Monthly Archives: June 2016

“Why crisis era mortgage defect rates cited by the government (and others) are false, a massive Red Herring. Part 1: The General Logic Behind My Argument…

…I argue that the crisis-era mortgage defect rates aren’t based on any work they performed post-crisis. It’s based solely on initial quality control reports, which are not accurate, fact-based documents, but instead inadmissible Hearsay.” Mike Perry, former Chairman and CEO, IndyMac Bank, June 9, 2016

The Logic of My Argument:

I didn’t know this, before being sued civilly by roughly a dozen private plaintiffs and the S.E.C and FDIC for over $1 billion, but private plaintiffs’ lawyers lie all the time, within their civil litigation. Government bureaucrats and politicians, outside of civil litigation, lie all the time and pursue their own self-interest (as we all know), but importantly they also can defame American citizens and institutions, because they are protected from defamations suits by Sovereign Immunity. Various government bureaucracies (like the FDIC) have also started to use private plaintiffs lawyers in various civil matters against American citizens and institutions. In other words, in some civil litigation, the government is adopting the despicable and unethical practices of much of the private plaintiffs bar. The bottom line is I believe most of the crisis era civil litigation by the federal government has been a lie, designed to cement (in the minds of the media and public) the false liberal narrative that it was “greedy and reckless” bankers and poor regulation (and not the government itself) that caused the crisis. I have cited numerous examples that document my position on this blog. In the next few postings, I will prove that one of the governments key contentions, that pre-crisis era mortgage loans had excessively high mortgage defect rates is bogus, a Red Herring. Here I explain, in bullet-point format, my logic in more detail:

  1. Private plaintiffs’ lawyers are allowed to lie “within the four corners of a lawsuit” and do all the time, filing frivolous claims against businesses and their officers and directors.
  2. For example, in IndyMac Bancorp’s first private securities class action filed in 2007, when our stock declined significantly as the crisis began, a private plaintiffs law firm literally took a securities lawsuit against another mortgage company and changed the title to IndyMac, Michael Perry, etc. and filed it. They didn’t have any knowledge of wrongdoing or facts, how could they? They didn’t even bother to change the name, facts, or words from another lawsuit, within the body of their IndyMac suit. The federal judge in the matter allowed them to amend this lawsuit around a half-dozen times, including changing “the truth has been revealed-date” at least twice. They also had two very small, elderly shareholders (not a single major IndyMac shareholder joined the suit), in violation of the PSRLA standards. No real work was ever done on their part to determine any material facts or allegations. In other words, the stock had declined, therefore they were going to manufacture a bogus securities lawsuit. (There was a second bogus one filed against me and IndyMac from the date the first one ended until IndyMac was seized on July 11th….again totally bogus, with no work done on their part to ascertain any facts or real allegations.) Both were settled for a few million dollar of D&O insurance. These private plaintiffs securities lawsuits were a sham.
  3. As I said above, I didn’t know it and I am sure you didn’t either, but government officials and politicians are allowed to defame American citizens and institutions, with impunity, and are protected by sovereign immunity from defamation lawsuits. What I saw happen in crisis era settlements with the government, is that the legal settlement document says one thing and the government officials then issue a press release “bad mouthing” the individual(s) or institution. Don’t believe me? Just look at the recent Wells Fargo/DOJ/FHA settlement. Nowhere in the legal settlement document does it say that Wells Fargo is a terrible mortgage underwriter and yet in the government’s press release on the settlement, that is exactly what government officials called Wells Fargo. Why is there such a big factual difference between the legal settlement agreement and the government’s press release? Wells Fargo can’t sue these government officials for defamation, because they are protected by Sovereign Immunity!
  4. The government was under enormous populist pressure to jail, destroy the careers of, sue, and/or fine bankers/mortgage lenders, as a result of the crisis, because the liberal/populist view was that “greedy and reckless” bankers were the primary cause of the crisis….when in fact (as I have documented extensively on this blog), it was well-intended government distortions of free markets (housing policies, government mortgage guarantees, The Fed, etc.) that was the primary cause.
  5. The S.E.C. investigated extensively and sued me civilly in early 2011. For alleged misleading and omitted securities disclosures in a 90-day period between February and May 2008. I won everything that went to court, nothing was proven because I did nothing wrong. You can read all about it on this blog. Importantly, there was not a single allegation involved mortgage lending, mortgage securitization, and certainly not mortgage defects. And yet, the last time I looked a blatantly false and defamatory press release that the S.E.C. issued when they initially sued me, was still publicly available on their website. Why? To cement the false liberal narrative about the crisis and Sovereign Immunity! (Otherwise, I would have sued them for defamation.)
  6. The FDIC, utilizing private plaintiffs’ counsel in L.A. (the same or similar to the type of counsel that files bogus private securities lawsuits I discussed above) sued me civilly for $600 million, in mid-2011, alleging I was a negligent banker, because I should have known the crisis was coming in early 2007 and caused IndyMac to fund roughly $10 billion less in mortgage loans that year. Where did they get the $10 billion and $600 million figures? Not from any work they did. It came from our 2007, third or maybe fourth quarter 10-Q. We publicly disclosed at that time, that when the private MBS market collapsed in August 2007, we like every major mortgage lender, got stuck with loans ($10 billion) that could no longer be sold/securitized into the secondary market and so and had prudently taken a reserve/mark-to-market on them of $600 million. Let’s say it again, the private lawyers the FDIC hired did NO WORK to determine their bogus claim against me.
  7. Despite the above, and IndyMac Bank failing in July 2008 and being at the center of the mortgage crisis, not a single allegation by anyone was ever proven against me, because they were not true.
  8. President Obama’s Financial Crisis Commission Inquiry Commission was chaired and controlled by Democratic politician Phil Angelides. The Commission was made up of six Democrats and four Republicans. Not a single Republican on the Commission agreed with the majority Democrats view that the primary cause of the financial, mortgage, and housing crisis was “greedy and reckless” bankers and poor government regulation. In other words, it was a not a fact-based report were the truth was sought, but a partisan political report designed to help cement the false liberal narrative that “greedy and reckless” bankers were the primary cause. (Two of the four Republican commissioners have complained in their extensive writings about this, including one who has authored a book on the true, root-causes of the financial crisis.)
  9. Phil Angelides, a very active and senior Democratic politician, has continued (and recently) to cite high crisis era mortgage defect rates as a primary cause of the crisis and complain that there was not the appropriate accountability/prosecution of crisis era bankers, as a result.
  10. I recently corresponded with one of the Republican commission members and he is fairly confident that the commission did NO WORK (their own, contracted, statistically-valid audits) on crisis era mortgage loan pools/securities to determine Mr. Angelides’ mortgage defect claims. He can’t be fully certain he said, because the Republican commissioners were kept in the dark on many matters, but he is highly confident.
  11. So, the high crisis era mortgage defect claims rates, appear to come from the following historical sources: 1) internal quality control reports from banks and mortgage lenders, 2) quality control reports performed by private third party firms, for mortgage securities underwriters, and 3) quality control audits of mortgages by FHA, VA, Fannie Mae, and Freddie Mac. The important point to understand is these documents, which have been relied upon by the government and others, to make bogus/Red Herring claims of high mortgage defects, are really just inadmissible “Hearsay” evidence. How so? I am not going to get into all the reasons why here (look up the legal definition), but I am going to focus on two issues: 1) These quality control reports were never determined to be factual evidence in any court of law, as far as I am aware. You might ask yourself why the government didn’t want that to happen? 2) In submitting evidence in court, the opposing side is allowed to present arguments and/or evidence to rebut the claims. Think of these initial findings like an IRS audit and its initial findings, you and your advisors/counsel get a chance to explain and/or provide additional documentation, and even appeal the matter to a court of law. As far as I am aware, that has never happened. Again, ask yourself why the government didn’t want that to happen? Ask yourself why the government would use Hearsay documents, never authenticated as true and factual evidence by any court, as their sole claim of high mortgage defect rates?
  12. I contend that the Democrats have used this mortgage defect Red Herring and their nearly 100% control over the Big Banks (as a result of the crisis and because they guarantee their deposits, and most mortgages and student loans), to coerce them into settling various civil matters for billions that cement the false liberal narrative that “greedy and reckless” bankers took advantage of “hapless” mortgage borrowers.
  13. Don’t believe me? Then why didn’t the government, if these allegations were true, bar or suspend these Big Banks or establish special monitoring programs for them, as it relates to government mortgage programs? Why didn’t these Big Banks express public contrition and/or lay out exactly what mortgage underwriting reforms they planned to make? Why weren’t their CEO’s forced to resign, if they really were terrible mortgage underwriters and had defrauded government mortgage programs? Why didn’t their stocks decline, when some, like Wells Fargo, were lambasted in press releases by the government? The week that Wells Fargo was described by the government as a terrible mortgage underwriter, who intentionally withheld reporting FHA mortgage defects to the government, and thereby defrauded the government; the week that occurred, the government approved (a rare type of approval) them as a special U.S. Treasury Securities dealer! I will tell you why. I believe the management, boards, and shareholders of these Big Banks believe these settlements are bogus; a fraud designed to cement the false liberal narrative about the crisis. The government must believe the same, otherwise why would they allow management to stay and these firms to continue to do business with the government, and with no apparent special monitoring or change in business practices?
  14. Don’t believe me? Why did nearly all of these Big Banks stop doing business with FHA, after these settlements? I’ll tell you what I think. These Big Banks believe they were falsely accused by the government, in regards to their FHA lending/mortgage underwriting, and coerced into these settlements, and they are pissed and are diversified enough and have large enough balance sheets, that they don’t need the FHA program and it’s False Claims under The False Claims Act. And they are sending a very public message to anyone who is listening, that government is not telling the truth and has been unfair to them.
  15. Don’t believe me? You don’t have to. I am going to prove (in my next two blog postings), by using publicly available information from FHA the following: 1) FHA’s initial mortgage defect rates(in its quality control reviews) are about the same today, as they were during the crisis era. In other words, nothing’s really changed in regard to FHA mortgage underwriting defects, and 2) When FHA allows the adversary process (that occurs in say a tax audit or in a court of law) to occur, these initial mortgage defect rates (the ones cited by the government and others) decline by 80% to 90%…to a level around 4% to 5% or so!!!! By the way, this is roughly the same defect rate (4.8% in 2015) that the federal government has on all of its federal program payments, according to the GAO. In fact, Medicare, Medicaid, and the Earned-Income Tax credit all have significantly higher payment defect/error/fraud rates.

