Hearing of the Senate Banking, Housing and Urban Affairs Committee - U.S. Credit Markets

Interview

Hearing of the Senate Banking, Housing and Urban Affairs Committee - U.S. Credit Markets

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SEN. JACK REED (D-RI): Thank you, Mr. Chairman.

Thank you for your excellent testimony.

Secretary Summers, one of the assumptions that everyone's operating under, and I know I am, is that if you adjust the price of the property down to a realistic value, then the homeowner will be able to carry on. But the question then is the continued viability of homeowners given declining wages in some places, stagnant wages, unemployment going up, commodity prices going up, and family budgets. This is a -- this is not the best time to try to work out a real estate crisis. So any thoughts on the other side of the equation that if there's continued price increases in commodities and unemployment grows -- i.e., the classic recession -- where are we?

MR. SUMMERS: I think it's a serious concern, Senator Reed. I'm inclined to think that the further decline in house prices risk that I described is, if anything, slightly greater than the risks you described, but I don't minimize the risks that you described.

The OLHOLHOLfksjdfkjsefhkjhskjhkjhkjhkjhkjkjhjkHOLC program in the Depression that the chairman has referenced in designing his legislation had an approximately 20 percent foreclosure rate. Even though the program was put in at the bottom of the Depression, things were getting better and equity levels were rather higher than what we contemplate today.

So I think we need to be realistic in recognizing that whatever we do with the FHA there's going to be a significant re-foreclosure rate. On the other hand, there are going to be a very large number of families who are going to have been benefited and who are going to have been enabled to stay in their homes.

Now, some suggest, as Dean Baker did, that one cut past all that problem by turning the potential victims of foreclosure into long-term renters. And I see the merit of that approach in the sense that you would avoid some of these problems -- not all these problems; they might not be able at a certain point to afford the rent. For me, at the present time the problematic aspect of that is the almost entirely involuntary character of what's happening vis-a-vis the contract that underlay the mortgage and vis-a-vis the bank. So I don't support that. I would oppose it fairly vigorously. But going in that direction is the direction one goes if the problem one is most focused on is the ability of people to continue to stay in their homes indefinitely.

SEN. REED: Dean Baker, do you have a comment?

MR. BAKER: Yes, just a couple things. I think any sort of program like the Hope Act would be most successful if we are very careful about the prices for reasons Secretary Summers had said and I had said earlier. And I think one way in which we could do that is if you try to anchor the guarantee price in rents because rents are ongoing in the market; they haven't fluctuated in as erratic a pattern as sale prices.

So if we were to set a guaranteed price of say some multiple, 15 to one or something like that, of rent, we would do two things. One, we would ensure ourselves that we're not setting ourselves up, setting up the taxpayers for large losses. And secondly, we would minimize the subsequent foreclosure, because that would be a situation where you would not anticipate large subsequent declines in the house price.

So I would suggest that, you know, when we're looking to appraisals, again as Secretary Summers said, it's very hard to find a reliable appraisal in a very irregular market. We could get a reliable rental appraisal because there is a large amount of rents in the market, and that could be a very good anchor.

And again, insofar as reusing money, using some of this guarantee to guarantee overpriced homes in bubble areas, that's money that's not going to stabilize markets where it could have a beneficial effect.

SEN. REED: We all make reference back to the experience of the '30s and the Depression, but there seems to be some -- there are differences, obviously. One is that -- and maybe this is more folklore than reality, but it seems to have some currency -- is that back then, most of the mortgages were owned by a financial institution that could go in and make this deal pretty directly. The securitization process, which is very sophisticated: How is that -- how will that complicate or what we should be particularly looking at in terms of the obstacles of getting anything done given these very sophisticated securitization products that have been cut up in tranches and defies some (people's ?) understanding.

Secretary Summers?

MR. SUMMERS: I apologize for having lost sight of precisely where the legislation that Senator Carper has discussed in the past currently is, but the proposals to give legal liability -- to give relief of legal liability from servicers for renegotiation strike me as being close to the lowest hanging fruit in this whole area.

I think there's room for debate as to just how much of the problem they will solve. I think there's no room for -- there's almost no room for rational debate, that they represent a constructive step in the right direction.

SEN. REED: Any other comments? Yes, Ellen, Ms. Harnick.

MS. HARNICK: I would add that one other difference -- sorry about that. Thank you.

One other difference that flows from the fact that these loans are securitized is that different incentives are at play, so that back in the '30s the lender was the holder of the note and was the person negotiating. Today, when you have the servicer negotiating on behalf of different tranches of investors, sometimes the servicers own incentives are quite different from the -- what's good for the note holder, so that for example -- there's been a lot written about this -- that servicers actually earn more themselves from foreclosing than they do from some of these cost-intensive alternatives like modification. And I assume that that would be in play with the FHA proposal as well.

They'll incur costs in going through the process for which they won't be reimbursed under their pooling and servicing agreement, whereas if they foreclose, all their costs would be covered. And so this is a problem that would have to be worked through. There would need to be a way to make the rational outcome -- realize the rational outcome even where the servicers' incentives might run to the contrary.

SEN. REED: Do you have a proposal? I mean, that's a --

MS. HARNICK: The best proposal I'm aware of is the one that allows a court to supervise the process and ensure that the rational solution is imposed where the servicer cannot or will not agree, and that is the bankruptcy conversation that's been raised in other quarters.

MR. STERN: If I --

SEN. REED: Yes, please, Scott.

MR. STERN: I am happy to just add very, very quickly that the number one thing we hear from Wall Street and from securitizers is they don't know where the bottom is. And I assure you that when they say we don't know where the bottom is, they're not talking about credit quality; they're talking about value. On a recent call I was on, we discussed the fact that this is the best quality of loans -- the applications of March of 2008 are the best quality of loans many of us have ever seen. They're high credit, they're low loan to value, and yet we can't make the loans because simply the properties are not appraising out.

If we had a bottom of the appraisal market of the valuation market, these loans could be refinanced. Many of these borrowers need to refinance. Their ARMs are resetting. They come to us. We can't help them because the simple reason is their loans are under water. Securitizers need a bottom.

SEN. REED: Thank you very much.

Mr. -- (inaudible) -- next.

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