The Only Victims in the Foreclosure Mess Will Be Taxpayers

In modern politics, if you have a better narrative than the other guy, your chance of swaying the public at large to your point of view increases substantially.

As we have seen, the narrative doesn't necessarily have to contain facts, or even represent the truth. What matters is if it sounds plausible and plays effectively to the preset prejudices and opinions of the majority.

In this respect, the two competing narratives involving the foreclosure mess may both be successful in demonizing pet targets like big banks or ACORN. But as far as reflecting the reality of the problem, both narratives come up considerably short.

On the left, it's heartless, greedy banks foreclosing illegally on tearful, innocent homeowners, throwing children and grammas out in the street for no reason hardly at all. On the right, it's sinister forces manipulating the system in order to allow deadbeat homeowners to remain in houses as a result of nothing more serious than a paperwork snafu, despite the fact that they should long ago have been foreclosed upon and evicted.

Compassion versus personal responsibility. Class warfare versus the politics of resentment. As political narratives, both succeed in playing to the emotions and preconceived notions of their respective partisans. But as commentaries on what is actually happening, they are wildly off base.

By any measure, we are facing an extremely serious crisis that not only affects foreclosures, but mortgage securities, the financial viability of banks that are still "too big to fail," and, most importantly, the rule of law in America. Silly, pretentious attempts to gain political points in this crisis will only make it more difficult to act when the crunch comes.

Is a crunch coming? The uncertainty alone is already affecting the housing market, bank stocks, the credit markets, and the economy in general. And until a way can be found out of this mortgage quicksand, it is likely that those trends will continue, threatening to throw the economy back into recession and perhaps even initiating another financial meltdown similar to the one we experienced in September of 2008.

What exactly happened and why? In large measure, we are suffering a paperwork hangover from the mortgage security binge of the first years of the century when mortgages were pooled and sold in chunks to investors, ostensibly to spread the risk. (A good primer on the crisis in foreclosures can be found here.)

Here’s where things get tricky. When a mortgage is securitized, the investors in the mortgage bonds don’t get assignments or notes. The investment vehicle doesn’t get the assignments or notes either. Instead, the physical notes are typically sent to a document repository company. The transfer of interests is noted in an electronic database.

But during the height of the housing bubble, investment banks were churning out mortgage bonds in such a frenzy, sometimes the assignments never got executed and mortgage notes never got delivered. Keep in mind that this was during the years when lenders were giving out low-doc and no-doc mortgages. It was inevitable that the fast and loose and slightly documented culture would not stop at the mortgage originator but stretch all the way through the process.

Fast forward to the housing collapse and millions of loans going into default. The banks were overwhelmed with a tsunami of paperwork and employees, and under pressure to keep the process moving forward. They ended up falsifying signatures, not reading what they were signing off on, failing to attach the proper "assignment" papers to the foreclosure docs, and allowing other irregularities that threw the entire foreclosure process into question.