There are a few lessons that can be learned from what happened after the secondary market collapsed in July 2007 and from the Housing and Economic Recovery Act of July 2008, which was the nation’s first address to the subprime meltdown and foreclosure crisis. One year of non-stop blame shifting and unashamed levels of denial within the financial sector served to misinform the media and elected officials and in turn the general public. This indirect contempt towards the American household and investors in financial sector stocks did not change any of the facts. Wall Street and the too big to fail banks accepted no responsibility from predatory financial engineering to predatory securitization. Capitol Hill, as a result of a skewed and mean-spirited understanding of issues blamed borrowers and mortgage brokers as evidenced by the Housing and Economic Recovery Act.
Prior to the Housing and Economic Recovery Act, those absurd denials from the financial sector were addressed by the embarrassments of regulatory risk and marketplace risk. Regulators issued an interagency guidance to curb lender enthusiasm for short–term ARMs, prepayment penalties, and Option ARMs. Some predatory products came off of the shelf. And, that regulatory guidance halted stated income and no income loans to curb mortgage fraud, which more often than not had been directed by lenders and real estate agents … not borrowers. But, that guidance did not end the excesses within the financial sector or end customer abuses given that it was issued in September 2006, because it did not cover many lending institutions. Moreover, while it was indeed appropriate, it was far too late. In July 2007, the secondary market stopped buying mortgaged backed securities, because too many loans did not perform and it had become increasingly obvious that continued reckless underwriting permitted blatant fraud and downright predatory behavior to become ingrained within the lending industry. The actions of the free market addressed what the regulators had failed in doing, which was their job to protect financial institutions and customers. This painful marketplace correction resulted in the Act paving the way to bailout Fannie Mae and Freddie Mac. After the $700 billion Wall Street bailout through the Emergency Economic Stabilization Act of October 2008, the Federal Reserve became the secondary market, which really was not the role per its initial purpose. Foreigners stopped buying America’s mortgage backed securities. They are not dumb. Can you blame them? Everyone at home was told “toxic assets” were behind the problems within the financial sector. And, the too many embedded journalists failed to unravel the mechanics of mortgage fraud and predatory lending in order to cut through the rhetorical nonsense that only served as more disinformation to befuddle the American public and treat taxpayers like idiots.
Because nationally-chartered banks and Wall Street firms controlled the narrative with the media and Capitol Hill, the Housing and Economic Recovery Act did not hold themselves accountable. Why should they? The financial sector led the charge to draft the long-winded legislation. It held accountable their strategic partners – mortgage brokers and the state-regulated financial institutions. Within the Housing and Economic Recovery Act is the Secure and Fair Enforcement for Mortgage Licensing Act (SAFE Act). The SAFE Act requires all loan originators to register with the Nationwide Mortgage Licensing System, which is a good idea. But, the SAFE Act also requires 20 hours of Continuing Education Credit, an exam, and a 75 percent score needed to pass that exam. The SAFE Act is a good idea. But, only licensed mortgage brokers and loan officers with state-chartered financial institutions are required to comply with the training, testing, and passing requirements. Loan officers at the nationally chartered firms were exempted, which is a bad idea. This was just legislative hypocrisy. I can tell you from first hand experience that loan officers at the federally chartered firms are no different from all others. Ask any wholesale account representative after he or she is under sodium pentothal and the truth will come out. Yes, coaching and guiding on the art of structuring the deal did take place. So did other subtle lending abuses. They cared little for small matters like history, which gave way to a host of consumer-oriented legislation starting in the 1960s, a small issue even though such ignorance is why reverse redlining was rampant as alleged in several class action law suits against Wells Fargo, one of the nation’s leading nationally chartered banks. Moreover, the Housing and Economic Recovery Act mistakenly rested on the premise that borrower-directed fraud was widespread. The fact, however, is just the opposite. Industry insiders have an asymmetrical knowledge and power relationship with the general public. Lender-directed fraud was widespread, because it is almost always an inside job. That fraud came from the nationally chartered banks. Their abysmal financial situation is evidence of both a lack of due diligence, a lack of adequate internal controls, and executive incompetence. The magnitude of this type of negligence and incompetence, however, does not justify blame shifting or denial. Consider the appraisal problems at Washington Mutual.
