A New York Times report has shed light on a new program being implemented by the TBTF (too big to fail) bank zombies where mortgage borrowers are being given principal reductions even though the borrowers were current on their loans.
From the story:
Two of the nation’s biggest lenders, JPMorgan Chase and Bank of America, are quietly modifying loans for tens of thousands of borrowers who have not asked for help but whom the banks deem to be at special risk.
Rula Giosmas is one of the beneficiaries. Last year she received a letter from Chase saying it was cutting in half the amount she owed on her condominium.
Ms. Giosmas, who lives in Miami, was not in default on her $300,000 loan. She did not understand why she would receive this gift — although she wasted no time in taking it.
Banks are proactively overhauling loans for borrowers like Ms. Giosmas who have so-called pay option adjustable rate mortgages, which were popular in the wild late stages of the housing boom but which banks now view as potentially troublesome.
Before Chase shaved $150,000 off her mortgage, Ms. Giosmas owed much more on her place than it was worth. It was a fate she shared with a quarter of all homeowners with mortgages across the nation. Being underwater, as it is called, can prevent these owners from moving and taking new jobs, and places the households at greater risk of foreclosure.
The article discusses pools of ARM loans that Bank of America and Chase purchased from other bankrupt lenders. Because current ARM loan borrowers were at high risk of default, the banks elected to hedge by giving them principal reductions. It makes sense from an economic point of view because delinquent borrowers can live in the house for years without making a payment and the risk of the house being trashed and looted increases exponentially. Ms. Giosmas elected to dump the place a few months later making a tiny profit LOL. Fucking Greeks.
The hope for student loan leveraged CDO grads is that principal reductions occur on a larger scale for delinquent mortgage borrowers. This way the idea of “jubilee” becomes more mainstream and also gives us more ammunition to reform the current system. In addition, the larger the difference in the treatment of mortgage borrowers vs student loan borrowers becomes, the more we can show how gross the inequity is in the matter. Again, mean reversion in play. Putting it simply, the mortgage borrower whose home drops 50% relative to the debt they owe gets his debt wiped out. The student loan borrower whose earning potential drops 50% relative to the debt they owe grows bigger and bigger. At the end of the day, both borrowers assumed that the asset they borrower to acquire was worth the debt they incurred. While in housing we see a correction taking place, the same scenario is absent in the student loan market.
Anyway this development is huge and a step in the right direction. So long as banks implement principal reductions without requiring more tax payer bailouts, this is a great way to get the housing market on the right track. Personally I’d rather see these TBTF be taken apart, sold off into parts and create 100 new banks out of each TBTF. Instead of 4 monster banks, we can have 400 new banks. There goes systemic risk as the risk is now spread out amongst 400 players instead of 4.
In addition, we can use this story in our fight for student loan reform. At the very least, the department of education can reduce student loan principal for delinquent borrowers back to the original amount they borrowed. However, gross principal reductions across the board would be great for the borrower and the economy as less money gets sucked into the student loan black hole. The fact remains that for many in this country, the amount of debt they owe versus their realistic earning power is grossly mismatched. Adjusting existing debts to current labor market realities would provide a jump across the economy and provide emotional rejuvenation to hundreds of thousands of borrowers.
Every 50 to 70 years the country needs a jubilee. We saw jubilee in the 30’s and we will see jubilee in the years ahead. From Wikipedia, take a look at what the ancient Babylonian kings would do:
These Babylonian kings (to whom could be added Ammizaduga) occasionally issued decrees for the cancellation of debts and/or the return of the people to the lands they had sold. Such "clean slate" decrees were intended to redress the tendency of debtors, in ancient societies, to become hopelessly in debt to their creditors, thus accumulating most of the arable land into the control of a wealthy few. The decrees were issued sporadically. Economist Michael Hudson maintains that the Biblical legislation of the Jubilee and Sabbatical years addressed the same problems encountered by these Babylonian kings, but the Biblical formulation of the laws presented a significant advance in justice and the rights of the people.
Maybe our leaders can be enlightened with some wisdom from the past. But in the end, I believe that the forces of reality will force some time of resolution in the years to come as total US credit market debt exceeds $52 trillion. It can’t be repaid and won’t be repaid. And once this issue of debt repudiation gets resolved, we will all be able to move on from this current period of debt resolution. Whether its Dubai, Greece, Ireland, Portugal, Spain, Italy, Japan, China (off balance local level debt of over $3 trillion), California, or the United States, the main headline concerns DEBT. They holders of the debt can fight the current as much as they can but in the end I believe they will lose. It’s frankly a matter of scale. There’s so many of us and so few of them. How all the people of all the world ended up owing so few others is beyond me. But per the ancient Babylonian decree of Jubilee it must be human nature to create incredible ponzi schemes that blow up.
I will be following this story in the weeks ahead as more information comes out.
Happy 4th of July!