We can work it out . . .

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One of the continuing problems with trying to straighten out the mortgage mess is that it's really hard to arrange a workout on a securitized mortgage, because the organization that collects the payment is not the organization that ultimately owns the payment stream; its just a hired manager.  Nor can the government do as some Democrats propose, and simply cram down the value of the mortgages, force a debt-for-equity swap, or one of the more exotic plans to make the banks subsidize homeowners in over their heads.  For one thing, the banking system is not exactly in a great position to eat more large losses in order to bail out homeowners.  For another, doing so would push up the price of credit to everyone, since banks will have to factor in the possibility of a government cramdown to their loan calculations.  And finally, banks could plausibly argue that this is a regulatory taking, which would leave the government holding the bill.

Greg Mankiw links to a plan to sidestep these issues:

we propose legislation that moves the reworking function from the paralyzed master servicers and transfers it to community-based, government-appointed trustees. These trustees would be given no information about which securities are derived from which mortgages, or how those securities would be affected by the reworking and foreclosure decisions they make. Instead of worrying about which securities might be harmed, the blind trustees would consider, loan by loan, whether a reworking would bring in more money than a foreclosure.

The government expense would be limited to paying for the trustees -- no small amount of money, but much cheaper than first paying off the security holders by buying out the loans, which would then have to be reworked anyway. Our plan would also be far more efficient than having judges attempt this role. The trustees would be hired from the ranks of community bankers, and thus have the expertise the judiciary lacks.

This wouldn't cost fragile banks any more money than they've already lost, and would cut through many of the coordination and information problems currently plaguing the market.  On the other hand, it wouldn't do what a lot of people want, which is to help people with unaffordable mortgages stay in homes above their pay grade.




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Megan McArdle is a columnist at Bloomberg View and a former senior editor at The Atlantic. Her new book is The Up Side of Down.

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