Safeguarding The CFPB’s Arbitration Rule

image by Nick Youngson http://nyphotographic.com/

 

I was one of the many signatories of this letter to Senators Crapo (R-ID) and Brown (D-OH) opposing H.R. Res. 111/S.J. Res. 47, “which would block the Consumer Financial Protection Bureau’s new forced arbitration rule.” the 423 signatories all agree “(1) it is important to protect financial consumers’ opportunity to participate in class proceedings; and (2) it is desirable for the CFPB to collect additional information regarding financial consumer arbitration.” The letter, reads, in part,

Class action lawsuits are an important means of protecting consumers harmed by violations of federal or state law. Class actions enable a court to see that a company’s violations are widespread and to order appropriate relief. The CFPB’s study shows that, over five years, 160 million class members were awarded $2.2 billion in relief – after deducting attorneys’ fees. Class actions are especially important for small dollar claims, because the time, expense and investigation needed for an individual claim typically make no sense either for the consumer or for an attorney. Additionally, class actions provide behavioral relief both for the plaintiffs and the public at large, incentivizing businesses to change their behavior or to refrain from similar practices.

Individual arbitrations are not a realistic substitute for class actions. Compared to the annual average of 32 million consumers receiving $440 million per year in class actions, the CFPB’s study found an average of only 16 consumers per year received relief from affirmative claims and another 23 received relief through counterclaims; in total, those consumers received an average of $180,770 per year. While the average per-person arbitration recovery may be higher than the average class action payment, the types of cases are completely different. The few arbitrations that people pursue tend to be individual disputes involving much larger dollar amounts than the smaller claims in class actions. Most consumers do not pursue individual claims in either court or arbitration for several reasons: they may not know their rights were violated; they may not know how to pursue a claim; the time and expense would outstrip any reward; or they cannot find an attorney willing to take an individual case. Thus, if a class action is not permitted, most consumers will have no chance at having their dispute vindicated at all. Class actions, on the other hand, are an efficient method of resolving claims impacting a large number of people.

The U.S. legal system depends on private enforcement of rights. Whereas some countries invest substantial resources in large government agencies to enforce their laws, the United States relies substantially on private enforcement. The CFPB’s study shows that, in those cases where there was overlap between private and public enforcement, private action preceded government enforcement 71% of the time. Moreover, consumer class actions provide monetary recoveries and reform of financial services and products to many consumers whose injuries are not the focus of public enforcers. American consumers can’t solely depend on government agencies to protect their rights.

Reporting on individual arbitrations will increase transparency, broaden understanding of arbitration, and improve the arbitration process. As scholars, we heartily endorse the information reporting requirements of the rule for individual arbitrations. This reporting will address many questions that have gone largely unanswered, due to the lack of transparency that currently exists in this area of law. For example, the public will now know the rate at which claimants prevail, whether it is important to be represented by an attorney, and whether repeat arbitrators tend to rule more favorably for one side than the other. The reporting will permit academic study, which will prompt a necessary debate on how to strengthen and improve the process.

In conclusion, we strongly support the CFPB rule as an important step in protecting consumers. We believe it is vital that Congress not deprive injured consumers of the right to group together to have their day in court or block important research into the arbitration process.

Reiss on Privatization of Fannie and Freddie

BadCredit.org profiled an article of mine in Brooklaw Professor Pushes for Privatization of Fannie Mae/Freddie Mac. The profile opens,

Since the end of the Great Recession, policymakers, academics and economists have been struggling with a very difficult question — what should we do with Fannie Mae and Freddie Mac? Should the government continue its role in providing mortgage credit to millions of American?

Fordham University Associate Professor of Law and Ethics Brent J. Horton made a proposal in his forthcoming paper “For the Protection of Investors and the Public: Why Fannie Mae’s Mortgage-Backed Securities Should Be Subject to the Disclosure Requirements of the Securities Act of 1933“:

“The best way to reduce risk taking at Fannie Mae is to subject its MBS offerings to the disclosure requirements of the Securities Act of 1933,” Horton writes.

However, Brooklyn Law School Professor of Law David Reiss believes “the problems inherent in Fannie Mae’s structure are greater than those that increased disclosure can address.”

In his response, titled “Who Should Be Providing Mortgage Credit to American Households?” Reiss points to increased privatization as one way to address the question of what to do with Fannie Mae and Freddi Mac.

Reiss on Who Should Be Providing Mortgage Credit to American Households?

