Ed DeMarco's Refusal on Principal Reductions Grounds for Firing

The single largest obstacle to meaningful economic recovery is a man who most Americans have probably never heard of, Edward J. DeMarco.

From his perch as acting director of the Federal Housing Finance Agency, DeMarco oversees Fannie Mae and Freddie Mac, the government-owned mortgage behemoths that collectively control about half of all home loans in the land. What he does shapes both the national housing market and the ability of troubled borrowers to hang on to their homes. What he has been doing lately has been so unhelpful that Democratic lawmakers and grassroots advocacy groups are properly demanding his ouster.

DeMarco steadfastly refuses to allow Fannie and Freddie to help distressed homeowners by writing off principal balances on their mortgages. This has ensured that tens of millions of borrowers remain "underwater," meaning they owe the banks more than their homes are worth -- a status that has an alarming tendency to portend foreclosure. His refusal is based on logic that is both elegantly simple and tragically flawed: He is responsible for cleaning up the books at Fannie and Freddie, so he is against spending money.

If DeMarco were fire chief and your house became engulfed in flames, you could forget about calling 911. By his reasoning, the taxpayer would be best served by keeping the fire engines in the station, lest they get damaged in the line of duty. It would not matter whether the flames licking your windows were the result of your recklessness or the product of an explosion at, say, the methamphetamine lab down the street. He would not run up the municipal water bill by saving your block.

Many housing experts have long argued that writing down balances for underwater homeowners is the key to limiting foreclosures. Even the Obama administration -- which previously fought against principal reduction -- has come to embrace this strategy. The $25 billion foreclosure settlement that the administration brokered last month with the nation's five largest banks includes provisions that will write down balances.

But if DeMarco keeps refusing to go along, the new program will be irrelevant. Only he has the power to make principal reduction happen broadly because only he has his hands on the levers at the institutions that control most of the mortgages.

"He is standing in the way," Rep. Jerrold Nadler, the New York Democrat, told me on Thursday. "He is single-handedly saying that he's opposed to any write-downs because all he cares about is the fiscal solvency of Fannie and Freddie -- a legitimate concern, but not the only concern. If he doesn't do what he ought to do, then he ought to be fired."

A day earlier, Nadler stood on Capitol Hill with a dozen other lawmakers and a coalition of activist groups, the New Bottom Line, to call for DeMarco's removal. The group delivered petitions to the Federal Housing Finance Agency headquarters bearing the signatures of 85,000 Americans demanding DeMarco's firing. They sent the petitions to President Barack Obama.

How does the president view these calls for DeMarco's removal? Let me know if you find out. The White House declined to talk.

Secretary of Housing and Urban Development Shaun Donovan has been vocal about his unhappiness with DeMarco. "Our goal is to get a good nominee and get someone in there who shares our view," he recently told Huffington Post editors and reporters.

Last year, the Obama administration tried to replace DeMarco by appointing Joseph Smith, the respected North Carolina banking commissioner. But the Senate refused to confirm him, leaving DeMarco in place.

Some reports suggest the White House cannot remove DeMarco because he is the head of an independent agency. But that's nonsense. He is merely the acting director and was never confirmed by the Senate. Under the 2008 law that created the Federal Housing Finance Agency, the White House could designate someone else inside the agency to take his place (though the other options bring similar ideological baggage). Better yet, the administration could circumvent the Senate with a recess appointment.

DeMarco, who refused interview requests, has made plain through public statements that his allegiances are steeped in a predisposition against helping distressed borrowers. He is all about the ledger books, in the narrowest sense.

"Congress has given us a responsibility as conservator to preserve and conserve the assets of the company," he told the Senate Banking Committee last month. "That's what we're trying to do."

On its face, that sounds sensible enough. Fannie and Freddie's descent into taxpayer-rescue land was the result of their indiscriminate lending in pursuit of the social good of expanded home ownership. DeMarco is intent on harvesting a return for taxpayers by forcing borrowers to pay up.

