Slow Posting for Another Few Days

I won't be posting here or commenting on other blogs for the next few days because I need to commit all of my creative energies to writing an article that I've been drafting, off and on, for almost eighteen months.  I'd probably put the article off for another six months, but there's a chance to win $10,000 and get an invite to speak on a panel at Stanford Unversity, which would be a good way to kick off my next thing (which is still taking shape).

Hoisted From My Own Comment at Naked Capitalism

I had decided that there are enough top-notch bloggers (e.g., Yves, Karl, Barry and Rortybomb) out there covering the fraudclosure mess that there was no reason for me to post more about it here, but the latest info coming out of Wall Street is very interesting.  Since I shared it over at Naked Capitalism, there's no reason not to do so here:

From Karl Denninger, a link to a Citi analyst report regarding their meeting with a law professor about the possible outcomes of foreclosuregate.

From the paper Karl links to:

“Levitin articulated three possible outcomes to the aforementioned issues and assigned an equal likelihood to each. In his best case scenario, these issues are deemed merely technical in nature and are successfully resolved but it takes at least year to do so and all foreclosures are delayed by at least a year. Levitin disputed the claim by banks that these issues can be resolved in a month or so and attributed the banks’ claims to “legal posturing.” In the medium case scenario, litigation ensues and it takes years to sort out these matters. In the worst case scenario, the aforementioned issues become a “systemic problem” which causes the mortgage market to grind to a halt as title insurers refuse to insure mortgages involving existing homes.”

Even the best case scenario all but assures Chris Whalen’s prediction from last week of of a new banking crisis within 3-6 months. http://www.aei.org/docLib/Whalen.pdf

I was betting on the under, but I now think it will come before Nov. 2nd to ensure that the expected QE2 is as big as possible . . .

And now I guess we know that QE2 is really intended as just another bank bailout, but this time we’re not even pretending that the government has a say in it.

Addendum:  I speak to my investment advisors almost every day, and when I told them of the depth and legs of the foreclosure mess today, it was news to them.  Since they were at Lehman when it collapsed, they were very, very concerned.  I'll get their take on the Citi report tomorrow.

Obama Administration Falsely Frames Foreclosure Fraud As a "Paperwork" Problem

We knew this was coming:

The Obama administration opposes a moratorium on home foreclosures, but wants problems involving improper paperwork resolved as quickly as possible, senior adviser David Axelrod said Sunday.

"I'm not sure about a national moratorium," Axelrod said on the CBS program "Face the Nation." He said valid foreclosures with proper paperwork should go forward, and that questionable foreclosures need to be addressed right away.

"Our hope is that this moves rapidly and that this gets unwound very, very quickly," Axelrod said.

The Wall Street Journal simultaneously channels the same meme:

Talk about a financial scandal. A consumer borrows money to buy a house, doesn't make the mortgage payments, and then loses the house in foreclosure—only to learn that the wrong guy at the bank signed the foreclosure paperwork. Can you imagine? The affidavit was supposed to be signed by the nameless, faceless employee in the back office who reviewed the file, not the other nameless, faceless employee who sits in the front.

The result is the same, but politicians understand the pain that results when the anonymous paper pusher who kicks you out of your home is not the anonymous paper pusher who is supposed to kick you out of your home. Welcome to Washington's financial crisis of the week.

In the 23 states that require judicial foreclosures, lenders seeking to seize property from a delinquent borrower must file a summary judgment motion in court. Typically, this document must be signed in the presence of a notary by a "witness" who has reviewed the relevant documents and confirmed that the borrower is in default and the lender owns the mortgage.

Recently GMAC Mortgage, whose parent Ally Financial is majority-owned by the U.S. government, suspended foreclosures in those 23 states after acknowledging that in some cases notaries may not have been present and the signers may have relied upon others to review the documents instead of doing it themselves. Bank of America and J.P. Morgan Chase then halted their own foreclosures in those 23 states to ensure they are following the letter of the law, and yesterday BofA announced its moratorium is now nationwide.

Notice how this piece focuses on notarization of affidavits in support of summary judgment motions instead of forged documents being used to fraudulently establish a chain of title? 

Steve Pearlstein at the Washington Post puts his own spin on the "paperwork" meme:

Listening to the fiery rhetoric about the mortgage mess emanating from politicians this week, you'd think that big bad banks were trying to foreclose on hundreds of thousands of homeowners who were current on their payments but had become victims of sloppy business practices. If that were the case, declaring a national moratorium on foreclosures would be the just and reasonable thing to do.

