Mortgage Meltdown: Moral Blindness Needed


Thanks everyone for the comments. Just to clarify some nuances that are peculiar to this situation, here are some more thoughts.

1. No lender is going to file anything against this plan unless it forces them to take more of a loss today than they already are looking at. EVERY lender will do anything that gives them a reasonable prospect at curbing or stopping the losses.

 

2. EVERY lender is going to want a device that will enable them to reinstate the loan and thus avoid their indemnification liability to the buyers of the collateralized debt obligations. 

3. The buyers of the CDOs are not going to worry about the smell test because it already stinks. They wrote off the CDOs or wrote down the CDOs which is what precipitated this crisis — by writing down the value of the CDOs under current “gaap” rules promulgated by the FASB, Fed Rules, FDIC rules and the SEC, their currency reserves were slashed into nothingness and worse still, caused a violation of reserve requirements which technically puts the financial institution into “insolvency.” 

4. That is what happened at Bear Stearns which went into the toilet when the rumor spread they were insolvent. Technically, they were. Everyone showed up at the window to ask for their money. Bear Stearns already was in violation of reserve capitalization and obviously did not have the cash on hand to satisfy the demands of clients and depositors. So the Bear had to either tell people they can’t have their money (something that NOBODY wanted to hear including competitors who would suffer similar runs on their institutions with similar consequences) or they had to reassure people that they were NOT insolvent even if it meant going to another institution that was also technically insolvent (but nobody has figured that out yet because they haven’t reported yet — that is March 31). 

But that’s OK because Morgan’s deal is that the Fed will pick up the slack which in the view of investors and depositors is still good for its word. (THAT is a questionable assumption for the time being, but it hasn’t come to the front burner yet, because the Fed still looks like it has money and still looks like it has credibility). 

5. If they are able to reinstate the “value” of the CDOs, then their balance sheets improve. Combined with the decrease in the reserve requirement announced this morning, that would open up a considerable amount of money which is sitting in reserves or marked off as “lost value” and allow for lending to recommence. 

That would increase salability and pricing of houses, which would tend to reassure both owners of homes and owners of CDOs that their investment is not so upside-down after-all. 

6. All of this is important because you must realize that the proposal I am making, although an obvious target for endless litigation, is going to be greeted with enthusiasm by everyone. It stops the foreclosures and evictions which keeps people in the homes, keeps people other than the lender doing and paying the maintenance, utilities etc on the home, keeps the property from becoming abandoned and stripped by vandals of everything inside including the now valuable copper wiring, stops the creation of ghost towns, reinstates the full value of the mortgage even if there might be a write-off later, restores the value and reverses the capital write-downs that caused the crisis, and provides the owners of the CDOs an opportunity to recover some or at least more of their investment than they are currently looking at.

7. As for government, they will pass anything the Supreme Court asks them to if industry and consumers are both behind it. It doesn’t matter whether it is constitutional. Ask FDR. You put it in place until it is declared invalid. Meanwhile the benefits are won. 

Municipal governments, County governments would pile on this plan like flies on poop — it represents their only chance to stem the bleeding from their budgets. They know the Federal government is not going to give them the money to rebuild and re-sell their neighborhoods. They know they can’t get tax revenue and maintain services unless values stabilize and then go up.

8. Of course you can’t take a foreclosed piece of property and force the new owner to give it back and put the old owner back in the house. But you can open the door to do just that if BOTH SIDES want it. THAT is the idea here. 

9. This isn’t a matter of what or who is right and whether buyers were stupid or greedy or lenders were stupid or greedy or worse. This is a solution that turns a blind moral eye on the entire problem and addresses the stark truth and deals with it effectively. The stark truth is that, as Alan Greenspan so subtly put it yesterday, the U.S. is headed for the worst economic times since the end of WW II. This plan won’t stop the downslide completely but it will it slow it down and probably provide a more shallow grave than what is otherwise in store for us.  

10. Anyone in government, industry or the consumer sector that argues against this is arguing for their own financial death. 

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