Author Archives: David Reiss

Doing Justice with the $13B JPMorgan Settlement

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I have posted a couple of items on this massive settlement (here and here).  This should be my last one. Perhaps I am ungrateful, but the Statement of Facts agreed upon by the Department of Justice and JPMorgan Chase left me with an empty feeling. Recovering $13 billion for homeowners, investors and the government is certainly a key aspect of the justice done in this case. But the law can and should have an expressive function — it should make a statement about the difference between right and wrong behavior. Unfortunately, the Statement of Facts almost completely fails as an expressive document.

It only makes it clear at one point that JPMorgan, Bear Stearns and Washington Mutual did something very wrong:

employees of JPMorgan, Bear Stearns, and WaMu received information that, in certain instances, loans that did not comply with underwriting guidelines were included in the RMBS sold and marketed to investors; however, JPMorgan, Bear Stearns, and WaMu did not disclose this to securitization investors. (1)

The Statement of Facts provided a couple of facts that made clear what JPMorgan did wrong (see page 2), but I could not even parse the sections of Bear Stearns and WaMu to tell you what they did wrong. This is about as strong as it gets:

in 2008, internal WaMu reviews indicated specific instances of weaknesses in WaMu’s loan origination and underwriting practices, including, at times, non-compliance with underwriting standards; the reviews also revealed instances of borrower fraud and misrepresentations by others involved in the loan origination process with respect to the information provided for loan qualification purposes. (10)

You can’t tell from such language whether WaMu was acting intentionally, recklessly or negligently.  You can’t really tell whether this behavior was endemic, frequent, occasional or rare. You can’t tell whether it was the fault of some low-level employees or of upper management. Just about the only thing you can tell from the WaMu section (and the Bear Stearns section, for that matter) is that it was not JPMorgan’s fault:

The actions and omissions described above with respect to WaMu occurred prior to OTS’s closure of WaMu and JPMorgan’s acquisition of the identified WaMu assets and liabilities. (11)

No doubt, JPMorgan tried to control the PR and legal liability to third parties that this Statement of Facts could engender. But Justice could have held the line on the expressive aspect of the settlement just as it did with the monetary aspect. In the long run, that could turn out to be just as important.

Reiss on Urban Planning Legacy of the Bloomberg Administration

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The BLS Real Estate Society is sponsoring The Zoning and Urban Planning Legacy of the Bloomberg Administration on Monday, November 25th from 6:30 p.m. – 9:00 p.m. in the Student Lounge on the first floor of Brooklyn Law School, 250 Joralemon Street. The press release reads:

Come hear two real estate experts discuss and debate zoning and urban planning issues and the legacy of the outgoing Bloomberg Administration.

Panelists

Mitchell Korbey ’03, Chair of Zoning and Land Use Group, Herrick Feinstein

David Reiss, BLS Real Estate Professor (previously Paul Weiss, and Morrison & Foerster)

No RSVP is required for this event. Contact Rafe Serouya at rafe.serouya@brooklaw.edu for more information.

Mitch’s bio reads in part,

Prior to joining Herrick, Mitch served for six years as commissioner of the New York City Board of Standards and Appeals under Mayor Rudolph Giuliani, and as director of the New York City Department of City Planning’s Brooklyn office, where he guided Brooklyn’s first mixed use zoning districts through the public review process and spearheaded plans for the rezoning and revitalization of a number of neighborhoods, including Williamsburg and Greenpoint.  Prior to running the Brooklyn office, Mitch was deputy director of the Staten Island office and served in the City Planning Department’s Housing and Economic Development Division.

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Mitch is an Adjunct Professor in Hunter College Graduate School’s Urban Affairs and Planning Department where he teaches Land Use Law and leads a seminar entitled “Lawyers and Planners in the Development Process.”  His insights on real estate development and the intricacies of local zoning laws have appeared in major real estate and business publications, including Crain’s, The New York Times and The Real Deal.

He is also a co-author of Herrick’s land use and zoning blog, ZONE, which keeps readers up-to-date on the latest issues in land use and environmental law.