“The government and others have claimed that high pre-crisis mortgage defect rates, were a major problem. I believe this is a bogus, Red Herring Claim and will prove it. As I have said before, most major human endeavors have some waste, error, and even fraud. Here is our government’s: $136.7 billion in improper payments by Federal Agencies in 2015 (a 4.8% error rate),…

…according to our government’s own The Government Accountability Office. Here is an excerpt from the article below: “Beryl Davis, the GAO Director of Financial Management and Assurance,  highlighted that more than three-quarters of improper payments come from Medicare, Medicaid, and the Earned Income Tax Credit….Of 16 “high risk” programs listed on the Payment Accuracy website, five—traditional Medicare, unemployment insurance, EITC, and the national school lunch and breakfast programs—have improper payment rates over 10 percent. The EITC had the highest rate of improper payments, with 23.8 percent of all dollars improperly paid out.””, Mike Perry, former Chairman and CEO, IndyMac Bank

June 6, 2016, Dustin Siggins, The Washington Free Beacon

Federal Agencies Reported Over $136 Billion in Improper Payments in 2015

Total improper payments likely higher

BY: Dustin Siggins
June 6, 2016 5:00 am

The Government Accountability Office reported that $136.7 billion dollars were spent by federal agencies on “improper payments” during fiscal 2015, but the actual total was likely higher.

Agencies are required to report their improper payments if they spend more than $750 million in taxpayer money or have an error rate of 1.5 percent or higher. Improper payments occur when funds go to the wrong recipient, when a recipient receives too little or too much money, when payment documentation is not available, or when “the recipient uses federal funds in an improper manner,” according to the Obama administration’s Payment Accuracywebsite.

The federal government has assessed improper payments since 2013. While the Obama administration has praised itself for lowering the rate of improper payments since 2009, the actual rate is unknown.

U.S. Comptroller General Gene Dodaro said in testimony to Congress earlier this year that “the estimated improper payments for fiscal year 2015 were attributable to 121 programs spread among 22 agencies.”  The improper payments for fiscal 2015 were $12 billion higher than the previous year, according to the report.

Using GAO’s estimate of $136.7 billion in improper payments at a 4.8 percent error rate, approximately $2.85 trillion in federal spending was reported. But the federal budget in fiscal 2015 was $3.69 trillion—nearly one-third more than the $2.85 trillion reported for analysis.

Veronique de Rugy, a senior research fellow at the Mercatus Center, praised the GAO for being transparent about the limitations of its analysis but criticized the incomplete nature of the federal government’s auditing and accountability for its spending.

The GAO “only looks at improper payments as defined by” the 2002 law and subsequent 2010 and 2012 laws, de Rugy said. She pointed to the “expansion of eligibility” for food stamps as an example of how low standards for eligibility mean money is being wasted, while not being counted as improper payments.

The current definition of improper payments “doesn’t tell you anything about the legitimacy of the part that’s not improperly paid. It’s so incredibly ridiculous,” said de Rugy, who last month charted out the programs with the greatest losses of taxpayer money.

“It tells you a lot about why Medicare is in a position to act about it has actually very low administrative costs,” de Rugy said. “It’s easy to have low administrative costs when you don’t try to prevent improper payments, waste, fraud, and abuse.”

Medicare and Medicaid lose approximately $98 billion annually to fraud, according to one 2011 estimate, and de Rugy cited in her analysis an expert who has estimated fully one-fifth of Medicare’s dollars could be lost to inefficiency.

A July 2015 analysis by the Kaiser Family Foundation projected that Medicare’s spending totalled $527 billion in 2015 and $560 billion in 2016.

Beryl Davis, the GAO Director of Financial Management and Assurance,  highlighted that more than three-quarters of improper payments come from Medicare, Medicaid, and the Earned Income Tax Credit.

The $12 billion increase in improper payments from 2014 to 2015 was mostly attributable to Medicaid, Davis told theFree Beacon.

Of 16 “high risk” programs listed on the Payment Accuracy website, five—traditional Medicare, unemployment insurance, EITC, and the national school lunch and breakfast programs—have improper payment rates over 10 percent. The EITC had the highest rate of improper payments, with 23.8 percent of all dollars improperly paid out.

De Rugy said the official definition of improper payments only scratches the surface.

“Just because a program has a low reported rate doesn’t mean that taxpayers should be pleased,” she wrote in her May analysis. “Programs that have seen expanded eligibility over the years (e.g., Social Security disability and food stamps) might have relatively low improper payment rates, but they are also distributing money to people under questionable—and in some cases, objectionable—circumstances.”

Another area of concern is Pentagon spending, which totaled $586 billion between official defense spending, overseas contingency operations, and portions of other agencies’ budgets that are defense-related.

Justin Johnson, the senior analyst for budgeting policy at the Heritage Foundation, said “the Pentagon needs to get to a point where they are fully auditable. It is troubling that they aren’t.”

“The Marines thought they’d gotten there, but it got rolled back, essentially,” Johnson said. “There have been a variety of historical reasons and challenges that are legitimate that make it hard for getting there, but it’s still vitally important. DoD absolutely should be auditable, and that will certainly allow for better tracking and oversight of how DoD spends money.”

“The little bit of a caution that I would put on that is the fact that they’re not fully auditable does not mean there are billions of dollars floating around the Pentagon budget,” Johnson said.

Johnson and other defense experts told The Stream earlier this year that the Pentagon could be losing tens of billions of dollars to inefficiencies like fraud, duplication, and improper payments. The GAO considers portions of the Defense Department budget to be at “high risk” for mismanagement.

Davis told the Free Beacon that her agency intends to publish a report about the improper payment reporting compliance of the 24 agencies subject to the Chief Financial Officers Act, a law that created standards for financial reporting. The report will be based on payments reported in fiscal 2014.

In December 2014, the last time this report was published, GAO found that many inspectors general who were supposed to publish reports about improper payments in 2013 failed to follow the six parts of the 2010 improper payments law. Some inspectors general simply did not write reports on things like accountability, estimates of improper payments, and targets for reducing improper payments. Others wrote incomplete reports.

Congress, which passed improper payments reporting laws in 2002, 2010, and 2012, has failed to act to reduce improper payments despite more than 12 years of reports. One effort to make the federal budget more transparent is being held up by Senate Minority Leader Harry Reid (D., Nev.).

The Taxpayers Right to Know Act, sponsored by Sen. James Lankford (R., Okla.) passed the House and a Senate committee with bipartisan support, but Reid has stalled its passage for what Lankford inferred earlier this year are reasons of political gamesmanship.

