Many Americans believe that the financial crisis stems from the Bush administration’s running up the federal debt and out-of-control spending by the American consumer. But much of the blame for the country’s current economic woes lies with the Obama administration’s failure to forcefully tackle the biggest threat to the American economy today: the housing crisis.
Nearly 6 million Americans have already lost their homes to foreclosure since the housing bubble popped, and about 3.5 million are in foreclosure proceedings. But the worst is yet to come. This past September, a US Senate Banking subcommittee heard testimony from a prominent mortgage industry analyst that 10.4 million mortgages, approximately one of every five outstanding mortgages in the country, could default, if Congress does not take action to address the housing crisis.
Over the past several months, editorial pages and economists such as Paul Krugman and Carmen Reinhart have stressed that restructuring US household debt would be one of the most effective means of speeding economic growth and putting Americans back to work. According to a recent report by The New Bottom Line, a coalition of labor groups and grassroots networks, if all underwater mortgages were written down to market value and refinanced into thirty-year fixed mortgages, it would add about $71 billion a year to the economy and create 1 million jobs.
But despite the outcry, Washington currently does not have a viable plan to deal with the plight of the more than 14 million Americans who are currently underwater on their mortgages by more than $700 billion. With the mortgage meltdown showing no signs of abating, it is the time to set the record straight on the best plan we have had for reviving the housing market: the 2009 bankruptcy reform bill known as the cram-down bill. That controversial piece of legislation would have given bankruptcy judges the authority to write down mortgages on a primary residence to the current fair-market price of the property. In addition, cram-downs would have enabled bankruptcy judges to monitor and stop some of the widespread robo-signing abuses—where banks have been using fraudulent documents to foreclose on homeowners.
Proponents of the bill believe many if not most of the homeowners who would have benefited from it would not have even needed to file for bankruptcy. Indeed the cram-down provision would have provided homeowners and their advocates with a critical bargaining chip to negotiate sustainable loan modifications from the banks.
When Senator Barack Obama was running for president he told voters that he would support legislation to allow homeowners to get relief in bankruptcy court. The legislation would have repealed a bankruptcy provision that prohibits modifications of mortgages on a primary residence. “I will change our bankruptcy laws to make it easier for families to stay in their homes,” he told voters at a campaign rally in September 2008, describing the bankruptcy exemption for mortgages as “the kind of out-of-touch Washington loophole that makes no sense.”
Today cram-downs make even more sense than they did in 2009. The various bank proprietary loan modification programs and the government-sponsored loan modification programs are widely acknowledged to be failures for not helping enough homeowners and also for having high re-default rates. But one of the biggest unmitigated disasters about these programs is that homeowners who have succeeded in obtaining loan modifications actually have become mired in more debt. That is because instead of reducing homeowners overall debt, these loan modification programs have focused on lowering monthly payments on a homeowner’s primary mortgage by reducing interest rates and extending the term of the loan. In 2010, nearly 95 percent of active, permanent loan modifications resulted in homeowners’ actually owing more debt on their homes than before the modification according to a Congressional Oversight Panel report.