And How About the Just?

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Some believe that there are 36 righteous people whose existence justifies the whole of humanity.  Each bears the world’s pain and the world would come to an end without these Just ones. Oddly enough, I was thinking about this story when reading about the the JPMorgan Chase settlement with the Department of Justice.

I was glad to see that the company was being held accountable for its behavior (the Statement of Facts outlines the basis for the settlement).  I was also glad to see that Justice is not giving a free pass to the individuals who may be individually guilty of wrongdoing. The settlement does not bar future prosecutions and Justice seems energized to hold individuals accountable for their intentional and wrongful acts that contributed to the financial crisis. These actions by Justice will hopefully deter some potential wrongdoers going forward.

But what is missing from all of this allocating of responsibility is an acknowledgment that some people in these financial institutions tried to do the right thing. They tried to underwrite mortgages properly; they tried to rate securities properly; they tried to follow established due diligence procedures. These people were overrun by their superiors who were chasing short term profits for their employers and bigger annual bonuses for themselves. Some of these Financial Industry Just were fired, some retired, some moved on.

How might the FI Just view their actions so many years later? Their supervisors likely received large bonuses and promotions and very few of them will be held responsible for their bad acts. The FI Just, on other other hand, got harsh words, poor treatment and relatively poor compensation for their troubles.

Just as we want to disincentivize bad behavior, we should also seek to incentivize good behavior. This does not necessarily require financial compensation. For many people, an acknowledgement of their good judgment might be enough. Is there a role for government in such an initiative? Can their be a medal for financial rectitude; an honor roll for underwriting: a listing of the Just by Justice?

 

Reiss on $13B JPMorgan Settlement in CSM

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The Christian Science Monitor quoted me in JPMorgan Chase settles. Is $13 billion for role in mortgage crisis fair? The story reads in part,

The settlement does not, however, release any individuals within JPMorgan from further criminal or civil charges. The bank has agreed to cooperate fully in any investigations related to the fraud covered in the agreement.

“I think that the Department of Justice has heard the public in terms of saying, if people were criminally responsible, they should be held liable,” says David Reiss, a professor at Brooklyn Law School, who has written extensively on the mortgage crisis. “Just a handful of people have faced any serious personal liability as a result of the events of the financial crisis of the 2000s.”

But some feel that the unprecedented scope and size of the penalty is unfair for the bank behemoth, which was seen as something of a financial savior when it took on the imploding assets of Bear Stearns and Washington Mutual after the financial collapse. Some estimate that employees at these banks conducted up to 80 percent of the fraud found by the Justice Department. JPMorgan assumed these firms’ legal jeopardy when it took on their troubled assets.

“There’s a moral narrative about this, that it’s unfair to go after JPMorgan because they stepped in to help,” says Mr. Reiss.

3 Housing Riddles For De Blasio

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I wrote an op ed for Law360,com that was posted today. While it is behind a paywall on Law360, it reads in full as follows:

3 Housing Riddles For De Blasio

As Mayor-Elect Bill de Blasio is making the transition from campaigning to governing New York City, it is worth contemplating some of the fundamental riddles that perplex those who spend their time thinking about the city’s housing policy. I address three of the most perplexing below.

The Riddle of Mandatory But Not Sufficient

The housing policy centerpiece of the de Blasio campaign is to require developers to build some affordable housing units when they build on lots that have been upzoned, a policy known as mandatory inclusionary zoning. The campaign website states that this policy will create 50,000 new units of housing.

Let’s put aside the fact that this number appears to be very aggressive given the lack of significant upzonings on the horizon (see second riddle below). Just because the city mandates that affordable housing be part of any new construction, it cannot mandate that developers build any housing at all if the deal does not make economic sense for them.

The de Blasio administration will need to carefully calibrate the mandatory inclusionary zoning rules to ensure that builders are sufficiently incentivized to build in the first place. This may limit the amount of affordable housing that can be mandated as part of that new construction.

