Liquidity Without Responsibility

A congressional study on subprime problems ended the way most congressional studies do, with lawmakers seeking to buy votes based on poor analysis that was simply too late to do any good even if it was accurate. This is going to cost taxpayers money and make problems worse than they are now.

The headline reads Emergency funds proposed for subprime crisis.

Lawmakers seek 'hundreds of millions of dollars' to head off foreclosures.

The federal government should increase aid to nonprofit groups, strengthen rules on mortgage origination, create an antipredatory-lending law banning unfair and deceptive practices and take other steps to tackle the crisis in subprime-mortgage lending, a congressional study said Wednesday.

A report issued by the Joint Economic Committee said that foreclosures in the subprime sector are expected to rise this year and next year, as nearly 2 million hybrid adjustable-rate mortgages, or ARMs, reset in the weakened housing market.
What was once the American dream of homeownership, according to Joint Economic Committee Chairman Charles Schumer, D-N.Y., has "now become the un-American nightmare."

The crisis is particularly acute in Midwestern states like Illinois and Ohio, and states in the South and West like California, Colorado, Florida and Georgia, the report indicated.

Joined at a Capitol Hill press conference with Sens. Robert Menendez, D-N.J., and Sherrod Brown, D-Ohio, Schumer said that he and others would be proposing that "hundreds of millions of dollars" in federal money be funneled to community-based groups to help borrowers head off foreclosures.

"We'd like to do something very quickly," Schumer added.

What should congress do?

I would like congress to do something quickly as well: go on recess for the rest of the year. That will save hundreds of millions of dollars of money on this foolish proposal to buy votes. It would also have the enormous side benefit of cutting off funds for the the war in Iraq saving countless billions of dollars. It's a win-win proposal vs. the status quo.

Liquidity Without Responsibility

Unfortunately congress is not about to declare recess, instead they are proposing still more subprime silliness. Bloomberg is reporting Mortgage Bondholders May Bear Subprime Loan Risk.

The top Democrat and Republican on the House Financial Services Committee said investors in mortgage bonds should be liable for deceptive loans made by banks. Democratic Chairman Barney Frank of Massachusetts and Spencer Bachus of Alabama, the committee's highest-ranking Republican, said such legislation would discourage lenders from extending loans to people with poor credit histories by making it more difficult and expensive for the banks to sell the mortgages.

"More money was being lent than should have been lent," Frank said in an interview from Washington. Frank, who last month predicted that the House would approve such a bill this year, said growth in the market for mortgage bonds "provided liquidity without responsibility."

New Jersey's Safeguards

The New Jersey law erected safeguards against predatory lending, including a requirement that lenders certify that borrowers can repay the loan. The borrower must receive financial counseling when financing mortgage points and fees, which may not exceed 2 percent of the total loan amount.

The "assignee liability" spelled out by "New Jersey is what I would go for, it works," Bachus said in the interview. The New Jersey law, which "could be the starting point for national legislation," allows "purchasers of securitized loans to protect themselves from liability via due diligence," Bachus said in the e-mail statement.

Frank declined to describe what he would include in any bill. Lenders this decade have increasingly relied on mortgage- backed securities to fund new loans rather than tap capital from federally insured bank deposits. Frank called the process flawed, saying that as a subprime financing mechanism, banks' exposure to the risk of default is excessively diluted.

By dispersing risk, the bonds fueled reckless and unscrupulous lending and compromised underwriting standards, he said. "There should be a decrease" in the money available for subprime mortgages, he said.

"Our job is to continue to have money available for people to continue to buy homes with minimal chance of these kind of disasters,'' Frank said. "The effect this has on the ability of people in the bond market to make money is simply not a factor."

Bachus wants to certify borrowers. Won't that be fun?

Frank wants a law to make boldholders liable. Uh excuse me but aren't bondholders the ones who are going to get hammered when these loans default?

This is all too funny. Greenspan has been praising the derivatives miracle for dispersing risk. Now Frank is complaining that "banks' exposure to the risk of default is excessively diluted".

"Our job is to continue to have money available for people to continue to buy homes with minimal chance of these kind of disasters. The effect this has on the ability of people in the bond market to make money is simply not a factor."

Is this guy clueless or what? Bondholders are going to get crucified in the upcoming debacle. If this bill actually passes as being discussed it will shut of credit in mass. Banks won't want the risk of holding real estate loans in a declining market. So essentially he is asking that only risk free money be lent. Given there is no such thing, very little money will get lent.

We could possibly see mortgage rates skyrocket because of rising default risk even as the Fed is forced to slash the Fed Funds later this year. The next conundrum would then be why mortgage rates do not follow the 10 yr treasury yield lower. This has the potential to be the 2007 version of Smoot-Hawley. That's OK I'm all ready for a bout of deflation anyway. Shutting off "liquidity without responsibility" should just about do it.

Mike Shedlock / Mish
http://globaleconomicanalysis.blogspot.com/