Calomiris’s ridiculous take on the mortgage settlement

By Felix Salmon
April 12, 2011
published the terms of the proposed mortgage servicer settlement in March, has now got her hands on a ridiculous paper from Charlie Calomiris, Eric Higgins, and Joseph Mason, which says that the settlement is a bad one which could cost the economy $10 billion a year.

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Cheyenne Hopkins of American Banker, who first published the terms of the proposed mortgage servicer settlement in March, has now got her hands on a ridiculous paper from Charlie Calomiris, Eric Higgins, and Joseph Mason, which says that the settlement is a bad one which could cost the economy $10 billion a year.

You only need to look at the bottom of the first page of the paper to see where this thing is going.


First of all, there’s nothing in the proposed settlement saying that principal write-downs should be conducted “regardless of borrower distress.” To the contrary, the talk of principal reductions explicitly applies only to delinquent mortgages. Which actually the authors know full well, since on page 10 they say that “the settlement’s approach to loan modifications would encourage strategic default.” They can’t really have it both ways.

As for the fact that the paper was bought and paid for by the very banks opposing the settlement, Mason tells Hopkins that “we never allow any funder to dictate our conclusions.” But of course he doesn’t need to, since the authors know full well what they’re expected to produce. It’s basically a variation on that notorious Greenspan op-ed: attempts to regulate the financial services industry have failed in the past, therefore there’s no point in even trying any more.

Some of what the authors write about loan servicers defies belief:

NPV calculations are already used by servicers, exercising their fiduciary duty to maximize the value of payouts to investors, in determining whether a borrower qualifies for a loan modification…

That servicers have not modified more loans indicates that, under their NPV analyses, additional modifications would not result in higher payouts for investors, despite the benefits of avoiding a protracted and expensive foreclosure process…

Servicers already use NPV analyses as a matter of course. If a servicer finds a modification to be NPV-positive, then it will likely modify the loan without any regulatory oversight.

Even bankers aren’t making these arguments with a straight face any more. But, as HL Mencken famously said, there is no idea so stupid that you can’t find a professor who will believe it — and the banking industry, here, seems to have found just those professors.

In fact, this isn’t stupidity: Calomiris et al aren’t stupid. But it’s intellectual dishonesty: they know full well about the various lawsuits and other attempts that mortgage-bond investors are making to get servicers to change their ways, and they also know full well that banks’ servicing departments are badly-run and fundamentally broken. But somehow, after taking a long bath in bankers’ dollars, they’ve managed to persuade themselves that those banks always exercise their fiduciary duty to investors and never foreclose when doing so makes little financial sense. (And, for that matter, they’ve also persuaded themselves that taking large amounts of money to write papers for the financial services industry has no effect on what they end up writing.)

As for the authors’ attempts to quantify the costs of the settlement, they use numbers in the CFPB report uncovered by Shahien Nasiripour which says that “effective special servicing of delinquent loans would have cost 75 bps/yr more than the actual costs incurred” — except the way they put it is very different:

The CFPB recently estimated that five servicers avoided $24 billion in costs between 2007 and 2010, yielding a 75 basis-point reduction in interest rates.

Er no, the CFPB nowhere says or even hints that there was any kind of reduction in interest rates as a result of the banks’ broken servicing operations. (And it wasn’t five servicers, it was nine.)

I’m also particularly fond of the way that the authors calculate the increase in foreclosure inventory brought on by an increase in strategic defaults. “For simplicity,” they say in footnote 48, “we assume all strategic defaults result in foreclosure.”


The entire reason why strategic defaults would go up, according to the paper, is that borrowers will know that if they default, they’ll get a loan modification. And yet somehow by the time we reach footnote 48, all those borrowers are mistaken, and in fact they won’t get a loan mod: they’ll be foreclosed upon instead.

It’s unclear whether this paper was ever intended for public consumption, or whether it’s just something for banks to quietly pass on to their lobbyists, who in turn will show it to lawmakers. But it’s certainly harder to take Calomiris seriously in his attempts to revisit Dodd-Frank when he’s happy churning out hack-work like this which shows him to be completely captured by Wall Street.

5 comments so far

Thank you for quoting H. L. Mencken. Perhaps it is a good time to recall his definition of democracy: “The theory that the common people know what they want, and deserve to get it good and hard.” Excuse me while i grabba cuppa tea.

Posted by samadamsthedog | Report as abusive

I disagree with your take on their first part of their argument. “Regardless of the level of borrower distress” to me seems to limit that discussion to borrowers who are in distress of some kind. I think what they are saying is that for those borrowers in distress, the proposed settlement doesn’t seem to make distinctions. If a borrower isn’t delinquent, are they really in distress?

A. Demangone

Posted by ademangone | Report as abusive

We wouldn’t wish to have the banks lose a portion of those profits by paying fines for their fraudulent acts and poor servicing standards. Things should just go on as planned… do not open pandora’s box or make banks responsible or it will be bad for the economy….

Yes, poor banks… we are always bashing them and should stop. The taxayers and homeowners owe Bansters a debt of gratitude for being such wonderful and Godlike pillars of the community and of the economy. Seriously you must, because even their wives got a bailout…

Read this over your tea, samadamsthedog: s/the-real-housewives-of-wall-street-loo k-whos-cashing-in-on-the-bailout-2011041 1

Posted by hsvkitty | Report as abusive

Loan modifications have failed mainly because the government has pussy-footed around banks insteasd of mandating action in clearly defined circumstances.

Lets talk solutions to the mess. We should start with a government interest rate registry, not sold tosolicitors, but used for governemnt to monitor and isolate unfair mortgages and mandate that they be reset to a reasonable rate above oprine.

And then lets revisit the acceoted but paradoxical notion that lesser credit more challenged borrowers get higher interest rates. This just makes the loan that much riskier for the bank. We need to get away from that. Maybe offer lower LTV options to them, but dont expect to give the poorest people the most expensive products, in what universe is that sustainable!
Damon Keaveny

Posted by DamonK | Report as abusive

I’ve read 8 pages of Calomiris. He should read the Congressional Oversight Panel December 2010 report. Settlement terms rely on this excellent analysis. For example, we learn that the NPV inputs were managed by servicers so as to make a modification less worthwhile than foreclosure. A recent attempt of Treasury involves using an updated NPV formula to avoid gaming this aspect of modification.

Calomiris refers to early modifications (05-08). These mostly ended up increasing the amounts borrowers had to pay. No wonder further default resulted.

If this paper is intended for Congress, it must be for members absent from the investigating committees!

Treasury (or HUD) would be better off taking modification over on behalf of debt holders, but that would really be contentious.

Posted by richwell | Report as abusive
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