Nevada’s Moral Hazard: The One With No Connection To Brothels

Foreclosure StreetNevada, one of the nation’s poster children in home foreclosures, is now tangled in the process of unwinding the results of the financial sector’s vulpine avarice.  Which home mortgages may legitimately be foreclosed upon and which are so defective that no legal process will rationally resolve the issues?  Bankers are lobbying for changes in NRS 106.210 and NRS 107.070 as included in AB 284 (pdf) of the 2011 session.

“At issue is Assembly Bill 284, a measure passed by the Nevada Legislature in 2011 and signed by Gov. Brian Sandoval that forces banks to prove they have the legal right to foreclose on a particular home before they take action. Most important, the law requires bank workers to sign an affidavit that they have personal knowledge of a property’s document history, or they will face criminal or civil penalties.”  [LVSun]

That “document history” part is important. A person doesn’t know the “document history” if the mortgage was robo-signed.  The “document history” may be unfathomable if the property documentation wasn’t properly registered with local government officials.  If the mortgage was signed, handed over to a servicer, later packaged with other mortgages into securitized asset products, sliced up into bits, and then re-sold to investors — we’ve seen this movie before and it didn’t have a happy ending…

Just how badly the financial sector had mismanaged the handling of mortgages can be quickly discerned from the numbers included in the Las Vegas Sun article.  Of the 5,350 foreclosure notices filed in August 2011, and the 4,684 default notices sent later, only 80 were compliant with the statute requiring that the banker demonstrate knowledge of the “document history.”

The issue also demonstrates how long it can take to fix messes created by free wheeling enthusiasts of financial creativity.  The housing boom lasted until 2007-2008, it’s now the end of 2012, and the bankers are only now returning to focus on their foreclosure mess.  It also provides an object lesson on the transitory nature of Moral Hazards.

Members of the financial community are oft heard speaking of Moral Hazards.  The New York Times explains: “…in economic terms it refers to the undue risks that people are apt to take if they don’t have to bear the consequences.”  For decades the formerly obscure term was applied to the “little guy.”

The Theory of Moral Hazard was applied to sales representatives, who it was said would not work hard to sell the manufacturer’s products if not given incentives like commissions to augment their enthusiasm for sales.  Later, it was applied to those “losers” who purchased home mortgages they did not understand with terms which were designed to create income for the mortgage sellers at the expense of the homeowner — whether the homeowner was financial capable of the increased expense or not.   In short, it is often argued under the matrix of Moral Hazards that the more trouble one might be in, the less help should be provided.

Even the libertarian Cato Institute was willing to accept the possibility that corporate malfeasance, unaccountable management, and shoddy risk management played a role in the collapse of the U.S. financial system in 2007-2008.*  The question becomes how much Moral Hazard should apply to the corporate entities which engaged in the financial transactions that fueled and eventually blew up the financial markets?

State Senator Tick Segerblom (D-Las Vegas) places the Moral Hazard on the bankers: “If it comes down to a homeowner who had a mortgage, or a bank — who has the right to be there? I’ll go with the homeowner,” he said. “I’m not worried about the banks. They made their beds. They can sleep in it.” [LV Sun]

If the question is: Shall the unworthy who got themselves into a Big Mess by the dint of their own avarice be offered succor from the government, either state or federal? Then those who truly hew to the Moral Hazard argument are stuck with banks, mortgage institutions, and investment houses whose porcine appetites caused them to fall into the trough.  The only other way out of the mess is to attempt to claim that the bankers didn’t really do it (an obvious mirage) or that, as the libertarians would like to assert, the bankers were merely acting out the extrapolations of government policy (as if the bankers have no free will and cannot discern Moral Hazards when they see them.)

Unfortunately for the banking industry apologists, the first option flies in the face of economic reality; and, the second makes them look like first class fools.

*The Institute author, after having pointed out the core of the problems, promptly reverts to the anti-government “Devil Made Me Do It” argument holding that low interest rates, deposit insurance, and federal participation in the secondary market were the ‘real evils.’

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