Treasury’s plan to fix the mortgage mess

By Felix Salmon
November 23, 2010
Michael Barr's departure is a serious loss for Treasury. I spoke to him on Friday; he was in Ann Arbor, where he's returning to law school, and he wanted to take serious exception to my three monkeys post, where I accused Treasury of willfully ignoring the banks' culpability in the mortgage crisis.

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Michael Barr’s departure is a serious loss for Treasury. I spoke to him on Friday; he was in Ann Arbor, where he’s returning to law school, and he wanted to take serious exception to my three monkeys post, where I accused Treasury of willfully ignoring the banks’ culpability in the mortgage crisis.

Barr rattled off a laundry list of reviews which are being done by various arms of the government, including what he described as an “11-agency, 8-week review of servicer practices, with hundreds of investigators crawling all over the banks”. That information is finding its way to the state attorneys general, in their review. Meanwhile, said Barr, an alphabet soup of regulators (OTS, OCC, FDIC) is looking at various financial services companies (MERS, along with lots of different servicers, trustees, and banks); HUD is holding everybody to FHA and HAMP guidelines; and the FTC is looking at non-bank lenders. And keeping everything coordinated is the new Financial Fraud Enforcement Task Force which has been put together under the leadership of Justice’s Tom Perrelli.

“Why are we investing these resources and including Tom Perelli in the discussions?” asked Barr. “We’re holding the banks accountable to fix it.” I asked him whether he thought that was even possible. “Their conduct suggests they can’t,” he said, adding that “they can be held accountable for not following the law. HUD can assess significant fines on them.”

Barr was clear about what he expected to happen in 2011. Specifically, he said, “if there are legal violations found, banks are responsible for fixing them and for addressing the problems.” And more generally, the government’s actions “will increase the chance that when foreclosures happen, they will happen according to established law.”

The timetable for all this? The reviews should be largely completed this year, with the full scope of the problems being apparent by the end of January. By the end of the first quarter, the banks should be in serious discussions about how they’re going to fix what’s broken. And then it gets necessarily hazier: “Institutions are resistant to change and have difficulty implementing,” said Barr, but “you’ll see flow improvement over the course of the next year.”

Could I hold Treasury to that? Sort of: “You should hold us to whether things get better or worse. If a year from now nothing has changed, that would be a reasonable criticism.”

I have two fundamental reasons to be skeptical of this approach. Firstly, it won’t work: the banks and the servicers simply aren’t set up to magically make their processes perfect, and the threat of lawsuits isn’t going to change that. And secondly, insofar as the problems are systemic and threaten the solvency of the banks, Treasury is going to blink first. As we just saw in Ireland, today’s governments are constitutionally incapable of forcing real pain onto banks.

But at the same time, there’s zero chance of getting any kind of resolution to the mortgage-mess problems if the government doesn’t have a firm grasp of exactly what they are. Barr told me that they’re doing file reviews which take between five and eight hours to go through a single loan file: this is hard, detailed work, and at the end of it all there will be a real understanding of what needs to be done—something necessary, if not sufficient, to finally resolve this mess.

Barr is a very honorable man, and a very hard worker, and I give him a lot of credit for the (mostly) excellent CDCI project. (I have quibbles about it, but can’t go into detail about what they are because most of what I know I learned as a board member of LESPFCU.) I think that Treasury is entering into this whole mortgage investigation in good faith, and will do what they can to push the banks to fix what’s fixable.

But I’m also pessimistic about their prospects: I suspect that only a radical restructuring of the entire securitization architecture—and especially the broken relationships between investors and trustees, and between trustees and servicers—has any chance of actually working. That is clearly not going to happen. But if you believe in the power of legal action to effect change, then maybe Treasury’s approach might work.

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