Economists would make lousy doctors

Further evidence that economists would make lousy doctors emerged yesterday when the Federal Reserve issued the following press release:

Federal Regulators Encourage Institutions to Work with Mortgage
Borrowers Who Are Unable to Make Their Payments

The federal bank, thrift and credit union regulatory agencies are encouraging financial institutions to work with homeowners who are unable to make mortgage payments. Prudent workout arrangements that are consistent with safe and sound lending practices are generally in the long-term best interest of both the financial institution and the borrower. Institutions will not face regulatory penalties if they pursue reasonable workout arrangements with borrowers.

Borrowers who are unable to make their mortgage payments should contact their lender or servicer as soon as possible to discuss available options. Examples of constructive workout arrangements include modifying loan terms, and/or moving borrowers from variable-rate loans to fixed-rate loans. Bank and thrift programs that transition low- or moderate-income homeowners from higher-cost loans to lower-cost loans may also receive favorable consideration under the Community Reinvestment Act (CRA), provided the loans are made in a safe and sound manner. Federal credit unions are exempt from CRA requirements.

The agencies want to remind their institutions that existing regulatory guidance and accounting standards do not require immediate foreclosure on homes when borrowers fall behind on payments. In addition, under the Homeownership Counseling Act, institutions are required to inform delinquent borrowers about the availability of homeownership counseling. Institutions should also consider working with reputable consumer-based organizations to help financially stressed borrowers avoid predatory foreclosure rescue scams.

Feeling little need to be proactive when unaffordable homes were being purchased with "toxic" loans by people with bad credit and no down payment back in 2003, 2004, 2005, and 2006, here in 2007, when it appears that the entire business of mortgage lending is teetering on the edge of a cliff, the Federal Reserve figures it's time to get out in front and lead.

This is not unlike a doctor telling his patient for years that smoking isn't bad for him, then being quick with the radiation and chemotherapy after the cancer is detected.

What is that they say?

An ounce of prevention is worth a pound of cure?

Not at the Fed.

It's more like, "Don't just smoke, start drinking a lot more too - have a great time and don't worry about a thing".

Here's the "have a great time" advice from a speech by former Fed chairman Alan Greenspan two years ago (more here).

"Where once more-marginal applicants would simply have been denied credit, lenders are now able to quite efficiently judge the risk posed by individual applicants and to price that risk appropriately. These improvements have led to rapid growth in subprime mortgage lending; indeed, today subprime mortgages account for roughly 10 percent of the number of all mortgages outstanding, up from just 1 or 2 percent in the early 1990s."
...
As we reflect on the evolution of consumer credit in the United States, we must conclude that innovation and structural change in the financial services industry have been critical in providing expanded access to credit for the vast majority of consumers, including those of limited means. Without these forces, it would have been impossible for lower-income consumers to have the degree of access to credit markets that they now have.

Combine the extension of credit to those of limited means with financial "innovation" of Wall Street aided by a slew of lightly regulated hedge funds, as the nation's most influential economists have strongly advocated in recent years, and you get an illness for which there is no simple cure.

From yesterday's testimony by Sheila Bair, chairman of the Federal Deposit Insurance Corp., comes the following prognosis.

Most of the adjustable-rate mortgages taken out in the past few years can't be easily rewritten, Bair said. About three-fourths of the $600 billion in subprime ARMs taken out in 2006 have been securitized, or sold in the secondary market, which means that neither the servicer of the loan nor the original lender can easily negotiate with the borrower to change the terms of the loan, she testified.

Reworking the terms of the loan after it's been securitized "can be very difficult and may require extraordinary actions," Bair said.

"Once the lender has sold the mortgage to the issuer, the lender no longer has the power to restructure the loan or make other accommodations for its borrower," Bair said.

Dr. Greenspan is now retired and pulls down large appearance fees on a speaking tour that will lead up to the release of his new book this fall:

The Age of Turbulence - Adventures in a New World.

Pre-order yours now.