Washington Mutual, a nationally-regulated mortgage banker, had engaged in egregious bad conduct by brow-beating the appraisers at eAppraiseIT’s to appraise home at values beyond a property’s actual worth. Those fraudulent appraisals, directed by Washington Mutual, ended up posing a financial risk to borrowers, that institution, and the overall economy. (This was not borrower, broker, or state-regulated bank fraud. The fraud came from management at a nationally-regulated lender). The industry’s response was another well-intended though ill conceived and completely misguided regulation called the Home Valuation Code of Conduct. The Home Valuation Code of Conduct permitted lenders to extort payments from the public while everyone worked in the dark. (The banks may have well just said, hand over the money). Prior to the Home Valuation Code of Conduct, a courtesy opinion of value came at no charge from appraisers to loan officers to save time and to prevent ordering a needless appraisal if the value was not there. Moreover, the Home Valuation Code of Conduct penalized competence and rewarded inexperience through a “no appraiser left behind” logic that put all appraisers on an equal footing, which is completely contrary to the free market that rewards competence and excellence. Finally, the Home Valuation Code of Conduct permitted the too big to fail banks with national charters to financially exploit customers through higher costs and the affiliated business agreement by extracting fees for themselves regardless of whether or not they committed to do a loan. The predatory practices built into the Home Valuation Code of Conduct need to be repealed given that there will never be an American Household Abuse and Prevention Act. With collapsed home prices, why wouldn’t a national lender insist on the Home Valuation Code of Conduct? Who cares if a home is $100,000 under water so long as appraisal checks from anxious homeowners across the country hit the bottom line. The Home Valuation Code of Conduct was a consumer shakedown, plain and simple. I wish it was easy as saying that the sponsors of the Home Valuation Code of Conduct need to get booted hard and sent to the curb in 2010, but no can do. The Home Valuation Code of Conduct was the brain child of “a joint agreement between Freddie Mac, the Federal Housing Finance Agency, and the New York State Attorney General,”[i] which is troubling evidence that the leaders in the industry and those tasked with safeguarding the consumer know not what they do. Or do they?
So, whose interests were the SAFE Act and the Home Valuation Code of Conduct looking towards? These came about as a result of and on behalf of the nationally-chartered banks. This was about government by the strongest of corporations for the strongest corporations. It is, after all, always easier to blame the victim rather than to hold accountable those responsible due to the ramifications of widespread prosecutions in upper management. That cannot happen, because they finance election campaigns. But, if that were to happen, the truth would become evident at home – the demise of the American republic is the result of an unashamed state of political corruption from which all other forms of corruption stem.
At the consumer level, there are some loan officers and real estate agents also living in a complete state of denial.* There is a percentage – the exception not the rule – that refuses to accept any responsibility for the failure in the marketplace, the foreclosure crisis, and the loss in home values. For those still in denial, “it just happened.” For them, this existential problem is rooted in pure mystery. How can they be expected to understand given that roughly one third of them do not even read a daily paper or a bi-weekly magazine. Yet, the public looks to them as arm chair economists when seeking guidance. For others more comfortable with blame shifting, it was the borrower’s fault and it was the fault of Capitol Hill for misguided public policy that pushed too hard to increase homeownership. While we gained 3 percent in the homeownership rate, we may lose 15 percent through foreclosures. Troubling facts, however, argue against those in blissful ignorance, those in denial, and those who would rather blame everyone else instead of those who run the industry.
*NOTE: The observation of gross, calloused denial is evident in some of the Continuing Education Courses I teach for licensed real estate agents and loan officers. Those attitudes are reflected in a lack of reading and / or over exposure to one-sided media accounts that serve more as propaganda than as journalism.
[i] “Home Valuation Code of Conduct, enhancing the independence of appraisers,” Freddie Mac, October 1, 2009; Online at http://www.freddiemac.com/singlefamily/home_valuation.html.