The Republicans Win A Big One-For A Change

National Review: Sometimes, A Bill Is So Bad That Its Own Faults Are Responsible For Killing it

(National Review Online)  Stephen Spruiell is an NRO staff reporter.

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The Republican party has not achieved many victories in the age of Obama, but one of its few successes was the defeat of the "bankruptcy cramdown" last month. The provision, pushed by Senate majority whip Dick Durbin and endorsed by the White House, would have allowed bankruptcy judges to reduce ("cram down") principal amounts and/or interest rates for mortgages on owner-occupied homes. Republicans opposed it on the grounds that changing the bankruptcy code and applying the changes retroactively would introduce a high degree of uncertainty into the financial markets; in particular, they feared it would lead banks to raise interest rates on home loans. Twelve Senate Democrats agreed, and Durbin and his allies lacked the votes to enact the change.

On Friday, the New York Times ran a piece by Stephen Labaton attributing the death of the cramdown provision to the strength of the banking lobby. This kind of piece tends to rely heavily on insinuation - the banking lobby made lots of campaign contributions as part of a vigorous effort to sway lawmakers, thus the legislative outcome in favor of the banks must be a quid pro quo. To make this kind of reporting work, it is essential to undermine the lawmakers' (and the lobbyists') stated reasons for opposing the legislation. Labaton doesn’t waste any time. In the seventh paragraph, he writes:

Documents and interviews with lawmakers, lobbyists and administration officials show that the banks defeated the bankruptcy change - the industry picturesquely calls it the "cramdown” provision - by claiming that it would push up interest rates and slow the housing market’s recovery, even though academic studies have countered such claims.

Ah, the academic study - even better than the selectively quoted expert for this kind of work. But not all academic studies are created equal. Labaton cites a 2008 report from Georgetown law professor Adam J. Levitin, but Labaton either ignores or fails to see the report’s substantial weaknesses.

Levitin's study (co-authored with Ph.D. economics student Joshua Goodman) concludes that "permitting even unlimited bankruptcy modification of mortgages would have no or little impact on mortgage markets." He bases this conclusion on his survey of past data. But relying too much on past data to make predictions about an unpredictable market is the same mistake Wall Street made during the housing bubble. Specifically, the historical examples Levitin uses are not good proxies for a major retroactive change to the bankruptcy code.

Some background: As it stands, bankruptcy judges are allowed to modify mortgages on vacation homes, investment properties, and the like - just not on owner-occupied primary residences. Congress wrote this provision into the federal bankruptcy code in 1978 in order to encourage banks to offer low interest rates on home loans. The change didn’t become settled law until the Supreme Court ruled on the question in 1993. Up until that point, some state courts had interpreted the law differently and allowed judges to modify mortgages on owner-occupied homes.

The first part of Levitin’s study examines interest rates and mortgage-insurance premiums on single-family primary residences, compared to those on other kinds of residential property. "We would expect that if the mortgage market were sensitive to bankruptcy modification,” he writes, "there would be a risk premium for vacation homes, multifamily homes, and investment property.”

Finding none in the first two cases (and explaining away the third case), Levitin concludes that the mortgage market is not sensitive to bankruptcy-modification risk. But he glosses over an important consideration: At what rate does each kind of borrower default? The following passage is typical of Levitin’s inattention to this question:

It is unsurprising that vacation homes have the same [interest] rates as single-family principal residences. Vacation homes reputedly have lower default rates because typically only well-heeled buyers purchase them.

If mortgages for vacation homes really do have lower default rates than those for principal residences, then it is actually very surprising that they should have the same interest rates. All else being equal, interest rates on principal residences should be higher because, as Levitin notes, only the rich tend to purchase vacation homes. Of course, all else is not equal: Mortgages on principal residences cannot be modified in bankruptcy court, and this factor likely keeps their interest rates down to vacation-home levels.

The second part of Levitin's study looks at interest rates before and after the 1993 Supreme Court ruling that settled the question of whether primary-residence mortgages could be modified. Levitin finds that the decision led to lower interest rates for the riskiest class of borrowers, but that it did not affect interest rates for borrowers in the upper or middle tiers.