 

“Mike: I was present with you the entire time in 2006 and 2007 through July 11th (2008) and with Indymac until July 18th when I resigned from Indymac Bank because I believed the US government had made a mistake by allowing Indymac to fail (due to unrealized paper losses and a bank run triggered by a senior US senator) and because I felt the FDIC’s actions and announcements when putting Indymac into conservatorship maximized the loss on Indymac instead of minimizing it which I understood to be their responsibility…

…When the FDIC walked you out and announced their decision to sell Indymac into the most panic driven market we had seen in many decades, I knew they had lost any opportunity to avoid losses on Indymac. I believe if the FDIC had taken you up on your offer which you made to the OTS before the bank run on IMB (which I remember you making this offer!) – to work for ‘free’ at IMB for as long as necessary to minimize any losses on Indymac…that we would be in a position today where the losses on Indymac would have been ZERO…we would have been back to a profit in aggregate. I have felt your pain all along because I know and saw the truth….and I know how painful it was for you to settle the FDIC’s fake and politically driven lawsuit….being forced to accept the banking ban so you could sleep at night knowing your family was safe….but at the actual expense of your career in finance and banking. So I have known the real facts all along. And now I am happy that you can share the OTS report which speaks loud and clear to the facts at hand on how Indymac was managed and perceived by our primary regulator. In fact, I remember just before the crisis how happy we were to be rated a CAMELS 2. Our regulators thought our risk management was getting better…not worse as the crisis started. So my question is – in light of the below….how can you leverage this to finally win back your moral victory and reputation and maybe even get back into the business world in a more significant way if that is still of interest of you as I hope. And how can I help? I would like nothing better than for the world the know the truth and for my friend Mike to have peace of mind and any career he would like. I think you should write a book.”, E-mail received from former IndyMac Senior Manager in response to mine below, April 21, 2016

Mid-April 2016 E-mail from Mike Perry to various Interested Parties:

I am not sure you are aware, but there were two civil lawsuits filed by the FDIC related to our seizure on July 11, 2008.

One negligence suit against me and one against three of my managers for their allegedly negligent actions in approving a dozen or so homebuilder construction loans.

The sole reason for two suits was the FDIC and their outside counsel wanted to make financial claims under two separate D&O insurance policies of about $80 million each (they were different years’ coverage).

I could tell you a lot of details, but both suits were completely bogus. They sued us for ordinary negligence, because the lower federal courts said California law did not provide officers with Business Judgment Rule protections (My judge agreed there was some dispute about this in California, certified his ruling and allowed me to see if the 9thCircuit would decide this issue. The 9th Circuit said, “we won’t hear it now. will decide it after trial.”)

The homebuilder case was related to 2006 and my case was related to 2007, so they went first and went to trial and unbelievably lost before an L.A. jury near the end of 2012. The three of them got a judgment against them of some unbelievable amount….I can’t remember exactly, but like $160/$170 million……guess how much they personally paid? I don’t know for sure, but combined I heard (from more than one source) like $200,000 or so, total. Why? For three reasons: 1) The FDIC doesn’t want to test the California Business Judgment Rule with higher appeals courts. 2) The case and mine were 100% bogus. 3) And these three guys, I am guessing they didn’t have significant net worth’s.

After they lost, then the FDIC had their big phony victory and wanted to settle with me (the FDIC used emails/memos I had written to those guys against them, basically saying…”the prudent ceo warned you. why didn’t you listen to him?” That would have hurt them in my case.)….happy to discuss…..they sued me for $600 million. They wanted a headline $1 million settlement….it was not a penalty or fine, it was a settlement were I formally denied all of their bogus allegations. They refused to settle this bogus case though, unless I agreed to be banned for life as a banker. My attorneys said to the FDIC, “settle the civil suit for $600 million and sue Mike to seek an enforcement order banning him.” They said, “no” we won’t settle then. What would you do if you had to protect your family?

Late last year, I filed a FOIA request to the OCC to get a 12-page summary/presentation of IndyMac Bank’s March 21, 2007 CAMELS (Safety and Soundness Report) publicly released, so that the truth about IndyMac’s management and our bank regulators views could be known (the Treasury OIG report issued on IndyMac Banks failure was materially false and biased….I said so at the time, but couldn’t get the CAMELS reports out to the public…as you know, they are required to be kept strictly confidential), they denied my FOIA request and I appealed, and they denied my appeal on December 16, 2015 and said, “sue us”.

On December 17, 2015, I emailed a senior manager in the FDIC/homebuilder suit, asking him if they had filed the 12-page 2007 CAMELS summary in their 2012 FDIC court case? He didn’t respond to me until last Thursday. He apologized for the delay and said he had talked to his attorneys and they responded with the case number and document number where it might be found.

I didn’t find the 12-page summary/presentation, but I found the full 2007 CAMELS Report!!!! It’s attached above (and also the 12-page presentation, because its really just a subset now)….they have been in the public domain on the court’s public website for years (you just have to register and you have online access to all the court documents in the case), but neither the OCC nor I knew this!!!!!

The reason I believe that this 2007 Safety and Soundness examination is so important is that the examination completion date was March 21, 2007. It is the last examination just before the financial crisis and reflects the views of our primary banking regulator. Unbelievably, just a few days after this report was issued, the FDIC’s bogus negligence suit against me claims I was a negligent bank ceo during a period from April to October of 2007. They basically said I should have known the crisis was coming and reduced our loan volume by about $10 billion more than I already had. (This $10 billion figure just came from our public filings, not any work they did….later in 2007, we like many financial institutions put $10 billion into our held for investment portfolio and took a $600 million reserve against it, because the secondary markets for private MBS had collapsed by then. At December 31, 2007, despite all of this, we were still well capitalized, because I had prudently raised about $700 million in capital in 2007, which covered all our massive and surprising losses in the second half of 2007 and still kept us well capitalized. A point they overlooked in suing me.)

Best, mike

P.S. My wife said it’s a little like that scene in Spotlight, where the investigative reporter, hustles down to the courthouse to get the records before the church’s attorneys could get them sealed.

“…But perhaps more ominously than making us either less prosperous or less stable, Dodd-Frank has also made us less free. Dodd-Frank moves us away from the equal protection offered by the impartial rule of law towards the unequal and victimizing rule of political bureaucrats…

…It represents a breathtaking, unconstitutional outsourcing of legislative powers to the executive branch, with the Orwellian-named Consumer Financial Protection Bureau (CFPB) and the Financial Stability Oversight Council (FSOC) the two prime beneficiaries. . . .I fear Dodd-Frank’s ultimate purpose is to eventually render effective control of our capital markets to the state; to turn large money-center banks into functional utilities, so that the state can allocate credit within our economy to politically favored classes. In other words, to take over the commanding heights of our economy. This must not be allowed to stand.”, “Notable & Quotable: Hensarling on Dodd-Frank”, The Wall Street Journal, June 8, 2016

“The response by Sen. Warren and other liberal Democrats is that this is “a gift to big banks/Wall Street”. But I predict they don’t support Rep. Jeb Hensarling’s proposal. Why? Big institutions love big regulation, because they act as a barrier to entry, to prevent newer and smaller competitors from being successful. Name one big bank that has been started in the last ten years? You can’t. There are none. Massive regulation prevents competition. Hensarling is right when he says: “When they voted for it, supporters of Dodd-Frank told us it would “promote financial stability,” “end too big to fail,” and “lift the economy.” None of this has come to pass.Today the big banks are bigger and the small banks are fewer. In other words, even more banking assets are now concentrated in the so-called “Too Big to Fail” firms. Pray tell, how does this promote financial stability?” Thank you Congressman for telling the truth and leading this courageous and righteous fight.”, Mike Perry, former Chairman and CEO, IndyMac Bank

Opinion

Notable & Quotable: Hensarling on Dodd-Frank

‘I fear Dodd-Frank’s ultimate purpose is to eventually render effective control of our capital markets to the state.’

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Rep. Jeb Hensarling at the Economic Club of New York, June 7. PHOTO: BLOOMBERG NEWS

From remarks as prepared for delivery by Rep. Jeb Hensarling (R., Texas) at the Economic Club of New York on June 7 outlining a Republican plan to replace the Dodd-Frank law:

When they voted for it, supporters of Dodd-Frank told us it would “promote financial stability,” “end too big to fail,” and “lift the economy.” None of this has come to pass.

Today the big banks are bigger and the small banks are fewer. In other words, even more banking assets are now concentrated in the so-called “Too Big to Fail” firms. Pray tell, how does this promote financial stability?

Dodd-Frank codified into law Too Big to Fail and taxpayer-funded bailouts. This is bad policy and worse economics. It erodes market discipline and risks even further bailouts. It becomes a self-fulfilling prophecy, helping make firms bigger and riskier than they otherwise would be. . . .

Additionally, Dodd-Frank’s Volcker Rule and provisions of Basel have led to dramatic bond market illiquidity and volatility. Many believe this could well be the source of the next financial panic. When it comes to systemic risk, regulatory micromanagement is no substitute for market discipline.

Next, instead of lifting our economy as Dodd-Frank’s supporters claimed it would, it has made us less prosperous. Bank small business lending has dropped since Dodd-Frank was passed—stifling entrepreneurship and causing economic growth to suffer. . . .

But perhaps more ominously than making us either less prosperous or less stable, Dodd-Frank has also made us less free. Dodd-Frank moves us away from the equal protection offered by the impartial rule of law towards the unequal and victimizing rule of political bureaucrats.

It represents a breathtaking, unconstitutional outsourcing of legislative powers to the executive branch, with the Orwellian-named Consumer Financial Protection Bureau (CFPB) and the Financial Stability Oversight Council (FSOC) the two prime beneficiaries. . . .