But if, as appears to be the case, the overwhelming majority of homeowners facing foreclosure have fallen far behind on their payments, then it is a good deal harder to summon up the same moral outrage over reports that the banks and loan service companies cut corners, failed to keep the right documents and engaged in shoddy and even fraudulent practices. Just because the banks and servicers have screwed up doesn't mean they and their investors are no longer entitled to get their money back.

Certainly banks and servicers should, at their own expense, be sent back to do things right. Those who engaged in fraud should be punished. And if there are legitimate questions about who owns a loan, those will need to be resolved before the proceeds of any foreclosure are distributed.

But none of that changes the basic reality that there are millions of Americans who took out mortgages they could not support on houses they could not afford. It may be necessary to postpone their day of reckoning for a few months to get the paperwork in order and ensure that all the proper procedures are followed, but the reckoning is inevitable.

. . .

The breakdown in the foreclosure system has also exposed serious weaknesses in the way mortgages are written, packaged and serviced that should force the industry to adopt instruments and structures that are simpler and easier to change when things go wrong. Based on the recent revelations, the consumer protection agency should require that mortgage servicers meet minimal standards of customer service and offer clear procedures for loan modification and third-party adjudication before the foreclosure process can be initiated. If this adds to the price of a loan, so be it.

That said, those who are cheerleading for a moratorium should realize they can only push things so far. It would not help the recovery of the economy, or the real estate market, if the foreclosure process became so hopelessly tangled that banks and investors effectively lose the ability to recoup the remaining value of their collateral. That would provide some immediate financial relief to households facing foreclosure, but it would encourage many more homeowners to begin shirking their mortgage payments in the belief that they would also be able to avoid the consequences. The long term consequences of that would be that mortgage rates would be higher and mortgage loans would be smaller and harder to get.

Perhaps it is only natural for Americans to take some guilty pleasure in watching as the big banks and Wall Street wizards who created this flawed and complex mortgage machine are hoisted on their own petards. But be careful what you wish for. The financial system is still fragile enough that we may not be able to afford a full helping of revenge.

It's just a "flawed and complex mortgage machine."  Nothing to see here.  Move along.

Expect to see this meme being pushed as a major talking point from all of the major media outlets and professional pundits of all stripes over the next week or so.  When everybody bursts into singing the same tune at the same time, you should be suspicious.

Karl Denninger Asks and Answers the Most Important Question: "Why?"

Karl has a new post up this afternoon with some observations about foreclosuregate.  While his claim that nobody but he has been asking the "why" question is incorrect (Yves Smith has been asking the same question for at least a week), I think he is the first one to provide a comprehensive answer.  You can find the post here. 

While it is well worth it to read the whole thing, here is the punchline:

So what we have here are two answers to "Why?"

1. The deals were un-economic unless someone cheated.  That is, there's only so much risk-adjusted "spread" in a particular lending transaction.  The common law of business balance says that nobody ever works for free, and as a consequence the more hands that touch a deal the more that profit is dissipated among those hands.  In a competitive market where multiple entities compete for business this means that the true yield available to at least some of the investors would always have to understate the risk of default, and therefore someone was always going to get screwed.  On balance there's nothing unlawful about that, so long as you properly and fairly disclose everything about the deal - there's nothing that stops you from buying a thing that is disadvantageous to you.  We take this risk every day when we, for example, buy a pack of cigarettes.  The "pleasure" (such as it were) from smoking may come with a horrific cost (lung cancer); it was only when the Tobacco Companies tried to conceal this risk that they were held responsible.
   
2. As the pyramid grew higher, the number of good borrowers was exhausted.  To keep the charade going it was necessary to fund loans to "patsies" - the infamous "fog-a-mirror" lending.  That would have been ok too, except that the lenders actively concealed the fact that the loans they were stuffing into the securities did not meet the standards under which they sold those resulting MBS to investors. 

So between #1 and #2, we have two things that would not be illegal if they were properly and fully disclosed, but if they were fairly and fully disclosed there would have been no money in securitizing these loans, as nobody would have bought them.
To sell them, they had to cheat.  And when the "caught" part of the cheating became apparent as housing prices started to collapse, they attempted to cheat again to cover up the earlier cheating, which is what you're seeing now.