I have posted a short Response, Who Should Be Providing Mortgage Credit to American Households?, to SSRN (as well as to BePress).  The abstract reads,

Who should be providing mortgage credit to American households? Given that the residential mortgage market is a ten-trillion-dollar one, the answer we come up with had better be right, or we may suffer another brutal financial crisis sooner than we would like. Indeed, the stakes are as high as they were in the Great Depression when the foundation of our current system was first laid down. Unfortunately, the housing finance experts of the 1930s seemed to have a greater clarity of purpose when designing their housing finance system. Part of the problem today is that debates over the housing finance system have been muddled by broader ideological battles and entrenched special interests, as well as by plain old inertia and the fear of change. It is worth taking a step back to evaluate the full range of options available to us, as the course we decide upon will shape the housing market for generations to come. This is a Response to Brent Horton, For the Protection of Investors and the Public: Why Fannie Mae’s Mortgage-Backed Securities Should Be Subject to the Disclosure Requirements of the Securities Act of 1933, 89 Tulane L. Rev. __ (forthcoming 2014-2015).

Housing Goals and Housing Finance Reform

The Federal Housing Finance Agency issued a proposed rule that would establish housing goals for Fannie and Freddie for the next three years. The Federal Housing Enterprises Financial Safety and Soundness Act of 1992 required that Fannie and Freddie’s regulator set annual housing goals to ensure that a certain proportion of the companies’ mortgage purchases serve low-income households and underserved areas. Among other things, the proposed rule would “establish a new housing subgoal for small multifamily properties affordable to low-income families,” a subject that happens to be near and dear to my heart.(54482)

This “duty to serve” is very controversial, at the heart of the debate over housing finance reform. Many Democrats oppose housing finance reform without it and many Republicans oppose reform with it. Indeed, it was one of the issues that stopped the Johnson-Crapo reform bill dead in its tracks.

While this proposed rule is not momentous by any stretch of the imagination, it is worth noting that the FHFA, for all intents and purposes, seems to be the only party in the Capital that is moving housing finance reform forward in any way.

Once again, we should note that doing nothing is not the same as leaving everything the same. As Congress fails to strike an agreement on reform and Fannie and Freddie continue to limp along in their conservatorships, regulators and market participants will, by default, be designing the housing finance system of the 21st century. That is not how it should be done.

Comments are due by October 28, 2014.

Reiss in Bloomberg Industries Q&A on Frannie Litigation

Bloomberg Industries Litigation Analyst Emily Hamburger interviewed me about The Government as Defendant: Breaking Down Fannie-Freddie Lawsuits (link to audio of the call). The blurb for the interview is as follows:

As investors engage in jurisdictional discovery and the government pleads for dismissals in several federal cases over Fannie Mae and Freddie Mac stock, Professor David Reiss of Brooklyn Law School will provide his insights on the dynamics of the lawsuits and possible outcomes for Wall Street, the U.S. government and GSEs. Reiss is the author of a recent article, An Overview of the Fannie and Freddie Conservatorship Litigation.

Emily questioned me for the first half of the one hour call and some of the 200+ participants asked questions in the second half.

Emily’s questions included the following (paraphrased below)

  • You’re tracking several cases that deal with the government’s role in Fannie Mae and Freddie Mac, and I’d like to go through about 3 of the major assertions made by investors – investors that own junior preferred and common stock in the GSEs – against the government and hear your thoughts:
    • The first is the accusation that the Treasury and FHFA’s Conduct in the execution of the Third Amendment was arbitrary and capricious. What do you think of this?
    •  Another claim made by the plaintiffs is that the government’s actions constitute a taking of property without just compensation, which would be seen as a violation of the 5th Amendment – do you think this is a stronger or weaker claim?
    • And finally – what about plaintiffs asserting breach of contract against the government? Plaintiffs have said that the Net Worth Sweep in the Third Amendment to the Preferred Stock Purchase Agreement nullified Fannie and Freddie’s ability to pay dividends, and that the two companies can’t unilaterally change terms of preferred stock, and that the FHFA is guilty of causing this breach.
  • Is the government correct when they say that the section 4617 of the Housing and Economic Recovery Act barred plaintiff’s right to sue over the conservator’s decisions?
  • Former Solicitor General Theodore Olson, an attorney for Perry Capital, has said that the government’s powers with respect to the interventions in Fannie and Freddie “expired” – is he correct?
  • Can you explain what exactly jurisdictional discovery is and why it’s important?
  • Do we know anything about what might happen if one judge rules for the plaintiffs and another judge rules for the government?
  • Is there an estimate that you can provide as to timing?
  • Are there any precedents that you know of from prior crises? Prior interventions by the government that private plaintiffs brought suit against?
  • How do you foresee Congress and policymakers changing outcomes?
  • What do we need to be looking out for now in the litigation?
  • How does this end?

You have to listen to the audiotape to hear my answers, but my bottom line is this — these are factually and legally complex cases and don’t trust anyone who thinks that this is a slam dunk for any of the parties.

 

Stealing Fannie and Freddie?

Jonathan Macey and Logan Beirne have posted a short working paper, Stealing Fannie and Freddie, to SSRN. It advocates a position similar to that taken by the plaintiffs in the GSE shareholder litigation. They argue,

Politicians are running rough-shod over the rule of law as they seek to rob private citizens of their assets to achieve their own amorphous political objectives. If we were speaking of some banana republic, this would be par for the course – but this is unfolding in the United States today.

