People are debating the need for a "systemic fix"to address the foreclosure crisis. What we really need is a systemic redesign, from the ground up. Fortunately, the design was laid down centuries ago -- by 800 years of law, and by the idea that free people are entitled to limit the unwarranted power of others over their persons and property. These principles are a good foundation for structuring future negotiation, legislation, or regulation.
The president wooed corporate executives this week with a Wall Street Journal editorial called "Toward a 21st Century Regulatory System." What we really need is a 21st century banking system, built on ancient principles and not fly-by-night profiteering.
You could encode those principles in a document and call it the Borrower's Bill of Rights. You could even call it the Mortgage Magna Carta, since some of the basic principles involved date back that far.
People are taking action. The Commonwealth of Virginia is debating a law that would restore some basic homeowner rights and would severely restrict the use of MERS, a database and pseudo-company created by the mortgage industry to bypass property law and expedite the buying and selling of bundled mortgages at something approaching the speed of light. Homeowners and investors in mortgage-backed securities are teaming up against the banks (although they'll part way again soon, since their interests conflict in many ways). Attorneys General from all 50 states are conducting a joint investigation and are negotiating with the major banks. FDIC Chair Sheila Bair wants to create a "claims commission" for wrongly foreclosed homeowners, like the claims program for victims of the BP disaster in the Gulf.
These efforts are good, but they lack a unifying principle. Even the idea of a "systemic fix" or "systemic redesign" doesn't go far enough, because it doesn't establish the foundation for redesign. What's needed is a new charter, a new set of rights and principles for people who engage with the banking system (or have rescued it with their tax dollars). These "borrower's rights" would stabilize the banking system and protect both investors and stockholders. That means we're not talking about a socialist revolution, just the rule of law and sound business practices.
Let's not pretend that we live in a system where anyone who doesn't like the terms of a loan can turn it down. Banks operate in close collusion, so if you want to borrow you'll have to do it on their terms. It's an asymmetrical relationship. People can't turn these loans down individually, but they can set the rules of the road as a society, by working through their elected representatives.
What would those rules of the road, these borrower's rights, look like? Let's throw out a few to get the ball rolling:
1. Contracts must be honored. As banks sold mortgages to each other, the new mortgage holder often ignored many of the terms of the original loan. Due dates, penalties, and other provisions were unilaterally changed, often with no notice to the borrower until the penalties started showing up. A contract is an agreement between both parties, and it must be understood that if a bank breaches its terms that bank has broken the contract.
2. State and local laws can't be overruled by private enterprise. MERS was created to bypass the law by naming itself as the "owner" of mortgages that it freely admitted it didn't own. It was a dummy corporation, but we were the dummies for letting it happen. MERS permitted banks to foreclose without proper documentation, without holding the deed to the property, and without giving the homeowner his or her day in court.
From the Magna Carta, 1215 C.E.: "No free man shall be seized or imprisoned, or stripped of his rights or possessions, or outlawed or exiled, or deprived of his standing in any other way, nor will we proceed with force against him, or send others to do so, except by the lawful judgment of his equals or by the law of the land."
3. Real-world assets (like homes) can't become digital gambling chips. They must be backed by deeds and other documents that link them with reality. Mortgage bankers will tell you MERS was created just to make transactions faster and easier. There's nothing wrong with electronic databases and exchanges. But you can attach the digital image of a deed or court record very, very easily. By not requiring that these documents be obtained and registered in county courthouses, it became too easy to flip mortgages in the speculative market.
If this 'digital gaming' system didn't create the housing bubble and market collapse, it certainly made it more likely. The process needs to decelerate a little to stabilize the economy. There's nothing wrong with electronic databases, but it's easy to attach the image of a document to any computer record. That reconnects the economic virtual reality of the bankers with the physical (and legal) reality where actual people live in actual homes.
4. If you break the law, you pay the price. No more retroactive immunity, easy plea-bargain deals, or soft fines for bank crimes. What's more, if a bank exectutive breaks the law, the fine must be paid by the executive, not the bank's shareholders.
And how about a little jail time now and then? If you launder drug money for the Mexican cartels and don't wind up in the joint -- just because you're a banker -- then the criminal justice system needs a "systemic fix" too. Remember: If you can't do the time, don't do the crime.
5. When you cut a plea-bargain deal, or get rescued by the taxpayer, you must admit your wrongdoing. We said no "easy" deals or cushy settlements. There will be deals and settlements, of course. But an admission of wrongdoing should be required in every case. And it should be issued publicly, by the bank's CEO.
(I'm lookin' at you, Jamie Dimon! That Alabama corruption case was really sleazy.)
6. No more clauses allowing the banks to enter "abandoned" homes. Banks have been forcing this provision into their contracts for years. (Remember, it's not a symmetrical negotiation between two equal parties.) This provision has been the source of many abuses, and it should be outlawed. If a bank thinks it has the right to seize a home, let it go to court like everybody else.
(See the Magna Carta quote, above. What is this -- a Monty Python routine?)
7. Auditors must be legally liable if they certify sketchy and/or fraudulent bank programs as financially sound. PriceWaterhouseCoopers just skated on a technicality from an investors' lawsuit over allegedly fraudulent activities at AIG, in businesses which PWC certified to be sound. That's a miscarriage of justice.
