As the two or three people who read my posts know, one of my big interests is always "What are the unintended consequences of X?" It doesn't matter if it's company finances, lawsuits, government (in)action, or super heroes: When you try to Fix Something with Decisive Action(tm), it seems almost inevitable that somwhere down the road someone is going to get screwed by the unintended consequences.
Enter the current foreclosure mess. Lots of others are already talking about the pros and cons of moratoriums (deliberate action) vs. leaving it alone (deliberate inaction). But, instead of looking forward for the unexpected consequences, lets look backwards...
How Mortgage Rules Arose
Owing your own home was, and is, part of the American Dream. The process of urbanization, family moving to cities, was already well under way in the early 20th century, and only accelerated in the 1950s after WWII. Because it was hard to actually own your own house in downtown Metropolis, with its limited acreage and industrial and financial building taking up space, the suburb became the answer. Not only did better roads and more affordable cars make the suburb practical, but a basic geometric property came to the fore: Quadratic growth of area.
This means that if you double the radius from a point (say, the center of the industrial or business district), you quadrupled the area. Being able to live twice as far away meant there were roughly four times as many places where you could live. More places, more homes, more mortgage financing. This helped give rise to the housing boom that has gone on for so long.
Banks, of course, were making good, but boring, money on mortgages up until about the 1990s or so. It was good because a mortgage has a long term, fairly guaranteed return for the business. Money goes out, and for the next 15/20/30 years you had more money coming in.
But it was also boring...and intentionally so. When someone did not make those payments, the banking industry relied on tried and true methods to prove, in court, that they were owed money, and that the house/land/business was the proper collateral.
Think about it: Court cases are slow, expensive, and labor-intensive for the average person or business. Every cent paid to the attorney was lost profit. Every minute spent in court was lost productivity. Therefore, the best way to handle things was to have an ironclad case, and an ironclad process, that would make court cases a swift and sure process.
In that vein, the chain of title and review affadavits became of paramount importance...because the banks made them so! In order to minimize court costs and time, both the judicial and banking systems "trained" each other to develop a clear, concise set of documentation for mortgages. This documentation helped all parties involved (although the consumer, if he was on the losing end, probably wasn't happy): Banks knew exactly which sets of paperwork would win their cases, thus minimizing the effort in foreclosures; and courts could process cases quickly, thus clearing their calendars.
(And before anyone starts thinking this is stacked against the consumer, consider that borrowers had an environment where they knew exactly where they stood. Risks for banks were lowered, costs were lowered, and the overall pricing of mortgages could be lowered. A win-win for everyone who played by the rules.)
Where It Went Wrong
This, too, has been hashed and rehashed over and over--MERS, Fannie Mae and Freddy Mac, yada-yada-yada.
But the disparity between the "old" system of documentation and the "new" method of electronic transfers is a small but curcial detail, often overlooked. For a while, foreclosures were probably marchig through courts as before--lenders filed, courts said, "Looks good", foreclosure proceeds. But somewhere along the way, several attorneys began to look at the traditions and habits of the foreclosure process, and they saw a misalignment between what was accepted by the courts and what was being filed.
Giving benefit of the doubt, I can believe that it wasn't a deliberate act or process...meaning it's unlikely that more than a couple of people said, "Screw the rules...just file 'em like always!" More likely, the current situation was a sad, predictable outgrowth of the past: Banks want to minimize foreclosure costs, and courts are used to things going simply and quickly...a familiar, comfortable machine. (Not that comfortable to the targeted homeowners, but you can't make everyone happy...)
The problem with the current situation is that the customary rules don't quite apply. Courts want what the banks have traditionally given them: Line-by-line signatures detailing transfers...all on actual paperwork.
The banks, on the other hand, have been using what they saw as the key to increased profits: Digital documents.. Easier to store, easier to transfer, easier to turn into higher returns, documentation stored in this form became the linchpin of a larger and more profitable source of income.
...Sadly, without looking at all the unintended consequences.
Because the short-term push for profit ignored the long-term system established over years and decades, we have the foreclosure mess as it stands. What "worked" for banks in terms of profit undercut what "worked" for banks in the legal system...and they are having to face the music.
Where to Now?
In the long run, very few people will be able to successfully fend off a foreclosure in these circumstances--"few" being a relative term. Oh, sure, there will be screams about deadbeat homeowners who got one over on the system, as well as more infamous screwups where a homeowner got undeservedly shafted. But, all in all, a new equilibrium will be found.
That brings up the questions of exactly what kind of equilibrium, and how long until it happens. Because the banks have tasted the forbidden fruit of Easy Profit, they'll push for new rules that favor the electronic record system. But the flaws in such an arrangement have already been highlighted, and those legal proceedings are going to continue to be more expensive than they have in the past--both in "real" costs and in time.
Of course, the only way to offset those increased "costs" is to tighten lending standards and increase fees (remember the "screams about deadbeat homeowners"?)...which is exactly what Bernanke and the QE2 don't want to happen.
So, I'm not a real estate guy, but I would expect the RE market to oscillate between "good" news (because someone can claim improvement) and "bad" news (because someone blames it for losses) for a good 3-5 years. After that, we'll see how things settle out...
...unless lawmakers start passing new regulation...then it'll take a good while longer.
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