability in your producing. I will immediately grab ones own feed to stay knowledgeable from any sort of update versions. Fantastic get the done and much success with yourbusiness results!

 

I’ve looked for some data of this subject for the last quite a few days? Your blog is significantly treasured.

 

Very great post to conditional on be ashamed on.. I am absolutely impressed with this article. Looking looking for days posts.

 

Is There Anywhere To Find Other People Wanting To Make Money Online But Don’t Know What To Do?: I’d like to find a

 

hello admin, your page’s pattern is extraordinary and loving it. Your discussions are interesting. Remember to keep them coming. Greets!!!!

 

Post Your Comment

We welcome comments that advance the story through relevant opinion, anecdotes, links and data. If you see a comment that you believe is irrelevant or inappropriate, you can flag it to our editors by using the report abuse links. Views expressed in the comments do not represent those of Reuters. For more information on our comment policy, see http://blogs.reuters.com/fulldisclosure/2010/09/27/toward-a-more-thoughtful-conversation-on-stories/
  •