Once – a very long time ago, it seems – there was a truism in lending that borrowers ought to have some skin in the game. After all, if the lender holds all the risk and the consumer holds none, there is little incentive for the customer to behave responsibly.
That notion was discarded a few years ago with the blossoming of no-money-down mortgages, negative amortization loans and piggyback loans that brought total debt over the value of the collateral.
We’ve all seen where that got us. It decimated the mortgage industry, and gutted the national economy.
Consumers indeed need to have a true financial stake in their borrowing. They need to understand that there is a real monetary penalty to behaving irresponsibly. Of course, they’ll also come to understand that acting in an economically prudent manner will likely pay off for them in the long run. They’ll make fewer bad financial decisions, and they’ll profit from the gains on those bets strong enough to compel them to put their own money on the line.
Why, then, isn’t the mortgage industry willing to abide by the same philosophy?
In the latest financial reform bill from Senate Banking Committee Chairman Christopher Dodd, D-Conn., there is a “risk retention” provision for mortgage lenders. When an originator sells or securitizes a residential or commercial real estate loan, it must retain 5 percent of the credit risk. That number is down from Dodd’s original goal of 10 percent.
But even the new nominal figure is too much for the mortgage industry. The Mortgage Bankers Association and several other trade groups are lowing over the notion that originators need to hold on to any risk at all. And in their opposition, they are trotting out every Henny-Penny argument imaginable.
If originators are forced to keep 5 percent of the risk, the housing market will collapse; mortgage rates will rise 300 basis points; the securitization industry will be destroyed and abandoned; small and mid-size banks and mortgage lenders will leave the market entirely; and what’s left of the mortgage industry will be consolidated into the hands of just three national players.
It’s too bad all of that isn’t just editorial hyperbole, rather than actual scenarios laid out by mortgage industry leaders. Of course, in presenting these Roland Emmerich-worthy warnings, they are not so definitive. They don’t say these will happen, they just warn ominously that they could.
Let’s get away from the world of guessing and look at the world of fact. The mortgage industry has shown that it is willing to engage in behavior that puts consumers and the economy at risk. It gambles, literally betting the house in order to pump up short term profits. It deludes itself that it can control its worst tendencies through self-policing, but the past decade has demonstrated that’s clearly not true. And it lets its worst tendencies run amok because it has no limiter, no guideline, no leash.
A 5 percent risk retention requirement seems a minimal restraint. Moreover, if the industry insists that it will be harmed by holding on to such a small sliver of the loans generated, that does not reflect well on what it thinks is likely to happen to the other 95 percent.
Dodd’s reform initiative, overall, has its share of problems. But this isn’t one of them. And if lending leaders want to quash some of the other more onerous parts of the bill, they ought to stop making themselves such easy targets with their dramatic fainting spells over this part. That’s the real risk here.