I fear Dodd-Frank’s ultimate purpose is to eventually render effective control of our capital markets to the state; to turn large money-center banks into functional utilities, so that the state can allocate credit within our economy to politically favored classes. In other words, to take over the commanding heights of our economy.

This must not be allowed to stand.

“The 49-year-old mother of two became a face of housing-crisis misdeeds when the Justice Department pursued civil-fraud charges against her for her work at Countrywide. A jury in 2013 found her liable, and a federal judge ordered her to personally pay $1 million, making her one of the few financial executives to be held to account for the housing bust. Until last month: A federal appeals court threw out the verdict against Ms. Mairone,…

…who is now divorced and goes by her maiden name, Steele. The court ruled the government hadn’t proved her actions met the legal definition of fraud. For Ms. Steele, it was exoneration…Indeed, to Ms. Steele, her experience is inexplicable. She said she had no idea why the government chose her as the lone executive to prosecute in the case. “That is something I think about a lot,” said Ms. Steele. “Why me?”…Before she was sued, Ms. Steele’s attorney, Marc Mukasey—a former federal prosecutor and son of former attorney general Michael Mukasey—told Manhattan U.S. Attorney Preet Bharara that neither Ms. Steele nor Bank of America had done anything wrong. Mr. Bharara listened. But weeks later he added Ms. Steele as a defendant to the lawsuit, describing her as the architect. “Don’t worry, Marc,” Mr. Bharara told Mr. Mukasey at their meeting, according to Mr. Mukasey. “It’s just a civil case.” A spokesman for Mr. Bharara declined to comment. Civil or not, the case upended Ms. Steele’s life. Her daughter was asked if the woman in the news was her mom. Friends stopped returning her calls. “I go from running a million miles an hour, executing, managing large groups of people, to I’m all by myself, and that was pretty scary,” Ms. Steele said. On the eve of her trial, the U.S. attorney’s office made an offer to settle if she would admit to wrongdoing, she said. She refused…. After the ruling, Ms. Steele’s friends sent her wine, flowers and cookies. She left J.P. Morgan after the trial, and now runs a consulting business from her home outside Philadelphia. Of her time at Countrywide, she says, “I wouldn’t have done anything differently.””, Christina Rexrode and Aruna Viswanatha, “Villain or Victim? The Problem With Assigning Blame for the Financial Crisis”, The Wall Street Journal, June 8, 2016

“Ms. Steele is of course a victim of the government’s McCarthyism-style blame game involving crisis era bankers/mortgage lenders. The Federal Appeals Court ruling proves she is a victim and Mr. Bharara, The Justice Department, and our government should be held to account and financially compensate her, for inappropriately destroying her reputation and substantially damaging her ability to make a living for herself and her family. Our government officials breached her inalienable rights to Life, Liberty, and The Pursuit of Happiness. How do I know this to be true? As a crisis-era banker, I experienced something similar from the S.E.C. and FDIC (no allegations were ever proved and everything that went to court I won), when I did nothing wrong. To this day, I know that no banker could have done more than I.” Mike Perry, former Chairman and CEO, IndyMac Bank

Markets

Villain or Victim? The Problem With Assigning Blame for the Financial Crisis

Former Countrywide executive Rebecca Mairone’s fall and rise highlights the struggle to prosecute individuals over the housing bubble

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Rebecca Mairone, now Rebecca Steele, at her lawyer’s office in New York last month. Why the government chose her as the lone executive to prosecute in the Countrywide mortgage case, she says, “is something I think about a lot. Why me?” PHOTO: SASHA MASLOV FOR THE WALL STREET JOURNAL

By Christina Rexrode and Aruna Viswanatha

Rebecca Mairone was either a villain or victim of the financial crisis. The legal battle to determine the answer shows how hard it still is to definitively say who was responsible for the housing bubble.

The 49-year-old mother of two became a face of housing-crisis misdeeds when the Justice Department pursued civil-fraud charges against her for her work at Countrywide Financial Corp. A jury in 2013 found her liable, and a federal judge ordered her to personally pay $1 million, making her one of the few financial executives to be held to account for the housing bust.

Until last month: A federal appeals court threw out the verdict against Ms. Mairone, who is now divorced and goes by her maiden name, Steele. The court ruled the government hadn’t proved her actions met the legal definition of fraud.

For Ms. Steele, it was exoneration. In her first interview since the 2012 case was filed, Ms. Steele emphasized she had done nothing wrong and denied any mistakes in a controversial mortgage-approval program she helped create at Countrywide, called “Hustle.” When she heard about the appellate ruling, she said, she texted her daughter at high school, who replied, “Are you sure?’”

“It was such a long time coming,” Ms. Steele said.

For the government, which has gone after few executives related to crisis-era acts, it was a stunning setback.

For Edward O’Donnell, a former colleague of Ms. Steele who filed two whistleblower lawsuits alleging fraud at Countrywide, one of which led to the action against her, the appeals court decision didn’t change anything. He kept the nearly $58 million he collected in the other case.

The contrasting results show the muddy and often maddening outcomes of authorities’ efforts to prosecute individuals for the housing bubble. Lawyers add it highlights that doling out blame—and credit to those who blew the whistle—is rarely as simple as the public would hope.

“That’s the law for you,” said Samuel Buell, a former prosecutor who is now a professor at Duke University’s law school. “It doesn’t always come out cleanly.”

Indeed, to Ms. Steele, her experience is inexplicable. She said she had no idea why the government chose her as the lone executive to prosecute in the case. “That is something I think about a lot,” said Ms. Steele. “Why me?”

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Rebecca Steele PHOTO: SASHA MASLOV FOR THE WALL STREET JOURNAL

In the late 1990s, Ms. Steele was working for a cubicle manufacturer. The company wanted her to move to London, but she didn’t want to move her family. Although she was a chemical engineer by training, she started working in mortgage operations.

In 2006, Countrywide recruited her to work on upgrading technology systems and acquiring new customers. She became chief operating officer of a division that later housed Hustle.

Ms. Steele’s saga began in 2012 when the U.S. attorney’s office in Manhattan joined Mr. O’Donnell’s lawsuit against Bank of America Corp., which acquired Countrywide in 2008. At the time, she was named in the complaint but wasn’t being sued. She had moved to J.P. Morgan Chase & Co., where she ran the bank’s review of foreclosures.

Ms. Steele said she didn’t remember Hustle at first. “I had about 20 other projects going on, including laying off 5,000 people in that time.”

The Hustle program eliminated some quality checks on mortgages, with the goal of making loans more quickly.

‘I go from running a million miles an hour, executing, managing large groups of people, to I’m all by myself, and that was pretty scary.’

—Rebecca Steele, on being named a defendant in the lawsuit over Countrywide mortgages

At trial, the government portrayed it as a means of pushing through shoddy mortgages, and Ms. Steele as quashing objections to it. Ms. Steele said the program was meant to eliminate unnecessary red tape and transition the unit into higher-quality mortgages.

Before she was sued, Ms. Steele’s attorney, Marc Mukasey—a former federal prosecutor and son of former attorney general Michael Mukasey—told Manhattan U.S. Attorney Preet Bharara that neither Ms. Steele nor Bank of America had done anything wrong.

Mr. Bharara listened. But weeks later he added Ms. Steele as a defendant to the lawsuit, describing her as the architect. “Don’t worry, Marc,” Mr. Bharara told Mr. Mukasey at their meeting, according to Mr. Mukasey. “It’s just a civil case.”

A spokesman for Mr. Bharara declined to comment.

Civil or not, the case upended Ms. Steele’s life. Her daughter was asked if the woman in the news was her mom. Friends stopped returning her calls. “I go from running a million miles an hour, executing, managing large groups of people, to I’m all by myself, and that was pretty scary,” Ms. Steele said.

On the eve of her trial, the U.S. attorney’s office made an offer to settle if she would admit to wrongdoing, she said. She refused.

At trial, Mr. O’Donnell acknowledged Ms. Steele, his boss, had passed him over for a promotion. Her lawyers presented an email from another employee warning her Mr. O’Donnell was after her job.

The jury sided with the government’s portrayal. And U.S. District Judge Jed S. Rakoff, who presided over the trial, later described Hustle as a “vehicle for a brazen fraud” and Ms. Steele as the “relatively new employee who had to prove herself [and] most aggressively pushed forward the…fraud.”

The appeals court disagreed, and threw out the verdicts against both Bank of America and Ms. Steele. The court said actions by the bank and Ms. Steele might be considered an “intentional breach of contract” but didn’t constitute fraud.

Mr. O’Donnell, 51, bought a $2 million home in Pittsburgh after receiving the whistleblower award and opened a real-estate investment firm, according to public records.

David Wasinger, Mr. O’Donnell’s lawyer, said his client had taken a risk in becoming a whistleblower. “Ed’s livelihood, his reputation … was on the line,” Mr. Wasinger said. “Frankly, it was not that much money,” he added, considering the value of Mr. O’Donnell’s information.