One key aspect of this policy is whether the mandatory affordable housing will be required to be on-site or if the developer can build it off-site. If it is the former, it will help achieve the progressive goal of increasing socio-economic diversity in a city that is rapidly losing it.

But each unit of on-site housing would likely be more expensive to construct than off-site affordable units. And the opposite is true if the mandatory affordable units are allowed to be off-site; they will be likely cheaper to construct and thus more housing could be built. But it would not work toward increasing socio-economic diversity in the city.

And thus, the riddle of mandatory but not sufficient poses two challenges to the administration. Can it incentivize the creation of a meaningful number of units? And should it favor socio-economic diversity or the maximum production of affordable units? No easy answers here.

The Riddle of Now Versus Later

Can you increase the supply of housing to address the needs of a growing population while also downzoning large swaths of the city to respond to the preferences of the city’s current residents?

The Michael Bloomberg administration wanted to have this both ways, but that can’t work. The Bloomberg administration had planned on an increase in population of roughly another million people by 2030 while at the same time downzoning a large swath of the city (and, to be fair, upzoning some other portions).

This downzoning made current residents happy as it kept big, modern, out-of-context buildings from popping up near their homes. But it also limited the opportunities for increasing the housing stock, particularly near transit hubs. This is the basis of the second riddle — what is seen as bad by current residents may be good for future residents.

It is a fundamental economic truth that if more and more people are flocking to New York City, housing costs will rise unless supply increases. But for city residents, there is a paradox. New Yorkers see gleaming towers rise in their neighborhoods along with the rents for their nearby apartments. There are two explanations for this paradox.

First, the supply of new housing may be increasing without keeping pace with rising demand. Historically, New York City has not had many new units of housing built each year, maybe 20,000 units or so in a good year. This modest increase in supply has been overwhelmed by the increase in population of a million people in the last 20 or so years. This disparity goes a long way to explain the high rents and the miniscule vacancy rates that are seen throughout the city.

Second, new housing in one community (Williamsburg, for example) may be causing or be part of a wave of local gentrification in the existing housing stock. So, even if the new housing is having a tendency to decrease housing costs in the city overall because it increases the supply, it can also be pushing rents higher in the communities in which it is situated.

Increasing the supply of housing has to be a key component of providing “safe affordable homes for all New Yorkers,” as de Blasio calls for on his campaign website. This has to mean zoning significantly more land for high-rise residential construction as well as incentivizing the construction of affordable housing units in that new construction.

At the same time, de Blasio must attend to the concerns of those negatively impacted by the new construction. Hence, the riddle of now versus later.

The Riddle of the Few Versus the Many

The de Blasio campaign website calls for “tighter standards that ensure subsidies meet the needs of lower-income families and are distributed equitably throughout the five boroughs.” Distributing affordable housing subsidies equitably throughout the city is important, but there is another equity issue — should the city heavily subsidize affordable housing for a small portion of those who are eligible or should it distribute resources more broadly and thinly among everyone who is eligible?

Fewer than 8 percent of low- and middle-income households receive a direct or indirect subsidy for an apartment (excluding public housing) while more than 20 percent live below the poverty line of $23,283 annually for a family of four.

Should the city’s limited resources be used to create a relatively small number of new affordable units or should some of them be used in ways that benefit a broader swath of low- and moderate-income New Yorkers, albeit more modestly?

Certain policies can address the needs of many, many more low- and moderate-income households than does heavily subsidized new construction that houses perhaps a few thousand low- and moderate-income households each year.

Examples of such policies include tax credits for low- and moderate-income households that put money in their pockets and increased enforcement directed against landlords who try to illegally drive their tenants out of rent-regulated units. On the other hand, without an affordable apartment, staying in NYC can just be untenable no matter what additional benefits the government may be able to provide through more broadly available programs.

Thus, the third riddle is — do you give a lot of help to a few or do you give a little help to the many? It’s like choosing between the rock and the hard place for policymakers and New Yorkers alike.