The next question is why cheat?  As I said in a previous post, public companies like the TBTF banks all must show perpetual growth or see their share price plummet.  There are only so many ways to keep the illusion of perpetual growth alive, and the last resort is always cheating, which can be as trivial as timing sales and as brazenly criminal and systemic as the predatory lending, the fraudulent conveyance of mortgage-backed securities that were not, in fact, backed by mortgages, and the subsequent foreclosure fraud to cover up their prior misdeeds. 

"Complexity" and What It Means to What We Think We Know

This post is a placeholder/teaser for a more complete post that I plan to write up later.

We're taught to think of monetary policy, fiscal policy, industrial policy and tax policy as four completely different things.  In fact, they are each part of a complex political topography that manipulates the human nature of individuals to produce a collective result in the broader political economy.

The focus of this "checkpoint" post is tax policy, which many claim redistributes wealth.  This is incorrect.  Tax policy, against the broader background established by monetary, fiscal and industrial policies, does not so much affect one's wealth as how one's wealth is distributed among wages, entrepeneurship and rent-seeking. 

The current policy of relatively low tax rates for the highest wage earners and favorable capital gains treatment for financial speculation exaltts non-productive rent-seeking over true investment in the productive economy.  If the goal is to encourage investment in the real economy (domestic entrepeneurship), one way to do that is to discourage rent-seeking by providing relative incentives for investing in domestic businesses that create jobs in the United States, which would funnel unneeded earned income into productive businesses as opposed to non-productive financial speculation.  Both productive businesses and non-productive financial speculation throw off wealth, if managed properly (and losses, if not), so no wealth or opportunity is lost by choosing to invest in productive businesses over non-productive speculation.  Indeed, as we're learning with the continuing collapse of our debt-financed speculative economy, speculation is actually destructive in the long term.

The point is that we need to think of these various policies together and not in isolation.  I'd go further to say that we need to reconstruct these policies in parallel to provide the appropriate incentives for creating a self-sustaining political economy that is not subject to the boom-bust cycles caused by debt-financed speculation.

Could "Foreclosuregate" Spell the End of the Debtrix?

Karl Denninger calls the current foreclosure fraud mess "Foreclosuregate." 

Personally, I think labeling the foreclosure fraud mess with the obligatory "-gate" suffix makes Watergate appear to be a far bigger deal than it was.  Watergate just involved some petty crimes by lackeys of the POTUS to secure fodder for political dirty tricks.  By contrast, the foreclosure scandal is systemic and appears to include, at some level, the complicity of pretty much everybody in the elite power appartus (POTUS, Congress, courts, banks, lawyers, other corporations), all to the detriment of average American citizens. 

The foreclosure fraud scandal is several orders of magnitude worse than Watergate and could well result in an existential political crisis on the order of the Revolutionary and Civil Wars.  Because the foreclosure scandal does not lend itself to the typical "A versus B" frame of conventional politics, it cannot devolve into the factionalism or regionalism that marked prior existential crises.  Indeed, because the foreclosure fraud scandal strikes at the heart of our conception of America as being a country premised on the "rule of law" and the sanctity of property, even many economic elites will feel compelled to join the cause of reigning in the predatory FIRE sector, just as they did in response to the Great Depression. 

I view Obama's veto of HR 3808 as confirmation that the White House understands just how volatile this situation could become.  Why?  Because HR 3808 is really no big deal.  Contrary to a lot of the breathless headlines out there, HR 3808 would have had no real effect on foreclosure fraud because nothing in the bill requires judges to accept fraudulent documents as either evidence or true.  The authentication of documents, which is all that notarization provides, is but the first step in getting a document in front of the finder of fact (in judicial foreclosures, this is the judge), and the mere fact that a document is authenticated as genuine does not mean that its contents are true.  It is up to the finder of fact to weigh all of the evidence presented and determine what the truth is.  Obama knows this.  His choice to veto the bill in view of the completely unfounded concerns of lay people** was a purely political one meant to mollify the masses and get them back to being angry at each other instead of the banks.  The bill will ultimately become law.

I don't think the political whirlwind caused by the foreclosure fraud scandal can be so easily contained.  The number of states imposing moratoria on foreclosures is growing, as is the number of major banks being subject to them.  This makes Chris Whalen's prediction of a new banking crisis within the next 3-6 months that much more likely, and I'm betting on the under.

The timing could not be worse for the major political parties, who are only a month away from the mid-term elections.  Expect a major shift in campaign rhetoric as candidates realize that the foreclosure fraud scandal transcends politics-as-usual.  Another bank bailout is politically impossible after the banks paid themselves billions of dollars in taxpayer money for being so "successful" after the last bank bailout just 18 months ago. 