“The housing market accounts for nearly 20 percent of the American economy, so it is critical that we have a strong and stable housing finance system that is built to last,” declares the Senate Banking Committee Leaders’ Bipartisan Housing Finance Reform Draft. The proposed legislation’s first step towards this laudable goal, however, is to liquidate the government sponsored enterprises Fannie Mae and Freddie Mac – in defiance of the rule of law. This paper analyzes the current House and Senate housing finance reform proposals and faults their modes of liquidation for departing from legal norms, thereby harming investors and creditors, taxpayers, and the broader economy.

Under proposals before Congress, virtually everyone loses. First, the GSEs’ shareholders’ property rights are violated. Second, taxpayers face the potential burden of the GSEs’ trillions in liabilities without dispensing via the orderly and known processes of a traditional bankruptcy proceeding or keeping the debts segregated as the now-profitable GSEs seek to pay them down. Finally, the rule of law is subverted, thereby making lending and business in general a riskier proposition when the country and global economy are left to the political whims of the federal government. (1)

I found a number of unsupported assertions throughout the piece. For instance, they assert, without support, that Fannie and Freddie “never reached the point of insolvency.” (3)  Badawi & Casey convincingly argue that without “government intervention, [Fannie and Freddie] would have defaulted on their guaranty obligations and more generally on obligations to all creditors.” (Badawi & Casey at 5) All in all, I don’t find this short working paper to be compelling reading — perhaps a more comprehensive one is in the works.

Reiss on FHFA Leadership of Housing Finance Reform

Law360.com quoted me in FHFA Set To Take The Lead In Housing Finance Reform (behind a paywall). It reads in part,

With hopes for a legislative fix for the U.S. housing finance market fading after six key Democrats reportedly refused to support a reform bill pending in the Senate Banking Committee, the Federal Housing Finance Agency will become the central player in reshaping the market and set the terms for any future changes.

The Banking Committee’s leaders — Chairman Tim Johnson, D-S.D., and ranking member Mike Crapo, R-Idaho — were unable to scare up the overwhelming support their housing finance reform bill needed in a last-gasp effort at getting a vote from the full Senate. That leaves the bill’s prospects of getting to President Barack Obama prior to the midterm elections at near zero and the FHFA, the conservator for Fannie Mae and Freddie Mac since 2008, as the biggest player in reshaping the U.S. housing market.

“It was always my operating assumption that it was going to be exceedingly difficult to get congressional consensus. Most of the action was going to take place by way of the actions at the FHFA,” said former Republican Rep. Rick Lazio, now a partner at Jones Walker LLP.

The lack of legislation also throws a wild card into the equation, since FHFA head Mel Watt has essentially been silent about his intentions for the FHFA since he won Senate confirmation in December.

“Hopefully, Watt will have a positive vision of the future of the two companies,” said Brooklyn Law School professor David Reiss.

More than five years after Fannie Mae and Freddie Mac were placed under FHFA conservatorship after receiving a more-than-$187 billion taxpayer bailout in the fall of 2008, Congress has yet to act on creating a new system for home purchases and eliminating the two companies.

And then, beginning last spring, Congress kicked into gear.

First, Sen. Bob Corker, R-Tenn., and Sen. Mark Warner, D-Va., introduced a bill that Johnson and Crapo would use as the basis for their own legislation, leaving a limited role for government in guaranteeing the mortgage market.

Soon after, the House Financial Services Committee passed its own housing finance reform bill looking to eliminate the government’s role in the housing market entirely.

Johnson and Crapo released their bill, which would eliminate Fannie and Freddie within five years and replace it with a mortgage insurance agency modeled on the Federal Deposit Insurance Corp., in March. They scheduled a markup and vote on the bill for late April.

But the two senators delayed the vote at the last minute when it became clear that while they had the 12 votes needed to pass the bill out of the 22-member committee, they lacked the 16 to 18 votes needed to force Senate Majority Leader Harry Reid to bring it up for a vote.

Johnson and Crapo said they would continue negotiations with six undecided Democrats, but according to media reports, those negotiations foundered on worries about access to affordable housing in the bill.

Undeterred, Johnson vowed to bring the bill up for a vote next week.

“Those involved in the negotiations have indicated they are interested in continuing to work together to try and find common ground, so the Banking Committee will keep working after favorably reporting out the bill next week,” Sean Oblack, a Democratic spokesman for the committee, said in a Thursday statement.

Still, the failure to get overwhelming support for the Johnson-Crapo bill essentially dooms the prospects for housing finance legislation this year, Lazio said.

“The administration will probably wait until early next Congress to make a decision about whether they think reform is possible,” he said.

But reform efforts will not stop, since the FHFA has a large amount of discretion over the futures of Fannie Mae and Freddie Mac.

“The regulator here is very powerful,” Reiss said.

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