Battered, berated, bloodied and not entirely unbowed, the massive financial rescue bill aimed at stabilizing the economy and the financial markets finally won Congressional approval last week, and was signed immediately into law by President Bush. But if ever there was an illustration of the similarities between making sausage and laws, and of the chaotic mix created when partisan brinkmanship and presidential politics collide with a potential crisis, this was it.
Ignoring warnings of imminent financial disaster if legislators failed to enact the $700 billion “mother-of-all bail-out” plans, the House of Representatives initially defeated the measure 228-205. Most of the opposition came from Conservative Republicans, who said they could not support a measure that allowed the federal government to intervene so directly and so deeply in the marketplace and required taxpayers to pay for the excesses of Wall Street executives. But many moderate Democrats also balked, complaining about the legislation’s cost, its “undue” assistance to Wall Street firms and its inadequate help for homeowners, and the haste with which it was being enacted.
The idea behind the proposal is that positioning the federal government as designated purchaser of underwater assets will allow financial institutions to shed the leaden securities that are weighing down their portfolios, impeding their ability to originate new loans, creating uncertainty about their financial strength, and discouraging investors from providing the new capital they need. Equally important, the plan aims to create a market-based frame of reference for pricing mortgage-backed securities, the value of which is unclear both to the institutions holding them and to investors who might be persuaded to buy them.
When the bill crashed and burned on the first House vote, the stock market plummeted, falling 778 points and losing more than $1 trillion in book value in a matter of hours. That dramatic and unnerving market response had the effect of a cold shower on someone who has had too much to drink. Opponents of the bill, who had said their phone calls were running overwhelmingly against the measure, said calls after the vote were running overwhelmingly in favor of it, as individuals began to see in the declining value of their stock portfolios and retirement savings accounts a more direct connection between Wall Street and Main Street.
Democrat and Republican Congressional leaders began talking immediately about finding ways to rescue the rescue plan and the Senate, which had insisted that the House vote first, decided to take the lead. Another round of frantic negotiations produced a new compromise bill, revised with an eye toward securing the votes of Republicans who had opposed the measure without alienating Democrats who had supported it. Negotiators added a number of “sweeteners,” expanding the 100-page House measure to more than 400 pages and increasing its cost. The major additions:
- A temporary increase, from $100,000 to $250,000 in the federal deposit insurance cap;
- A $100 billion-plus package of tax breaks for businesses and individuals, extending the research and development tax credit, expanding the child tax credit, patching the alternative minimum tax problem (that threatens to increase taxes for 24 million Americans this year) and providing $17 billion in tax incentives for the development and use of alternative energy strategies; and
- Affirmation of the Security and Exchange Commission’s (SEC’s) authority to suspend the ‘mark-to-market’ accounting rules requiring financial institutions to record as immediate losses the reduced value of assets, even if they don’t sell those assets and have no near-term intention of doing so. Critics of this rule have argued that it unnecessarily exacerbates the problems of some financial institutions by forcing them to book losses they haven’t actually realized.
- A cap on executive compensation restricting the use of golden parachutes by companies benefiting from the assistance program and requiring them to recover compensation based on corporate earnings that turn out to be inaccurate or fraudulent.
- A voluntary asset insurance program that was added to the failed House bill at the insistence of Republicans. The legislation requires the Treasury Secretary to consider this market-based approach but does not require him to substitute it for direct government purchase of those assets.
- A provision requiring the Treasury Secretary Treasury to maximize assistance to homeowners by encouraging loan servicers to use the newly authorized federal HOPE for Homeowners program or “other available programs” to minimize foreclosures. The legislation specifically authorizes Treasury to use loan guarantees and credit enhancements “to facilitate loan modifications,” and directs the bail-out entity “where permissible to permit bona fide tenants who are current on their rent” to remain in foreclosed properties under the terms of existing leases.
Those changes and others had the desired effect. The Senate quickly approved the measure 74-25. On the House side, legislators who had found the $700 billion price tag on the original bill offensive found the revised measure, now laden with another $150 billion in tax breaks and other assorted enticements, more acceptable. Several lawmakers who had opposed the measure inititially changed their votes and the measure passed on a 263-171vote.
Few who ultimately voted to approve the legislation liked it, but most agreed that it was necessary. Rep. David Obey (D-WI) summarized that view, telling USA Today, “Sometimes in life if we’re responsible we have to clean up not just the messes that we’ve created, but the messes that others have created as well.”
As part of the ongoing effort to turn back the tides threatening the nation’s financial markets, the Treasury Department has devised a plan through which the federal government will temporarily guarantee the more than $3 trillion in assets in money market mutual funds. That move, announced simultaneously with the Wall Street bail-out proposal (see related item above), was designed to avert a potential run on the funds after the oldest of them, Reserve’s Primary, “broke the buck,” acknowledging that its devalued assets would cover only 97 cents of every dollar invested. But the announcement triggered an angry and nervous response from bankers, who pointed out that providing full government backing for investments in retail funds would put bank money market funds, insured only up to the $100,000 federal deposit insurance limit, at a disadvantage. Remember disintermediation? That warning brought a “clarification” from the Treasury Department, explaining that the government protection for the mutual funds would apply only to money invested funds as of the end of business on September 19, the day the program was announced.
Limiting the protection “certainly helped a great deal,” Camden Fine, president of the Independent Community Bankers Associating (ICBA), told American Banker. But he questioned just how temporary this temporary government insurance program is going to be. “Once this guarantee is in place, does anybody seriously believe they’ll just withdraw it after a year? I’m hoping what they say is true and it’s only a temporary measure,” Fine said. “But once you extend insurance to a class of the general public, it’s very hard to take that away.”