If you should've known better -- in PWC's case it was their job to know, and it's impossible to imagine how they could not have known -- you should pay the legal price for your behavior. (Conflict alert: I used to work at AIG.)
8. We need ratings agencies that aren't inept, corrupt, compromised, or beholden to the companies they're rating. And yes, I do mean S&P and Moody's. Their internal emails and other documents showed they were morally compromised at best. They got everything wrong. They rated the worst junk in the world "AAA." They were a fundamental reason for the economy's collapse.
Raters should be able to rate -- and when they call themselves "agencies," that should mean "agency" as in the EPA and not "agency" as in "ad agency." I'm not familiar with the work of Jules Kroll, but his new rating company sounds like a good idea. Rather than just read what the banks give him, he says he'll conduct due diligence and investigate them. What a concept -- it sounds almost like a business. Or an agency.
9. If we rescue you, we call the shots.From now on, anybody who rescues a bank without creating strict rules of conduct going forward shall be deemed to have committed "regulatory malpractice." If one business rescues another -- a manufacturer rescuing a supplier, for example -- it takes a chunk of the profits and sets the terms for future deals. We rescued the big banks, did a victory dance just for getting our money back (they made a bundle off interest), and are still giving them sweet deals. What's more, they're sticking it to the American consumers who rescued them, every chance they get.
That's gotta stop.
10. Nobody gets rich by f*cking up. If you run your company into the ground, so that it will fail without massive taxpayer help, you're a failure in business. Period. If you pay yourselves massive bonuses after we rescue you, you're rewarding yourselves for being lousy at your jobs. (Here's a case in point.) That ends now. If anybody collects billions in payouts, it's us (see above).
And stop telling us you're worried about the deficit -- it just gives us more reason to pay it down with the bonuses you couldn't have earned without us.
11. If you're collecting low (or zero) interest money at the Fed's "discount window," you better be lending it. Too many banks are collected those low-interest loans and investing it in non-productive areas, or flat-out speculating with it. Financial reform slowed that down a little, but didn't stop it. Lending is down, for both businesses and homeowners. So why is there such a long line at the discount window?
12. 'Claims Commissions' are good, but the list of acceptable claims should include fraudulent lending and inappropriate contract changes -- and they shouldn't be limited to defaulting homeowners. Many underwater homeowners are paying loans that were deceptively issued and/or administered. The "claims commission" idea shouldn't be used to convince the public that only a few extreme cases are responsible for the problem. Millions of mortgages are defective, and should be repaired in a just way. Sounds like a job for the Claims Commission.
13. Banks shouldn't make money writing bad deals.Banks make money on bad deals when they own the servicing companies that collect fees and penalties. Even the best underwriting will miss a few risky borrowers. But the book of business at any major bank is saturated with defaulting or struggling homeowners. That means the bank wrote a lot of loans it shouldn't have written. By owning the servicers, banks can make money from their own bad judgment. And it's an egregious conflict of interest.
Banks shouldn't own servicing companies, or profit from their own underperformance in any other way.
14. Underwater homeowners shouldn't be bailing out hugely profitable banks. Sure, bank earnings are down for some banks this quarter (though others are doing spectacularly.) Whatever their margins, they're in a lot better shape than most underwater homeowners. So why aren't banks being asked to renegotiate the principal on some of these loans, especially primary residences? They're being bled dry so that banks don't have to admit they're sitting on a lot of artificially inflated assets. That's just prolonging the inevitable, at a high human cost.
The most moderate approach would be to say that banks and homeowners got into this mess together and should share the cost of getting out. I wouldn't be that "moderate."
15. After you've wrecked everything, don't make me listen to your complaints about regulation. This isn't exactly a "right," unless you count the right to be free from unwarranted intrusion of absurd ideas into a person's brain. But it's inhumane to make sensible people keep listening to whining about regulation -- from executives who ran their own companies, their entire industry, and the complete freakin' world economy into the ground. The President shouldn't be apologizing for regulations in the Wall Street Journal. He should be reminding its readers that on the street for which that paper is named, highly paid executives brought their companies to the brink of ruin and had to be saved by the government they so freely disparage.
In the name of sanity and decency, let's stop hearing complaints about regulation from people whose unregulated actions caused a worldwide economic meltdown. What's next -- gripes about radiation safety from the people who operated Chernobyl?
These aren't randomly selected ideas. Together they re-establish the rule of law, anchor the lending process back in physical reality, reduce the "moral hazard" that lets bankers avoid the consequences of their actions, and restore balance between banks, government, and their trading partners.
As we said, they're mostly meant as food for thought. Better ones would be appreciated. But isn't it time we made the most important "systemic fix" of all -- the one that repairs the broken link between a bank and the society in which it operates?
Richard (RJ) Eskow, a consultant and writer (and former insurance/finance executive), is a Senior Fellow with the Campaign for America's Future. This post was produced as part of the Curbing Wall Street project. Richard also blogs at A Night Light.
He can be reached at "firstname.lastname@example.org."
Website: Eskow and Associates