Guest Op-Ed to by "Banker with a Conscience": Driving Up the Cost of a Mortgage

March, 2011

These weekly pieces are written by a very influencial "Banker with a Conscience," and submitted to my Blog as Guest Op-Eds. Gets you into the mind of someone at the very top of the financial services sector; how they see the current global economic crisis (the mess), as well as various government and private sector solutions to get us out of it.  Hope you enjoy reading them.   

Driving Up the Cost of a Mortgage

Making the rounds in Washington and among banking industry executives is a draft of the terms of a settlement between the government and large loan servicers.  It is clearly not the entire “settlement package” because it doesn’t address several issues—fines, use of the fine proceeds, etc.  What it does address is a set of very prescriptive rules concerning exactly how servicing is done.

To be sure, this document addresses many, if not all, of the service failures (real and imagined) of the servicing industry (but not necessarily of all members of the servicing industry) over the last several years.  Some of the points simply address poor customer service issues and some address structural issues that have befuddled the servicers just as much as their clients.

Without going into a point by point discussion of the agreement, let’s offer up these conclusions:

  1. To the extent these proposed rules significantly raise the cost of servicing, you can bet your last dollar that the nearly immediate and predictable outcome will be to increase the cost of a mortgage to the consumer.  As is always the case, if the cost increase is inconvenient for the well to do, it is a terrible tax on the low and moderate income family.  Eliminating bad service will actually lower costs in the long run, but these rules go waaaaay beyond eliminating bad service.
  2. To the extent these proposals end up making the returns to investors who own mortgages (banks own only about a third of the mortgage debt, foreigners own maybe 17%, government, pension funds, mutual funds, insurance companies, etc. own most of the rest) less predictable (read: more risky), the inevitable and rapid impact will be to make mortgages more expensive for consumers.
  3. To the extent that these rules make servicing more complex, more costly and riskier in terms of the predictability of the profits of the servicing business, then there are several inevitable outcomes:  (a) fewer people will enter the business and some now in it will leave making it less competitive and that usually means higher prices in the long run (b) since the single most important predictor of servicing cost is the initial underwriting decision, you can expect servicers—who are all also originators—to dramatically tighten underwriting criteria—higher down payments, lower debt to income ratios, better credit scores.  In short, the mortgage market will become a difficult challenge for many families.

An even bigger question is whether a negotiated legal settlement with a relatively small number of servicers is even the right way or best way or legal way to address how an industry works.  As technology and business practices change over time, how do you rewrite a legal settlement and keep in competitive and timely.

What about new entrants (if there were any)—will they be bound by the settlement, or do they play by an entirely different set of rules?  Does the settlement travel with the business or stay attached to the corporate entity?  I am not a lawyer, but these are big questions that need to be addressed. 

A better idea might be to rely on the existing regulatory structure to correct the customer service problems, address the structural issues that need addressing (probably with the legislative branch) and not use the inefficient club of a legal settlement to try and specify out a business runs.

It might just be me, but I can’t imagine how a bunch of Attorney Generals can possibly write specifications for the best way to run a business and have more than a one in a million chance of getting it right.   The American tradition is to let businesses run their business and use regulation to insure the playing field is level for the consumer.  Plain bad service usually solves itself, but it is reasonable for regulators to address that element in this case.

Just keep in mind that businesses that incur additional costs inevitably raise prices.  The impact of raised prices hits directly where we can’t afford it—in the mortgage market, in the home building market, in the construction labor market.  A deft hand is required here or we will further delay the recovery of the housing market.


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