After the ruling, Ms. Steele’s friends sent her wine, flowers and cookies. She left J.P. Morgan after the trial, and now runs a consulting business from her home outside Philadelphia. Of her time at Countrywide, she says, “I wouldn’t have done anything differently.”

“He could direct the Department of Justice to investigate his critics by prioritizing categories of crimes they may have committed. Political opponents could be accused of campaign finance law violations. Former government officials, like Hillary Clinton, could be accused of violating secrecy laws. Even if the charges come to nothing, the legal fees for defendants will be hefty…

…In wielding executive power in these ways, Mr. Trump would be following in the footsteps of his predecessors. President Bush cited his commander in chief powers in order to justify interrogation, surveillance and detention polices in the wake of Sept. 11. While Mr. Obama has shied away from Mr. Bush’s constitutional arguments, he has interpreted statutes aggressively, while also relying on constitutional authorities, to justify the military intervention in Libya in 2011 and his nonenforcement of immigration laws… Much depends on how far Mr. Trump is willing to push existing legal understandings. There is a netherworld of laws that presidents are supposed to comply with but courts don’t enforce.”, Eric Posner, “And if Elected: What President Trump Could or Couldn’t Do”, The New York Times, June 4, 2016

“This is why every American should want every politician (left, right and/or authoritarian) and especially their President to respect The Rule of Law, The Constitution, Separation of Powers, etc….That said, I do find it incredibly hypocritical for Posner to properly warn/complain about a potential President Trump and yet not have the same concern/complaint about liberals like President Obama.”, Mike Perry

The Opinion Pages | Campaign Stops

And if Elected: What President Trump Could or Couldn’t Do

By ERIC POSNER

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Donald J. Trump campaigning in San Jose, Calif., on Thursday. Credit Damon Winter/The New York Times

DONALD TRUMP clearly holds grudges. He has hurled insults at governors, senators, a judge who recently ruled against him and Miss Universe 2014. He has also attacked the press, arguing that as president he will “open up” libel laws so he can sue newspapers that publish “purposely negative and horrible and false articles” about him.

Mr. Trump’s critics wonder whether a man with such a violent temper can be trusted with the presidency. But his defenders, like Senator John McCain and the Senate majority leader, Mitch McConnell, assure us that the Constitution will constrain him.

“I still believe we have the institutions of government that would restrain someone who seeks to exceed their constitutional obligations,”Mr. McCain told The New York Times. “We have a Congress. We have the Supreme Court. We’re not Romania.”

Under the principle of separation of powers, the president shares power with Congress and the judiciary. The party system, the press and American political traditions may constrain him as well. But what would this mean in practice if Mr. Trump wins?

It depends on what Mr. Trump wants to do. His signature issues are immigration and trade. He could not build the Mexican wall without congressional support. But he could order immigration authorities to deport unauthorized immigrants.

And he could bar Muslims from entering the country under existing law, which authorizes him to bar classes of aliens whose entry he determines “would be detrimental to the interests of the United States.” It wouldn’t be the first time: President Ronald Reagan cited this law, as well as his inherent constitutional powers, to block a flood of Haitian migrants from pouring into United States territory in 1981.

Can he slap tariffs on China, as he has threatened? Yes, he can. Congress has delegated to the president the power to retaliate against foreign countries that engage in unfair trade practices like dumping, leaving it to the president and trade officials to determine what that means. In 2002, President George W. Bush imposed steel tariffs on China and other countries for what many observers considered political reasons.

The World Trade Organization ruled the steel tariffs illegal in that case. But Mr. Trump could simply ignore its judgment, and indeed withdraw the United States from the W.T.O., just as President Bush withdrew the United States from the Antiballistic Missile Treaty in 2002. While he’s at it, Mr. Trump could tear up the North Atlantic Treaty, which created NATO, an organization that he has called “obsolete.”

In May, Mr. Trump vowed to rescind President Obama’s environmental policies. He would be able to do that as well. He could disavow the Paris climate change agreement, just as President Bush “unsigned” a treaty creating an international criminal court in 2002. He could choke off climate regulations that are in development and probably withdraw existing climate regulations. Even if a court blocked him, he could refuse to enforce the regulations, just as Mr. Obama refused to enforce immigration laws.

In wielding executive power in these ways, Mr. Trump would be following in the footsteps of his predecessors. President Bush cited his commander in chief powers in order to justify interrogation, surveillance and detention polices in the wake of Sept. 11. While Mr. Obama has shied away from Mr. Bush’s constitutional arguments, he has interpreted statutes aggressively, while also relying on constitutional authorities, to justify the military intervention in Libya in 2011 and his nonenforcement of immigration laws.

Mr. Trump has expressed impatience with his critics and hinted that he would use federal powers against them. He wouldn’t be able to put someone in jail merely for criticizing him. But he could direct agencies to use their vast regulatory powers against the companies of executives who have displeased him, like Jeff Bezos, for example, the founder of Amazon. Mr. Trump has already hinted that he would go after Amazon for supposed antitrust violations.

He could direct the Department of Justice to investigate his critics by prioritizing categories of crimes they may have committed. Political opponents could be accused of campaign finance law violations. Former government officials, like Hillary Clinton, could be accused of violating secrecy laws. Even if the charges come to nothing, the legal fees for defendants will be hefty.

Mr. Trump could also crack down on journalists who report on national security issues by enforcing federal secrecy laws more aggressively than previous presidents. President Obama received a lot of criticism for prosecuting government employees who leaked secrets, but the Justice Department did not bring charges against the journalists who published the leaked information.

What couldn’t Mr. Trump do? He couldn’t lower (or raise) taxes on his own. He’s supposed to spend funds that Congress appropriates and for the things that Congress appropriates them for — that’s what stands in the way of the wall (unless he persuades Mexico to pay for it and construct it on the other side of the border).

He could not follow through on his promise to impose the death penalty on killers of police officers by executive order. And even where he does act, he needs to make sure his legal theories are in order. If he wanted to withdraw climate regulations because climate change is a hoax perpetuated by China, no court would allow him to. But if he said that the climate regulations were based on a speculative assessment of harms that wouldn’t occur for 100 years, he could succeed.

Much depends on how far Mr. Trump is willing to push existing legal understandings. There is a netherworld of laws that presidents are supposed to comply with but courts don’t enforce. He could send military forces into a foreign country without authorization from Congress; courts would most likely stay out of the dispute. What of his suggestion earlier this year to kill the families of terrorists? Courts typically defer to the executive on matters concerning military activities abroad. He might even try to withhold appropriated funds or shift them around in defiance of Congress’s wishes.

What, then, stands between us and a nearly unbounded Mr. Trump, aside from the next election? Senators McCain and McConnell say Congress, but only a veto-proof majority in both houses, passing new laws, could stop Mr. Trump from exercising the legal authority that Congress has already given the president. Congress can threaten to withhold funds, but the president’s powers to veto legislation and appoint government officers give him a large bargaining chip. Removal of a president by impeachment is extremely difficult; it has never happened.

The courts are another barrier, but they would need to reverse their longstanding practice of deferring to the president in matters of foreign affairs and domestic regulation. The Supreme Court could, for example, declare an entry bar on Muslims unconstitutional. But it’s hard to predict how Mr. Trump would respond. After a federal judge, Gonzalo Curiel, ruled against him on a motion in the long-running Trump University litigation, Mr. Trump called him a “hater” and a “Mexican” (Judge Curiel is an American).

Mr. Trump’s biggest obstacle to vast power is not the separation of powers but the millions of federal employees who are supposed to work for him. Most of these employees have a strong sense of professionalism and are dedicated to the mission of their agency. They don’t take kindly to arbitrary orders from above. As President Harry Truman said ahead of Dwight D. Eisenhower’s presidency: “He’ll sit here, and he’ll say, ‘Do this! Do that!’ And nothing will happen.

To make things happen, Mr. Trump will need to get loyalists into leadership positions of the agencies, but to do so, he will need the cooperation of the Senate (or he will need to aggressively exploit his recess appointment powers). Moreover, the small number of politically appointed leaders enjoy only limited control of the mass of civil servants. These employees can drag their feet, leak to the press, threaten to resign and employ other tactics to undermine Mr. Trump’s initiatives if they object to them. They’re also hard to fire, thanks to Civil Service protections.

But Mr. Trump can fight back. He can appoint loyalists not only to political positions in the executive branch, but to the courts, and he may be able to attract them to the ranks of the Civil Service. And while executive branch officials who disregard the law might be prosecuted by the Justice Department, President Trump would have one more trick up his sleeve. Like President George H.W. Bush, who rescued Iran-contra defendants from punishment in 1992, he could hand out get-out-of-jail-free cards in the form of the pardon.

Eric Posner is a professor at the University of Chicago Law School and a co-author of “The Executive Unbound: After the Madisonian Republic.”