MAKING THE GRADE
Massachusetts bank regulators are going to begin grading state-licensed mortgage lenders on the speed and number of loan modifications they complete for delinquent borrowers at risk of foreclosure. The goal of the program is “to hold lenders responsible for the quality of their response and push for the most successful and immediate solution that will allow borrowers to remain in their homes,” said Gov. Deval Patrick, who proposed the expanded assessment. “More can and must be done to help those homeowners who are most at risk of losing their homes,” Patrick said in a press statement.
Massachusetts is one of the few states that have adopted a state version of the federal Community Reinvestment ACT (CRA), covering state-chartered depository institutions, including credit unions. IA law enacted in November extended the CRA requirements to non-bank mortgage lenders, which will also be subject to the new foreclosure-related evaluations.
Banking Department officials estimate that the expanded CRA evaluations will apply to approximately one-third of the companies originating mortgage loans in the state. Even so, consumer advocates say the review will help expand the pace of loan work-outs in the state.
The Massachusetts Mortgage Bankers Association (MMBA) is less enthusiastic about the regulation, which it has described as “well-intentioned” but problematic. But major flaw, the MMBA says, is the failure to consider that contractual provisions limit the ability of many lenders and servicers to modify loans that have been sold to investors.
“Everyone is sensitive to the issue, everyone wants to do something,” Kevin Cuff, executive director of the MMBA, told the Boston Globe. “But in a lot of situations, there’s probably not a lot they can do.”
HMDA STATISTICS TELL MARKET STORY
It’s hardly news that when subprime lending portfolios went over the cliff, they dragged the housing market (not to mention a good chunk of the economy) along with them. But the Home Mortgage Disclosure Act (HMDA) data for 2007 provide statistical evidence of just how severe the housing impact has been. Mortgage origination volume plummeted, denial rates rose and minority borrowers were hit hardest by those trends.
HMDA lenders originated 10.4 million mortgages in 2007, 25 percent below the 2006 volume, according to the statistics reported by the Federal Financial Institutions Examination Council (FFIEC). Loans to African-American borrowers fell by 35 percent and loans to Hispanics by nearly 50 percent, compared with a 22 percent decline for non-Hispanic whites. Denial rates, meanwhile, remained essentially flat for whites, while increasing for both African-Americans and Hispanics. The denial gap was widest in refinances – up 11 percent for minorities compared with a 4.4 percent increase for whites.
In another sign of the troubled times, the number of lenders submitting HMDA reports declined by nearly 3 percent, as dozens of lenders – primarily mortgage companies originating subprime loans – closed their doors. That trend may at least partly explain the steep reduction in loans to African-American borrowers who were “disproportionately in loan-pricing categories that experienced very large rates of decline” between 2006 and 2007, according to a study of the HMDA data published by the Federal Reserve. The number of high-cost mortgages declined by almost 90 percent, compared to a 17 percent decline for lower-cost mortgages, the Fed study notes.
But that explanation did not hold true for refinance loans, where approval and denial disparities between whites and minorities persisted across income and loan price categories. “Black borrowers tended to have greater declines than non-Hispanic whites,” the study found, “even when the comparison was made for borrowers with the same incomes and in the same loan pricing categories.” As in the past, minorities continue to receive a disproportionate share of high-cost loans – 29.5 percent of loans to blacks and 24.3 percent of loans to Hispanics, compared with 9.2 percent of the loans to whites fell in that category in 2007.
Consumer advocates argue that these disparities and the disproportionate origination of high-priced loans to minorities reflect evidence of discriminatory lending patterns, a concern the FFIEC notes again in this year’s HMDA report. “These differences continue to raise concerns about the terms, cost and availability of credit to minority applicants and borrowers, and lending practices in minority neighborhoods,” the FFIEC acknowledges.
But the FFIEC and the Fed report both emphasize, as regulators have consistently, that the HMDA data alone do not provide definitive evidence of discrimination, because the reports do not include information about credit reports and other borrower characteristics that affect lending decisions. For that reason, the Fed report emphasizes, “it is difficult to draw conclusions about changes in the fair lending environment” based on the 2007 statistics. The widening denial rate gap evident in that data “may have reflected differences in credit characteristics or other circumstances of the pools of borrowers…and not unfair treatment by lenders,” the report says.
The debate over the pros and cons of reverse mortgages continues, reflected recently in divergent press reports. On the negative side, the Boston Globe reported that the Massachusetts Division of Banks has issued cease-and-desist orders against four mortgage lenders and brokers, citing three of them (First Call Mortgage Company, Sun West Mortgage Company, and Gold Reverse) for failing to obtain prior approval of their reverse mortgage programs, as required by state law. The department also cited First Call for unfair and deceptive practices, including altering the loan documents and misrepresenting the income of reverse mortgage borrowers. The Banking Department cited the fourth lender, American Advisors Group, for unfair and deceptive advertising practices related to a marketing campaign that described reverse mortgages as “government benefits.” The state regulatory actions underscore some of the concerns that Members Mortgage President Joe Zampitella has been discussing about the risks reverse mortgages pose – for credit unions as well as borrowers. Reflecting a different view of the loans, a report on the National Association of Federal Credit Unions (NAFCU) Web site notes the efforts to encourage credit unions to become more active in the reverse mortgage arena. The report summarizes a recent webcast NAFCU presented jointly with Fannie Mae, highlighting the market potential of the loans and the growing demand from older credit union members. “Reverse mortgages are poised for exponential growth,” the report notes, “and credit unions not on board stand to lose members to competitors once the product becomes more mainstream.”