Economists find billions in unintended costs from servicer settlement
The pending settlement from federal regulators and the 50 state attorneys general could stretch foreclosure timelines out by almost another year, swelling the foreclosure inventory and pushing mortgage rates higher, according to a study from three economists provided to HousingWire. The study was published this week by Charles Calomiris, a professor at Columbia Business School, Eric Higgins, a professor of finance at Kansas State University, and Joseph Mason, a finance professor at Louisiana State University. They said the servicer settlement, which could reportedly force lenders to accept principal writedowns, mandatory modifications and fines totaling as high as $25 billion, would only entice more borrowers to strategically default and further cramp a still limping housing recovery. Felix Salmon, a financial blogger for Reuters, calls the claims "ridiculous" and pointed out that a footnote in the study shows funding for the research came from the financial services industry, including those "affected by the proposed settlement." Salmon went on to claim that some of the points used by the economists are not accurate, including the proposal to write down modifications for those not in default. However, the negotiations are still ongoing. Despite the still hazy terms, the economists added up the extra days the proposed settlement would put on the loss mitigation process, forcing modification plans and review process, the foreclosure timeline would be extended an additional 280 days. It would increase the already 17-month timeline on average by another 50%. "Although these delays might 'keep' borrowers in their homes longer, that effect is likely to be temporary as well as economically costly," the economists said. "Hence, the delays of foreclosure are not likely to result in a socially desirable means of accomplishing homeownership objectives." The economists point to modifications made between 2005 and 2008. Of those, 50% fell back into default, and 70% of the modified subprime loans redefaulted. If the settlement pushes strategic default 25% higher, the economists said, the inventory of foreclosed homes would grow an additional $297 billion. Standard & Poor's already put the foreclosure inventory, which contains properties in foreclosure and on the verge of it, at $450 billion. If it were to grow as these economists predict, mortgage rates 10 basis points in addition to the 35 bps lenders could raise rates to meet the added costs from the settlement. This effect that would press down on nearly everyone in the industry lenders, servicers, investors, homebuilders and especially borrowers. The Office of the Comptroller of the Currency anticipates the release of its settlement with the banks on Wednesday, but a deal from the coalition of the 50 state AGs and other regulators could still be months out. Ron D’Vari, CEO and co-founder of NewOak Capital, said the settlement should be more fluid than what is being discussed. "I think the regulators and state AGs should look at violations of the standard procedures, and try to make sure those violations don't happen and a more thoughtful case-by-case process is put in place. It looks to me that they're looking for a cookie-cutter solution that tries to solve the whole thing in one brush, which I don't think is optimal and could ultimately prove socially costly and damaging to the overall housing markets," D'Vari said. The economists concluded that modifications can be beneficial to housing, but when regulators and law enforcement step in, the unintended consequences could outweigh the gains. "Our critique of the settlement should not be construed to mean that voluntary modification is an undesirable option for mortgage servicers and borrowers. Rather, we believe that mandated, across-the-board mortgage modifications are not suitable for resolving most of today's delinquent mortgages," the economists said. Mason will be a Dodd-Frank panelist at the REthink Symposium hosted by HousingWire in May. He takes issue to Salmon's posting. "He is way off base, to the extent that he denigrates the economics profession," Mason said. Write to Jon Prior. Follow him on Twitter @JonAPrior.