Author Archives: David Reiss

CFPB Issues Rule on Loan Originator Compensation

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Distorted mortgage broker incentives were one of the big problems during the Subprime Boom.  Indeed, many lenders have since stopped outsourcing loan originator to mortgage brokers because a lot of the terrible loans they were stuck with had been originated by them.  Homeowners were also frequently burned by mortgage brokers who placed them in inappropriate products.

The CFPB has just issued new rules (summary here) relating to the compensation of mortgage brokers. One of the key elements of the rule is that broker compensation cannot be based on a term of the transaction such as the interest rate.  This is intended to keep brokers from steering borrowers into more expensive mortgages solely to increase their own compensation.  This is a major consumer protection initiative because a large number of homeowners with subprime loans were eligible for prime loans with lower interest rates.  Because brokers had been financially incentivized to place them in subprime loans, that is what they did.

The new rule seeks to prevent the mortgage industry from doing an end run around the rule by attempting to identify proxies for the terms of the transaction.  Time will tell whether the proxies work as intended.

Rental Housing Market Trends — Growing Demand, Unsurprisingly

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The Bipartisan Policy Center has an interesting “infographic.”  I found the demographic information to be of particular note.  The Center says that Baby Boomers, Echo Boomers, Former Homeowners and Recent Immigrants will be driving demand.

CFPB Issues New Rules To Protect Homeowners in Foreclosure

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The CFPB issued new rules today that increase protections for homeowners in foreclosure.  The 2013 Real Estate Settlement Procedures Act (Regulation X) and Truth in Lending Act (Regulation Z) Mortgage Servicing Final Rules.  These rules are a first national standard to replace a hodgepodge of practices that had been in place.  The rules come on the footsteps of the $85 billion settlement last week arising from improper foreclosure practices by the ten banks who are parties to the settlement.  The rules address many of the behaviors that infuriated homeowners over the last few years including

1.  non–transparency as to interest rate adjustments, fees, penalties and other costs;
2.  inability to speak with employees at mortgage servicers;
3.  overly complicated forms and procedures;
4.  glacially slow processing of information; and
5.  capricious review standards.

The CFPB has a fact sheet about the rule.

Federal Involvement in Real Estate — It’s Big!

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SmartGrowth America has issued an interesting report, Federal Involvement in Real Estate:  A Call for Examination, which provides a high level summary of the topic.  While it does not contain any surprises, it is somewhat shocking to see the range of budget and tax expenditures all laid out in one document.  The report states, “While $450 billion was the average amount directly committed to real estate each fiscal year by the federal government, the government’s impact goes even further. This figure does not include the obligations of GSEs Fannie Mae and Freddie Mac, which exceed $5.5 trillion in outstanding loans and loan guarantees.”  (4, footnote omitted)

The report makes the obvious point, “Though many think of the United States as a free market economy, real estate is greatly influenced by government policies.” (6)  While obvious, it bears repeating often and loudly whether one is a free marketeer who would like to reduce the government role in real estate or a proponent of the welfare state who would like to see government resources directed more rationally.

The reports key points include, among others, the fact that federal housing policy favors homeowners over renters, single-family homes over multifamilies, vacation homeowners and upper-income households.  (6-8)

Last point:  Appendix B has an interesting table that compares total single-family and multifamily expenditures from 2007 through 2011.  it comes out to about $606 billion for the former and $227 billion for the latter, nearly a 3-1 ratio.  (17)

Rating Agency Liability The Wide World Over

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Haar has posted a draft of Civil Liability of Credit Rating Agencies – Regulatory All-or-Nothing Approaches between Immunity and Over-Deterrence. This paper helps to fill in a gap in the literature about potential liability of rating agencies across the globe.  Most attention has been given to lawsuits filed in the US, but the recent landmark case in Australia imposing liability on Standard and Poor’s has reminded us that rating agencies may face liability wherever they may rate.

Haar identifies some cases that may also result in rating agency liabilty:  Wochenüberblick, Betriebsberater (BB) 2010, p. 1482 and Bathurst Regional Council v. Local Government Financial Services Pty Ltd (No. 5) [2012] FCA 1200.

She also references a recent French law that expands liability for rating agencies:   Loi n° 2010-1249 du 22 octobre 2010 de régulation bancaire et financière (available here).  This is in addition to the bill expanding liability that is now being considered by the European Parliament.

She also highlights developments, such as a possible new wave of litigation that may follow from the Australian case in countries where similar products were mis-rated, citing P. Durkin and H. Low, IMF talks of new wave of litigation, Australian Financial Review, November 7, 2012, p. 14.

It would be a great public service if someone maintained a list of cases around the globe involving rating agency litigation.  Any takers?

 

 

Land Use Controls Caused The Financial Crisis?

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Respected Housng Economist Edwin Mills and co-author B.N. Jansen write in their article, “Distortions Resulting from Residential Land Use Controls in Metropolitan Areas”,

The strong conclusion of this paper is that stringent residential land use controls were a primary cause of the massive house price inflation from about 1992 to 2006 and possibly of the deflation that started in 2007.

Indeed, it is difficult to imagine another plausible cause of the 2008-2009 financial crisis.  Popular accounts simply refer to a speculative housing price bubble.  But productivity growth in housing construction is faster than in the economy as a whole [citation omitted] and the US has an aggressive and competitive housing construction sector.  In the absence of excessive controls, housing construction would quickly deflate a speculative housing price bubble.

A final comment is that there appears to be no interest at any level of government, or among the articulate population, in reducing the stringency of land use controls.  Indeed, recent trends are in the opposite direction. (200)

Jansen and Mills rely heavily on a dataset constructed by Joseph Gyourko and others to analyze local land use control stringency.  I am not in a position to evaluate the dataset or the model that they use, but their findings are consistent with those of Gyourko and Edward Glaeser in Rethinking Federal Homeownership Policy.

It seems to me that Jansen and Mills overstate their case quite a bit — stringent land use controls may have been a necessary condition for the bubble, but I can’t see how their argument demonstrates that it was sufficient unto itself.  That being said, I would agree wholeheartedly that this hypothesis is worthy of serious study.  The relationship between land use and housing policy is way more important than most members of the “articulate population” understand.

Before The Next Crisis: Now’s The Time to Rethink The Martin Act

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The Martin Act, New York State’s far-reaching securities fraud statute, has been a powerful tool for New York law enforcement officials to pursue wrongdoing by financial institutions.  It has a broad definition of fraud and a long statute of limitations. NY Attorneys General like Spitzer, Cuomo and Schneiderman have used it to bring whole industries in line.

The act has faced criticism from the financial sector for being farther reaching than federal securities laws and comparable statutes in other states.  Because it is such a powerful too, various groups have promoted various amendments to increase its potency.  The financial sector has opposed these attempts (and here) over the last few years to expand its reach by, for instance, creating a private right of action.  Manhattan District Attorney Vance has also called for the Martin Act’s statute of limitations (currently six years or two years from when the injured party discovered or could have reasonably discovered fraudulent behavior) to be extended.  The financial sector would not welcome such a move either, of course.

With the six year statute of limitations soon to run out on actions from the Subprime Boom, we should ask ourselves — how broad should the Martin Act be?  On the one hand, New York must treat businesses fairly for fairness’ sake but also to maintain its dominant position as a global capital of capital.  On the other hand, fairness demands that wrongdoers be punished and fraud be deterred by vigorous enforcement.

Now that we are about to have a breather between the last crisis and the next, we should try to come up with a principled balance between those two goals.  That balance should be struck while our cooler heads are prevailing.