We'll see how this all plays out.  We're definitely living in interesting times.

** I practiced law for fifteen years, most of them as a litigator and trial lawyer.  While I no longer practice law, I remain interested in the discipline.

UPDATE 1:  Via Mish, 40 state attorney generals are now investigating mortgage/foreclosure fraud. 

FYI -- In the linked post, Mish links to a previous post in which he blames the SEC's lack of regulation for the fraud we're seeing.  While there's no doubt that things might not have turned out so poorly if the SEC had been doing its job, the reason why the NEC was not doing its job is because neoliberal ideologues like Mish were in charge of the SEC and Federal Reserve.  The only people who can properly be blamed for the fraud are the banksters who engaged in it.  If you want to blame captured regulators as accomplices of the banksters, fine, but to blame only the regulators is to absolve the real criminals, i.e., the banksters.  Austrian neoliberals like Mish cannot have it both ways.

UPDATE 2: Here's an interview with the Ohio Secretary of State regarding foreclosuregate and HR3808 (h/t Karl Denninger).  My take on what she had to say is that HR 3808 would have made it cheaper and easier for the banks to engage in forging missing mortgage documents by setting up shop in states with loose notary laws.  This concern does not translate directly into the assertion that the law would have made it easier for the banks to obtain judicial foreclosure, although arguably being able to pump out forged documents more quickly could sharply increase the number of foreclosure cases in the system and encourage other states to create a Florida-like "rocket docket" for handling foreclosures. 

The Postcatastrophe Economy: A Summary

I recently finished reading Eric Janszen's The Postcatastrophy Economy: Rebuilding America and Avoiding the Next Bubble.

While I continue to believe that Janszen's book is the best I've read regarding the ongoing economic crisis, I find myself strangely disappointed.  The reason?  The book starts out amazingly strong, but it fails to carry the same levels of energy and clarity into the second half.  In fact, I'd argue that towards the end, Janszen undermines some the clarity of the first half of the book.  Nevertheless, as a whole, the book represents quite an achievement for an entrepeneur turned investment advisor. 

The book is divided into three sections.  First, he describes the FIRE (finance, insurance, real estate) economy that caused the current crisis.  Second, he describes his solution and alternative to the FIRE economy, which he calls the TECI (transportation, energy, communication, infrastructure).  Finally, he provides his "midterm macro forecast."

The first section, which spans a little over half the book, details the FIRE economy, how it operates, and how it led to the crisis that began in 2007 and continues today.  Janszen is clearly familiar with the economics of Michael Hudson, which form the foundation of Janszen's analysis of the FIRE economy, but Janszen extends Hudson's economic theories and synthesizes them into something that is far more accessible to the lay person than Hudson's original works.  He also introduces the interesting metric of "dollar-of-debt" per "dollar-of-GDP."

Things start to break down in the second section, which presents Janszen's vision of a solution to the FIRE economy, which I find compelling but not fully baked.  Janszen is clearly speaking from a position of legitimacy as a technology entrepeneur, and it is clear that his experience shades his judgment of what needs to be done.  This is when some of his blindspots become apparent.  First, his vision is one that caters to people like him, which is a common failing whenever somebody tries to plot a course for the future.  The good news is that his vision is complete enough that it can easily be extended to be more inclusive.  Second, while he understands the economics of the FIRE sector, it is not clear that he grasps how many of our laws, regulations and "rules of thumb" would have to fundamentally change in order to fully break free of the FIRE economy and the embrace the TECI economy.  This is not fatal to implementing his vision, it just means that this is a much larger undertaking than he realizes.  That's why I call his solution merely a vision of a solution.

Things almost fall apart in the final section, primarily because he puts on his investment advisor hat.  I'm not saying that his predictions about things like "peak cheap oil" or gold will prove wrong.  What I'm saying is that, in spite of his understanding of the FIRE sector, he does not seem to truly he understand that he is actually a "speculation advisor" not an investment advisor, and in that role he actually perpetuates the financialization of the real economy by the FIRE sector.  When he cannot see his role in perpetuating the FIRE economy, how can he be correct that the FIRE economy is already over?  Answer: he can't be.

At the end of the day, I do not believe these relatively minor flaws detract from the genius of the book, which is found in the first two sections.  Janszen probably felt it necessary to tack on the third section to treat the preparation of the book as a business expense (advertising), and some people will find the third section alone justifies buying the book.