Six years after U.S. home prices peaked and then plunged, the nation's mortgage markets remain mired in slump.
Despite flickering signs of improvement in some localities, the S&P Case Shiller Index shows home prices down 9% from their previous post-bubble high. Meanwhile a backlog of nearly 400,000 homes awaited liquidation at the end of 2011, with another 2.86 million mortgages 12 or more months delinquent. That's a "shadow inventory" of some 3.25 million homes either already foreclosed or now facing imminent foreclosure – an inventory that weighs down on home prices, families, and neighborhoods alike.
It also weighs down on the states' and the nation's economies. As a recent white paper produced by the Federal Reserve Board indicates, foreclosure and slump in the housing markets feeds back into the broader economy by diminishing wealth and consumer spending. That lowers growth and employment – bad enough in themselves, but also sweeping more mortgages into the wave of defaults. Hence the familiar "downward spiral" of high foreclosure rates, causing low growth and employment, causing yet more foreclosure, and so on.
It is widely recognized that many mortgage troubles stem ultimately from poorly underwritten and poorly structured loans made during the bubble. Many other mortgage loans, however, were well underwritten and structured, and are underperforming now solely because of slump-induced temporary unemployment on the part of ordinarily credit-worthy homeowners. These mortgages are not problematic in themselves, but simply caught up in the broader economic dysfunction caused by defaults on the bad mortgages. The remedy for troubled mortgages of this sort need not be the same as for those of the other.
The federal Home Affordable Modification Program and Home Affordable Refinance Program, however, lump both types of troubled mortgage together. These programs' approaches are not necessary for all mortgages. A recent Federal Reserve Bank of New York study finds that it would be more efficient to use a different framework from that of HARP or HAMP to treat loans that were well-underwritten at inception, but are now delinquent owing to temporary income loss stemming from underemployment. The study concludes that this subset of borrowers will be better served by a temporary mortgage bridge loan assistance program that provides limited funds to stay current on a mortgage loan until the homeowner is reemployed.
The New York City Bar Association, through its Committee on Banking Law, recently issued a report urging Governor Andrew Cuomo and the New York state legislature to adopt a mortgage bridge loan assistance program. That report provides a description of the proposal, a draft statute, and an analysis of the number of borrowers in New York that are likely to be helped through the program. It also considers several program funding options, including one that would rely on contributions from financial institutions to satisfy their Community Reinvestment Act obligations, at little or no cost to the state.
Inspired by a highly successful Pennsylvania program instituted during the steel slump of the early 1980s, the City Bar's proposal provides temporary repayable mortgage assistance to borrowers who on the one hand have good credit and employment histories, but on the other hand suffer temporary income loss rooted in the ongoing slump. Unlike under HAMP and HARP, no change to the mortgage obligation is necessary under the City Bar's proposal. A borrower makes monthly payments, under terms of the current mortgage, to the state's program administrator in an amount equal to 40% of household income. The difference between that amount and the monthly payment due to the lender is paid directly by the program administrator, and eventually repaid with interest to the bridge loan assistance fund once the beneficiary is reemployed. These supplemental payments are capped at 24 months (36 months in times of "high" unemployment) and stop once the borrower is reemployed. Lender and borrower alike benefit.
In our system of government, states play a vital role as laboratories for new ideas that improve the lives of their citizens. Thanks to well honed eligibility criteria, Pennsylvania's program has enjoyed a repayment record resulting in approximately 80% of loan recipients retaining ownership in their homes. Other states have accordingly begun following Pennsylvania's lead, with New York now poised to become one of them.
Because the City Bar's proposal is tailored to helping only those financially troubled homeowners who are most likely to avoid foreclosure if temporarily assisted, it is not a comprehensive solution to the mortgage crisis. But for those qualified homeowners who are able to stay in their homes, continue participating in their local houses of worship and sending their kids to the schools that they have become part of, these types of programs can provide a secure bridge from what was normal to what will be normal again. We very much hope that New York will pursue this initiative.
Michael V. Campbell is Counsel at the Federal Reserve Bank of New York and Chair of the Committee on Banking Law at the New York City Bar Association. Robert C. Hockett is Professor of Law at the Cornell Law School, a visiting scholar at the Federal Reserve Bank of New York and a member of the City Bar's Committee on Banking Law. The views expressed are those of the writers.