A version of this op-ed appears in print on June 4, 2016, on page A19 of the New York edition with the headline: President Trump, Unbound

“Where homeownership is concerned, Americans have fallen behind their northern neighbors (Canada)…How did this happen? (Government) Incentives matter. The U.S. tax code allows homeowners to deduct the interest paid on their mortgages, which encourages borrowing and debt…

…The Canadian system has no such deduction but fully exempts capital gains on one’s principal residence, which rewards the accumulation of equity. Washington would be wise to take a look at what’s working in Ottawa…..Washington has effectively turned homes into ATMs, because, for the everyday American, it is the only form of borrowing for which the interest expense is deductible. Because the deduction applies to as much as $1 million in mortgage debt, it skews toward high earners. It also costs the government roughly $75 billion in forgone revenue each year, according to the congressional Joint Committee on Taxation….Restoring the conditions for upward mobility in America ought to be the top focus of policy makers in Washington. Homeownership can contribute to social mobility and a family’s long-term financial security. Reforming federal support for it to encourage equity rather than debt, as the Canadian experience shows, would be a good start.”, Brian Lee Crowley and Sean Speer, “Canada’s Housing Lesson for the U.S.”, The Wall Street Journal, June 3, 2016

Opinion Commentary

Canada’s Housing Lesson for the U.S.

Canada’s government encourages homeowners to build equity. U.S. policy incentivizes debt.

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PHOTO: ISTOCK

By Brian Lee Crowley and Sean Speer

Where homeownership is concerned, Americans have fallen behind their northern neighbors. In 2011 the rate of homeownership in Canada, 69%, overtook that of the U.S., 66%, for the first time in more than four decades. Evidence suggests Canada’s rate has held steady, but the U.S. rate fell to 64% in 2015. An average Canadian now has about 74% of his home’s value in equity, compared with 50% for an average American. And the number of mortgages in arrears is nearly eight times lower in Canada than in the U.S.

How did this happen? Incentives matter. The U.S. tax code allows homeowners to deduct the interest paid on their mortgages, which encourages borrowing and debt. The Canadian system has no such deduction but fully exempts capital gains on one’s principal residence, which rewards the accumulation of equity. Washington would be wise to take a look at what’s working in Ottawa.

Virtually every country in the Western world uses public policy—tax incentives, direct financial support, government-backed mortgages—to promote homeownership. And for good reason: Owning a home promotes social mobility, and neighborhoods are the basic building blocks of strong, safe and dynamic communities.

Leading thinkers such as Harvard University’s Edward Glaeser have found that homeownership is linked to less crime, better health, greater educational attainment, more civic participation and, perhaps most crucial, wealth accumulation.One study, for instance, found that owning a home is consistently associated with increases of roughly $9,000-$10,000 in net wealth per year.

Yet some economists are critical of using public policy to encourage homeownership. They see it as distorting the market and nudging people into homes that they can’t afford when savings might be put to better use elsewhere. These are legitimate objections.

It’s the reason that pro-homeownership policy must get the incentives right, and economists can help craft such programs to be effective. The U.S. mortgage-interest deduction is anything but effective. Encouraging homeownership fueled by debt rather than equity makes buying a house a source of instability—not the foundation of the middle-class.

Washington has effectively turned homes into ATMs, because, for the everyday American, it is the only form of borrowing for which the interest expense is deductible. Because the deduction applies to as much as $1 million in mortgage debt, it skews toward high earners. It also costs the government roughly $75 billion in forgone revenue each year, according to the congressional Joint Committee on Taxation.

Canada’s approach of eliminating capital-gains taxes on primary residences is the better one. While U.S. tax law allows for a “home sale exclusion” up to a fixed amount ($250,000 for singles or $500,000 for couples), Canada’s exemption isn’t capped. This tax treatment recognizes that the home provides basic shelter and a nest egg for the future.

Most important, the Canadian policy rewards families for building up the equity in their homes rather than accumulating debt. The tax benefit also arrives precisely when it is most valuable: at the end of a person’s working life when he downsizes for retirement.

Restoring the conditions for upward mobility in America ought to be the top focus of policy makers in Washington. Homeownership can contribute to social mobility and a family’s long-term financial security. Reforming federal support for it to encourage equity rather than debt, as the Canadian experience shows, would be a good start.

Mr. Crowley is the managing director of the Macdonald-Laurier Institute, a Canada-based public-policy think tank, where Mr. Speer is a senior fellow.

“The U.S. government over the last 15 years made a trillion-dollar investment to improve the nation’s workforce, productivity and economy. A big portion of that investment has now turned toxic, with echoes of the housing crisis…

…The investment was in “human capital,” or, more specifically, higher education. The government helped finance tens of millions of tuitions as enrollment in U.S. colleges and graduate schools soared 24% from 2002 to 2012, rivaling the higher-education boom of the 1970s. Millions of others attended trade schools that award career certificates. The government financed a large share of these educations through grants, low-interest loans and loan guarantees. Total outstanding student debt—almost all guaranteed or made directly by the federal government—has quadrupled since 2000 to $1.2 trillion today. The government also spent tens of billions of dollars in grants and tax credits for students. New research shows a significant chunk of that investment backfired, with millions of students worse off for having gone to school. Many never learned new skills because they dropped out—and now carry debt they are unwilling or unable to repay. Policy makers worry that without a bigger intervention, those borrowers will become trapped for years and will ultimately hurt, rather than help, the nation’s economy. Treasury Deputy Secretary Sarah Bloom Raskin compares the 7 million student-loan borrowers in default—and millions of others who appear on the same path—to homeowners who found themselves underwater and headed toward foreclosure after the housing crash.”, Josh Mitchell, “The College Loan Glut Worries Policy Makers”, The Wall Street Journal, June 16, 2016

“The truth, of the government’s significant role in causing the 2008 financial crisis, is being revealed almost daily. Could it be any more obvious that well-intended government distortions of both the higher education and housing markets, especially as it related to government-supported/guaranteed and mandated consumer borrowing (and bank/mortgage lending) for these activities, were a key cause of the bubbles in higher education costs and housing and dramatically increased defaults. With student loans it’s so obvious, because the government is nearly the entire marketplace, so they can’t blame the “greedy” private sector lenders.”, Mike Perry, former Chairman and CEO, IndyMac Ban

Economy
The Outlook

College Loan Glut Worries Policy Makers

Massive investment in improving skills turns sour, echoes of housing crisis

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New research shows a significant chunk of the U.S. investment in college education backfired, with millions of students worse off for having gone to school. PHOTO: ANN HERMES/THE CHRISTIAN SCIENCE MONITOR/GETTY IMAGES

By Josh Mitchell

The U.S. government over the last 15 years made a trillion-dollar investment to improve the nation’s workforce, productivity and economy. A big portion of that investment has now turned toxic, with echoes of the housing crisis.

The investment was in “human capital,” or, more specifically, higher education. The government helped finance tens of millions of tuitions as enrollment in U.S. colleges and graduate schools soared 24% from 2002 to 2012, rivaling the higher-education boom of the 1970s. Millions of others attended trade schools that award career certificates.

The government financed a large share of these educations through grants, low-interest loans and loan guarantees. Total outstanding student debt—almost all guaranteed or made directly by the federal government—has quadrupled since 2000 to $1.2 trillion today. The government also spent tens of billions of dollars in grants and tax credits for students.

New research shows a significant chunk of that investment backfired, with millions of students worse off for having gone to school. Many never learned new skills because they dropped out—and now carry debt they are unwilling or unable to repay. Policy makers worry that without a bigger intervention, those borrowers will become trapped for years and will ultimately hurt, rather than help, the nation’s economy.

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Treasury Deputy Secretary Sarah Bloom Raskin compares the 7 million student-loan borrowers in default—and millions of others who appear on the same path—to homeowners who found themselves underwater and headed toward foreclosure after the housing crash.

“We needed individual households to stabilize property values and help revive communities,” she said. “We want to stabilize this generation of student borrowers and revive their prospects for the future. I think students are essential to our future economic growth and contributions to productivity.”

New research highlights the challenges.

In a working paper released last week, economists at George Washington University and the Treasury Department tracked the earnings of some 1.4 million students who left a for-profit college in the two years through September 2008. Seventy percent of them dropped out. Those who enrolled in associate’s and bachelor’s programs earned an average of $600 to $700 a year less in the six years after leaving school compared with the six years before they entered. Almost all of them left with student debt—an average $8,000 for associate’s candidates and $13,000 for bachelor’s candidates.

Those in for-profit certificate programs earned an average $920 less. The National Bureau of Economic Research working paper used federal tax records and Education Department data.

There are similar problems in nonprofit colleges, which enroll about 2.7 million students a year. A report released in May by Third Way, a nonpartisan think tank, revealed that among students who enrolled in 2005, on average only half graduated from such institutions within six years. On average, nearly four in 10 undergraduates at those schools who took on student debt earned no more than $25,000 in 2011, the same as the typical high-school graduate. Other research shows similar dropout rates at public colleges and universities.