But that approach helps taxpayers only so long as we pretend that Fannie and Freddie inhabit a magical island on which their policies have no bearing on the broader economy. Currently 1 out of every 5 mortgages in the nation is underwater. Unless balances are cut to restore equity along with a sense of ownership, more borrowers are likely to relinquish their properties as failed investments, sticking Fannie and Freddie with losses. Borrowers who encounter a shock -- a need for health care or auto repair -- will have no equity to borrow against, sliding into foreclosure. That will add abandoned homes to a growing stock of distressed, dilapidated property, pulling down real estate values. It will sap vitality from communities, reducing incentives for businesses to invest and hire.

DeMarco has a straightforward response to this argument: Rely on so-called forbearance, through which Fannie and Freddie basically extend out the length of a loan and lower interest rates, yielding lower monthly payments for a temporary period, without shrinking the outstanding balance.

"Forbearance achieves marginally lower losses for the taxpayer than forgiveness, although both forgiveness and forbearance reduce the borrower's payment to the same affordable level," DeMarco declared in a Jan. 20 letter to Rep. Elijah E. Cummings, the Maryland Democrat, who has pressed him to justify his unwillingness to write down principal balances.

In that letter, DeMarco affixed a disingenuous price tag to principal reduction: $100 billion. That's what it would cost were Fannie and Freddie to forgive enough principal on the roughly 3 million underwater homes on its books to bring down balances to the level of current property values.

But as Cummings noted in a blistering response, he was not asking for a full write-down. The proper figures to consider were buried in a table that DeMarco included in his analysis: Writing down principal balances on underwater loans held by Fannie would cut taxpayer losses by $28 billion compared with taking no action. Forbearance would limit losses by a smidgen less.

"Even based on your own questionable assumptions and data, your most up-to-date analysis demonstrates that principal reduction programs would serve taxpayer interests more effectively than any other alternative," Cummings wrote. "It appears that your refusal to follow Congress' direction and allow principal reduction programs is based more on ideology and the fear of political backlash than on a straightforward analysis of the interests of American taxpayers."

Jared Bernstein, a former White House economic adviser and now a senior fellow at the Center on Budget and Policy Priorities, identified a raft of calculation errors in DeMarco's analysis in a blog post. Not least, the agency relied on credit scores from when borrowers took out their mortgages -- not their current, often-tattered ones -- as it estimated likely default rates stemming from various scenarios.

"This makes the agency's book look better than it really is and, again, understates the benefits to principal reduction," he wrote.

The single most powerful argument for principal reduction is that doing so reinstates an operative sense of the future, making it rational for homeowners to invest.

Vera Johnson's home just outside Seattle is now worth only about $300,000, though she owes Fannie Mae $465,000. Last year, she received forbearance, dropping her monthly payments from $2,400 to $1,700. But over the next four years, those payments will gradually climb back to $2,400.

Cognizant that she has no equity against which to borrow should an emergency emerge, she is leaving her aging windows in place, though the heat seeps out rapidly, adding to her utility bills. Her front porch lacks a roof, allowing the rains to assail her front door and resulting in mold on her walls. She is afraid to use her savings for a fix, knowing that she has no margin for error. This spells fewer jobs for local construction workers and fewer sales at the hardware store.

"I can't dip into my equity if the roof starts leaking," Johnson told me. "I'm totally hunkered down."

When enough people hunker down at once, that has economic ramifications -- not that you will encounter any such considerations in DeMarco's intellectually dishonest analysis.

Bernstein says it's still too early to remove DeMarco. The Treasury Department recently tripled the incentives that it pays for principal reduction under the administration's primary anti-foreclosure program, prompting DeMarco to pledge a fresh analysis of the costs and benefits.

"Let's see where he comes out," Bernstein told me. "This is a matter of weeks, not months."

For the time being, DeMarco retains his powerful office. But he better start running it for the public good or he may find himself engaged in the activity his policies have widely fostered -- packing up his belongings and vacating the premises.