This offers stronger evidence for the thesis that mortgage modification and interest rates aren’t always linked, but Levitin’s logic breaks down when he offers these findings as evidence that the proposed bankruptcy cramdown would also have no effect on prime borrowers. The Supreme Court decision removed a degree of uncertainty from the market. It does not follow that adding uncertainty to the market would simply return us to the status quo ante. Also, a Supreme Court decision is more or less final. A congressional act, especially one that imposes retroactive changes, carries with it the implication that the law can change again and again.

If Congress had passed the bankruptcy cramdown, it would have set the precedent that the rules of the game can change, retroactively, at any time. A contract you sign today can be invalidated tomorrow, not through the normal course of bankruptcy litigation, but because Congress says so. The impact of such an act might have spread far beyond the housing market: Every lending decision in the U.S. would have taken on additional political risk.

Pricing risk accurately is not easy to do. One could say that an inability to price risk accurately led us to our current economic predicament. The bankruptcy cramdown would have made the task of pricing risk even more difficult; Senate Republicans deserve credit for defeating it. No doubt the bank lobby contributed its share of muscle to the fight, but to say it was all about "the real threat . . . to their profits," as the Times’s Labaton does, is to take a cartoonish view of the issues at stake. And when Labaton writes, melodramatically, that "bankrupt homeowners do not have a political action committee or lobbyists," he ignores the fact that the banks lobbied just as hard against a recent law prohibiting certain credit-card lending practices, yet it passed. Credit-card users do not have lobbyists, either.

Lobbyists wield outsize influence in Washington. No one is disputing that. But sometimes, a bill is so bad that its own faults are responsible for killing it.

[vincentmichel]

This whole stimulus package is just part of the governments long term plan to take away the power of the people. Are we going to do something about it or be lazy and think someone else is going to do it for us? It is time for a revolution. We need to overthrow the government and take our power back. Before there is nothing we can do about it. you should check http://obamamortgage2009.blogspot.com/2009/03/obamas-mortgage-modification-do-you.html#comments

[ozus]

Many smaller banks must borrow from other institutions to lend. If they are forced by legislaton to bring their interest and capital below their borrowings they will go broke and we will be at the mercy of a few larger banks and foreign banks. Then that's the Democrat agenda - big government, big unions and selling out to foreign interests. Chrysler being sold to an Italian company is only the most recent example.

[eroosevelt08]

Sorry for the typo: I meant the least lousy solution!

[eroosevelt08]

The policy of the Bankruptcy Court is supposed to foster the lease lousy solution. Stephen, you should have thought about this one a bit longer. Retroactive tax laws are not unusual. Remember the other guy, President Bush?

[didserve]

So I guess the NRO wants 70 percent of Home owners to have no relief or help staying in their homes!

Hang in there NRO you are true to Form!

[elz523]

Another rag story from the rag called the national review. Typically it is a straw man story, but in this case it looks like it is another explanation about how something that looks like a defeat at the hands of the powerful is actually a good thing and we should be thankful to the Republicans for once again stabbing us in the back. The national review would seem to be more at home writing propaganda in North Korea, for North Korea.

[skyk-2009]

TO ALL YOU YOU LIBERAL MEDIA TYPES - WHO WOULDN'T KNOW THE TRUTH IF IT SLAPPED YOU IN THE FACE - OR DIDN'T WANT TO ADMIT THE TRUTH ---
IT'S BEEN SAID THAT ONE CAN LEARN HOW TRULY GOOD THEY ARE - BY LOOKING AT THEIR ENEMIES. .... IN THAT CASE, I GUESS THE REPUBLICANS ARE LOOKING PRETTY GOOD.
Posted by USA_Constitution at 1:56 PM : Jun 9, 2009

NO! You measure how good they are by the success they had. Like taking over a Balanced Budget and Surplus. IF you continue to show a Balanced Budget and continue to watch the debt shrink THAT'S success. When people attack your country and you invade a nation to catch them, then suddenly invade another Country and allow your enemy to escape into a Safe Haven, that's FAILURE. Understand?

[babooph]

Lobbyists have no problem with the voters -the bribe trumps all -republicrats all sell out.

[timothyjo]

If they call that a victory man they are behind .but guess when u are so far down even getting up in morning s a victoryi

[omnibus66]

The banking lobby killed the bill. It would have helped people with mortgage problems, but would have cut into the unlimited greed of the mortgage industry.

Bottom line: Banks control all of the Republicans, but also enough Democrats to still get what they want.