Along with the weak job prospects, most of these students are now severely behind on their payments, damaging their credit and limiting their ability to borrow for homes and cars. More than a fifth of all student debt is at least 90 days delinquent, according to the New York Federal Reserve, and federal data show dropouts are three times more likely to default than degree earners.

No group saw its net worth decline more between 2010 and 2013 than college dropouts. The median value of their assets minus debts fell 14% over that period, according to the Federal Reserve’s Survey of Consumer Finances. By comparison, the typical college graduate saw her wealth increase 5%.

In that sense, student debt threatens to widen the gap between society’s haves and have-nots. A disproportionate share of for-profit college students is poor, black and Hispanic. The NBER study showed that half of the 1.4 million for-profit school borrowers were parents.

Ms. Raskin worries these borrowers are at risk of having their financial positions spiral downward due to debt. During the housing crisis, plummeting home values left millions of Americans underwater on their mortgages, preventing them from selling their homes and moving to better jobs. The lack of mobility in turn hurts productivity, since it limits the pool of workers that employers can choose from.

The Obama administration faced criticism that it was too slow to help ailing homeowners during the foreclosure crisis, which impeded the economy from recovering more quickly from the recession. The administration is determined to avoid similar criticism with student-loan borrowers.

It has already put forth an array of programs to help borrowers, including slashing monthly bills by tying payments to incomes, and forgiving some of their debt. But this time they face a different challenge: How to get borrowers to pay anything—even a penny—for an asset they never received.

 

“Switching gears to the cause and result of the financial crisis, WB writes, “I think it’s important that given the massive media spin and lack of knowledge regarding the cause of the financial crisis that at least we in the industry need to be educated on the issues. I have spent more than one BBQ defending our industry and educating friends and neighbors…

…”It was certainly caused by both parties but had nothing to do with lack of regulation, it was regulation that caused the problem. It was oversight and regulation that Congress mandated affordable housing initiatives on the GSE’s that created this fiasco. They took a small niche and created a marketplace that the private sector could never have done to that magnitude. “And the idea that lenders and brokers should have denied financing to clients many of which were of a protected class even though they meet the guidelines established to promote affordable housing is ludicrous. If we allow consumers who meet guidelines established by the GSE’s to purchase home we are predatory lenders, if we don’t we are redlining. Give me a break…”Lastly, I think that the whole ‘Bush regulation’ stuff is a myth as well. The current Democratic front-runner is confusing the deregulation that led to the S&L crisis back in the late 80s/early 90s which actually came from Carter not Reagan as many don’t know. The deregulation came from Carter and then when Reagan and Tip closed tax incentive loophole it devalued their (real estate value’s) worth and started the crash.””, Excerpt from June 2016 Mortgage Industry Newsletter

Michael W. Perry

“In 2014, the number of mortgages to blacks and Hispanics combined was down 52% from 2007 across all bank and nonbank lenders, compared with a 37% drop for other racial groups combined. Among all approved mortgage applicants from the 10 (largest) banks, 5.3% were black in 2014, down from 7.8% in 2007; 7.4% were Hispanic, down from 10.6%…

…At J.P. Morgan, America’s largest bank by assets, jumbos were 22.5% of mortgages approved in 2014, up from 9.1% in 2007, the Journal analysis found. Its mortgages to blacks fell to 3.8% from 8.2% and to Hispanics fell to 8.7% (in 2014) from 15.1% (in 2007). A bank spokeswoman declined to comment. Bank of America bought Merrill Lynch during the crisis, which it said gave it a new wealthy clientele qualified for jumbos. Its jumbo lending rose to 15.6% of approved mortgages in 2014 from 8.0% in 2007. Its mortgages to Hispanic borrowers fell to 8.6% from 14.9% of its total, while black borrowers fell to 5.9% from 9.8%. The Department of Housing and Urban Development is looking into mortgage-lending declines to some minorities, said Bryan Greene, HUD General Deputy Assistant Secretary for Fair Housing and Equal Opportunity, declining to specify whether it was examining specific lenders or products. A number of the federal agencies overseeing fair lending have said there isn’t necessarily a conflict between fair-lending requirements and new mortgage regulations or jumbo lending. Regulators have fined two smaller banks, one focused on jumbos, in the past nine months for not lending enough to blacks and Hispanics. Prosecutors have said they are developing other cases.”, Rachel Louise Ensign, Paul Overberg and AnnaMaria Andriotis, “Banks’ Embrace of Jumbo Mortgages Means Fewer Loans for Blacks, Hispanics”, The Wall Street Journal, June 2, 2016

“Could it be any clearer that our federal government is the instigator and enforcer of reducing mortgage underwriting credit standards, in its well-intended (but likely misguided) efforts to expand homeownership to minorities and poorer Americans? They did it for decades pre-crisis and now just a few years post-crisis, seeing the actual results of “responsible mortgage lending”…a dramatic increase in mortgage lending to rich (jumbo) Americans and dramatic reductions in mortgage lending to minorities…they don’t like it and are going to pressure the banks and other mortgage lenders to once again reduce their mortgage lending standards. That’s fine, but then don’t blame the banks/mortgage lenders when defaults increase dramatically some day in the future. By the way, in the early 2000’s, for a few years I sat on Fannie Mae’s advisory board, and I can remember distinctly its Chairman and CEO at the time Frank Raines saying roughly the following: “This is an industry, where the model was 99% success and 1% failure/default. What’s wrong with a 95% success rate, if we can dramatically expand homeownership?” We all thought that sounded great at the time…good for everyone…and for a long-time this expanded credit risk was masked by the housing bubble, but the reality is 95% success, also meant 5% failures…and no one realized that that was a five-fold increase in defaults!!! And maybe an even greater increase in defaults in certain poorer and/or minority communities….But, clearly this idea came from well-intended government distortions of free, fair, and rational markets.”, Mike Perry, former Chairman and CEO, IndyMac Bank

Markets

Banks’ Embrace of Jumbo Mortgages Means Fewer Loans for Blacks, Hispanics

High-dollar home loans place lenders between two postcrisis regulatory mandates: Take fewer risks and lend to a racially diverse pool

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South Carolina real-estate broker Corwyn Melette said big banks are approving fewer applications from his customers, mostly African-Americans, who don’t need jumbo loans and are often turning to nonbank lenders. PHOTO: LANDON NEIL PHILLIPS FOR THE WALL STREET JOURNAL

By Rachel Louise Ensign, Paul Overberg and AnnaMaria Andriotis

Last decade’s financial crisis left many losers in banking. One winner is the jumbo.

The biggest U.S. banks are tilting toward these high-dollar mortgages as they overhaul loan operations. And jumbo loans, which were less important during the subprime-loan boom, are helping banks take on less risk, as mandated by regulators in the postcrisis era.

These loans, however, could put banks at odds with another federal regulatory mandate—one that says lenders should serve a racially diverse set of customers. As they approve relatively more jumbos, major banks are granting fewer mortgages to African-Americans and Hispanics than just before the crisis, a Wall Street Journal analysis found.

For banks, “it’s one of those damned if you do, damned if you don’t situations,” said Stu Feldstein, president at SMR Research Corp., a mortgage-research firm in Hackettstown, N.J.

The Journal analyzed data on every mortgage approval reported to the federal government for home purchases in 2007 and 2014, the most recent available, including borrower race or ethnicity. In that period, each of the 10 biggest U.S. retail banks increased the share of its mortgage approvals that are jumbos.

Jumbos, loans above $417,000 in most markets, are attractive because they typically feature high credit scores, big down payments and low default rates. And they aren’t linked to the government programs that cost banks tens of billions of dollars in fines related to the subprime-loan debacle.

These loans predominantly go to white and Asian borrowers, the analysis showed. In 2014, 3.0% of the biggest banks’ jumbo borrowers were Hispanic and 1.3% were black. As the 10 big banks issued proportionally more jumbos, they collectively decreased their share of all home loans to blacks and Hispanics. Their proportion of lending to those minorities also fell in non-jumbo mortgages alone, though not by as much.

Among all approved mortgage applicants from the 10 banks, 5.3% were black in 2014, down from 7.8% in 2007; 7.4% were Hispanic, down from 10.6%.

Just as the subprime customer was the ideal borrower for some banks before the crisis, the jumbo borrower is most appealing for many banks now. While the jumbo uptick isn’t solely responsible for lending declines to some minorities, these loans epitomize the direction banks are turning their mortgage operations—toward safer, more-affluent customers who tend to be white or Asian.

This poses an existential question for regulators and executives almost a decade since the crisis: Are banks tools to stimulate economic growth and deliver profits for shareholders, or are they like utilities, whose primary purpose is to deliver valuable services to a broad spectrum of society?

James Dimon, chief executive of J.P. Morgan Chase & Co., referred to the dilemma in his April shareholder letter when explaining why his bank has mostly stopped giving loans insured by the Federal Housing Administration. Leaving that lower-end market could “make it more difficult to meet our…fair lending obligations,” he said, adding that the bank believes it can comply with the rules.