Mayor-Elect de Blasio and his team will have to struggle with these riddles, and more. The only thing that is clear is that there are no right answers and no easy answers when it comes to housing policy in New York City.

—By David Reiss, Brooklyn Law School

David Reiss is a professor of law at Brooklyn Law School. He concentrates on real estate finance and community development and writes about housing policy.

Fannie and Freddie in Play?

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Bill Ackman’s Pershing Square Capital Management LP has joined Bruce Berkowitz’s Fairholme Capital Management LLC in seeking to privatize Fannie Mae and Freddie Mac.  News reports indicate that Pershing Square owns about ten percent of the common shares of each company. While it is unclear to me how they could parlay their holdings into control of the two companies, they are certainly changing the conversation about them. It is worth taking a closer look at the Fairholme proposal, which is pretty detailed.  The proposal, according to Fairholme,

  • Brings approximately $52 billion of private capital to support credit risk on more than $1 trillion of new mortgages without market disruption;
  • Demonstrates reform is possible, even without a Federal guarantee, by having investors commit to bear risk now;
  • Allows for the liquidation of Fannie and Freddie, ending their Federal charters and special status, without losing the value of operating assets critical to the mortgage market;
  • Reduces systemic risk by separating new underwriting from the legacy investment books of Fannie and Freddie;
  • Preserves Government options for affordable housing initiatives and counter-cyclical liquidity – but using tools other than Fannie and Freddie; and
  • Ends the unsustainable Federal conservatorship. (Press Release, 1)

Fairholme states that “The centerpiece of the proposal is the establishment of two new, State-regulated private insurance companies to purchase, recapitalize, and operate the insurance businesses of Fannie and Freddie.” (Press Release, 1)

Fairholme predominantly owns preferred shares and Pershing predominantly owns common shares, so we are certain to see different visions for the capital structure of the two companies once Pershing presents a more concrete proposal. But it is clear that the conversation about Fannie and Freddie is shifting and that the federal government is facing some pressure to at least respond to these proposals.

Reiss on Fannie and Freddie Buyout

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Law360 quoted me in Fairholme Changes The Game For Fannie And Freddie (behind a paywall).  It reads in part,

Fairholme Capital Management LLC’s plan to buy Fannie Mae’s and Freddie Mac’s insurance businesses will likely turn out to be more symbolic gesture than successful deal, experts say, but the hedge fund’s bold move could increase interest in privatization of the entities and potentially encourage other bidders to join the fray.

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Some experts believe this emphasis on the ownership stakes of Fairholme and other hedge funds will be a major turnoff for the White House, the Federal Housing Finance Agency and the Treasury.

“It’s a very good idea, but the question is, will it keep the government and taxpayers off the hook? And will it bring in sufficient private capital to provide a vibrant residential mortgage market?” said David Reiss, a real estate finance professor at Brooklyn Law School. “Of course they’re looking to maximize their return, so the question has to be, what’s the angle that they’re playing?”

The angle, experts and analysts say, is likely connected to claims Fairholme and other hedge funds have made recently against the federal government, accusing it of devaluing their shares of Fannie and Freddie in order to reap all the GSEs’ mounting profits.

Fairholme and Perry Capital LLC both sued the government over its management of Fannie and Freddie this summer.

In July, Perry Capital accused the Treasury of wrongfully altering stock purchasing agreements with Fannie and Freddie, which allegedly allowed it to illegally speed up the liquidation of the companies and reap more than $200 billion over the next decade.

Two days later, Fairholme and insurance holding company W.R. Berkley Corp. sued the federal government, alleging it had acted unconstitutionally when it altered its bailout deal for the GSEs to keep the companies’ profits for itself.

Fairholme’s proposal assumes that their shares have the value they claim they have in their lawsuit, Reiss said. If the deal were to move forward, valuation of Fairholme’s stake could be a major sticking point.

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“It begins the conversation as to whether you can have effectively a buyout of the federal government from Fannie and Freddie, which is a healthy thing, I think,” Reiss said.