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At J.P. Morgan, America’s largest bank by assets, jumbos were 22.5% of mortgages approved in 2014, up from 9.1% in 2007, the Journal analysis found. Its mortgages to blacks fell to 3.8% from 8.2% and to Hispanics fell to 8.7% from 15.1%. A bank spokeswoman declined to comment.

The Department of Housing and Urban Development is looking into mortgage-lending declines to some minorities, said Bryan Greene, HUD General Deputy Assistant Secretary for Fair Housing and Equal Opportunity, declining to specify whether it was examining specific lenders or products. A number of the federal agencies overseeing fair lending have said there isn’t necessarily a conflict between fair-lending requirements and new mortgage regulations or jumbo lending.

Regulators have fined two smaller banks, one focused on jumbos, in the past nine months for not lending enough to blacks and Hispanics. Prosecutors have said they are developing other cases.

It isn’t clear if the move to jumbos is hurting overall access to mortgages among minorities. In 2014, the number of mortgages to blacks and Hispanics combined was down 52% from 2007 across all bank and nonbank lenders, compared with a 37% drop for other racial groups combined. Yet overall mortgage-approval rates for blacks and Hispanics rose during the period, federal data show, as these borrowers increasingly turned to small lenders and “nonbank” lenders.

‘Waste of time’

The jumbo shift has led real-estate broker Corwyn Melette to generally stop referring his clients, mostly African-Americans, to big banks. Before the crisis, the North Charleston, S.C., broker said, he referred many customers to such institutions.

After the bust and the ensuing tightened underwriting requirements, he found the same banks approved fewer of his clients, who often have credit-score problems and don’t require jumbos, he said. Most of his clients, whose average mortgage is around $150,000, now get FHA loans from nonbank lenders.

“It’s a complete waste of time” to apply with the big banks, he said.

It also isn’t clear why blacks and Hispanics are borrowing less often. They were more likely to take out higher-rate mortgages, often subprime, than white and Asian customers in the years leading to the crisis, according to a Federal Reserve analysis. That leaves the possibility that a greater proportion of blacks and Hispanics who could get loans before the crisis don’t meet today’s tighter credit standards.

Lending to blacks and Hispanics is also falling among lenders outside the big 10, at a somewhat slower rate. Among all other bank and nonbank lenders, 5.5% of mortgage approvals went to blacks in 2014, down from 7.5% in 2007; 9.1% went to Hispanics, down from 10.7%. Jumbo lending fell as a proportion of those lenders’ mortgages, suggesting other factors are at play.

The 10 banks play an outsize role in America. They issued 13% of all U.S. home loans in 2014, and their strategies have ripple effects across the country. Their operations in diverse urban areas could subject them to greater requirements to lend to minorities than some smaller lenders.

Their shift toward jumbos involves a big shift in lending dollars. In 2014, about 62,000 of the big 10’s home loans were jumbos, or 13.5%, versus 8.1% in 2007. In 2014, 41% of their $126 billion in mortgage approvals went to jumbo borrowers, compared with 29% of $314 billion in 2007.

Five of the 10 banks declined to comment. The others— Wells Fargo & Co., Bank of America Corp., Citigroup Inc., U.S. Bancorp and TD Bank, the U.S. unit of Toronto-Dominion Bank —said they were committed to complying with regulations and to lending diversity.

Bank of America bought Merrill Lynch during the crisis, which it said gave it a new wealthy clientele qualified for jumbos. Its jumbo lending rose to 15.6% of approved mortgages in 2014 from 8.0% in 2007.

Its mortgages to Hispanic borrowers fell to 8.6% from 14.9% of its total, while black borrowers fell to 5.9% from 9.8%. “Our success in jumbo lending has in no way diminished our focus on reaching out to multicultural borrowers,” spokesman Terry Francisco said, adding that it has recently started new mortgage initiatives aimed at black and Hispanic borrowers.

Citi said it sold branches in areas such as Texas, focusing more lending in areas including New York and San Francisco where home prices are higher. Its jumbos rose to 25.6% of approved mortgages in 2014 from 7.3% in 2007. Its Hispanic borrowers fell to 9.2% from 10.3%, while black borrowers fell to 5.9% from 8.4%. Its share to whites fell, too, with increases going to Asians and people who didn’t provide a race or ethnicity.

“Citi is proud of its deep commitment to making sure our lending standards are fair to all of our customers,” Citi spokesman Mark Rodgers said.

Crisis aftermath

At the housing boom’s height, when smaller loans were more appealing, banks didn’t need jumbos as much. Investors considered them riskier because they weren’t backed by mortgage giants Fannie Mae and Freddie Mac or insured by the FHA.

The subprime-loan crash, though, involved many loans the banks sold to Fannie and Freddie. The aftermath led regulators to prod banks into less-risky loans. The 2010 Dodd-Frank law required more disclosures and tougher underwriting for mortgages.

Now, banks prefer jumbos in part because they avoid the liability of the penalties that can come with federally-backed loans, and they allow more-flexible underwriting procedures. These affluent borrowers are also promising prospects for selling other bank products. Originating Fannie and Freddie loans has also become more expensive as the mortgage-finance companies increase fees.

“It is much easier to make a $1 million loan than a $100,000 loan,” said Ken Thomas, a Miami-based consultant to banks on fair-lending issues.

Some 3.1% of jumbo loans were delinquent or in foreclosure as of March, compared with 5.4% of smaller loans, according to mortgage-data firm Black Knight Financial Services. Because banks typically keep jumbos in-house, “we’re going to underwrite them as perfectly as we can,” said U.S. Bancorp CEO Richard Davis at a November conference, making the loans “the regulators’ dream.”

Jumbos were 10.2% of U.S. Bank’s approved mortgages in 2014, up from 2.1% in 2007. The bank said: “We work diligently to ensure that our loan originations capture a representative racial and ethnic mix and provide access to credit for all borrowers who qualify.”

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One indication of banks’ eagerness to woo jumbo borrowers is that average interest rates on 30-year fixed-rate jumbos in 2014 dropped below those on smaller mortgages for the first time in decades, according to mortgage-data firm HSH.com.

Chris and Pearl Mohler recently bought a five-bedroom $1.65 million home in Syosset, N.Y. The couple, white and Asian, liked the diverse community. Wells Fargo gave a 2.75% initial rate on an adjustable-rate jumbo. “The low rate, economically, it did allow us to move,” said Mr. Mohler adding that it felt like “easy money.”

The federal data in the Journal analysis didn’t include detailed data on credit scores, incomes and assets, so it wasn’t possible to study factors such as borrowers’ financial situations.

The definition of unfair lending isn’t precise. Regulators use analyses of the same federal data to find banks that lend to relatively fewer minorities than others in their areas. They also use qualitative measures such as interviews with bank employees to determine if there are violations.

There is little way of definitively knowing if a bank’s lending will trigger fair-lending violations, said Mr. Thomas, the fair-lending consultant. To avoid trouble, he said, banks must not egregiously ignore minority or low-income borrowers even as they focus on jumbos.

Prosecutors alleged that is what happened at Hudson City Bancorp Inc., which last year reached the largest settlement in the Justice Department’s history for residential-mortgage “redlining,” or avoiding lending in certain minority neighborhoods. The bank’s mortgage operations mostly focused on jumbos, according to an analysis from trade publication Inside Mortgage Finance. The Justice Department and Consumer Financial Protection Bureau alleged it discriminated by not making enough mortgages in neighborhoods where black and Hispanic borrowers lived.

Hudson agreed to pay about $33 million without admitting wrongdoing. The bank, acquired by M&T Bank Corp. last year, said it disagreed with the authorities’ statistical analysis. M&T spokesman Michael Zabel said the bank has “a commitment to building upon our long record of providing credit in the communities we serve.”

Wells Fargo, the largest U.S. jumbo lender, has bucked the big-bank trend in minority lending. In 2013, it established a jumbo-underwriting team that allowed it to avoid “following a simple set of rules that could keep [borrowers] from being approved when using traditional underwriting guidelines,” said Wells Fargo mortgage executive Brad Blackwell. Wells Fargo increased its proportion of Hispanic borrowers in 2014 while posting a lower-than-average drop in black borrowers from 2007.

One small bank, Luther Burbank Savings of Santa Rosa, Calif., found ways to keep jumbos from dragging down its overall lending to minorities. The Justice Department in 2012 penalized it for allegedly discriminating against blacks and Hispanics by setting a minimum loan of $400,000. The bank didn’t admit wrongdoing.

Luther Burbank last year announced it was doubling down on jumbos. It also increased advertising in Spanish and launched programs to make smaller loans. About 22% of its 564 mortgages in 2014 went to black and Hispanic customers, up from 12% before the settlement.

“If you make a concerted effort to target all communities and all groups, you can find them,” said Jason Pendergist, its president of consumer and commercial banking, “even if you’re focused on jumbo loans.”