not that it mightn't help people who were already going to file Chapter
13, but I'm not sure it's a great idea for homeowners to use Chapter 13
as a broad remedy for underwater mortgages. Moreover, the economic
effects would be problematic.
- Mortgages which can be "crammed down" cost more
It's only mortgages on primary residences that are immune from cram
down. This is often cast as a giveaway to the mortgage industry, but
the people who designed the exception (implemented in the 1977
bankruptcy reform) viewed it as a way to make mortgages on primary
residences cheaper. Their belief is validated by the fact that
mortgages on vacation homes or investment properties cost more and are
harder to get than mortgages for primary residences. (There are other
reasons for this too, but the cramdown shield seems to play some role.)
you may think that that's a good thing--that mortgages should be more
expensive and harder to get. Perhaps so. But what that would do to the
housing market right now is tighten up already tighter credit
conditions, softening demand, and depressing prices still further. This
would, of course, push even more homeowners underwater on their
mortgages, forcing more of them to avail themselves of the risky and
expensive Chapter 13 process if they ran into an income shock.
- Cramming down mortgages will impair bank balance sheets
Again, you may argue that they're already impaired, and that we're just
forcing them to recognize that fact. But this is not quite true.
Markets undershoot on the downside as well as overshooting on the
upside, and Treasury policy right now is to minimize that undershoot.
Impaired bank balance sheets mean less lending, which means even less
liquid housing markets, which means even larger price declines. This
will be especially problematic if the cramdown provision entices
homeowners who are still making their payments into Chapter 13, forcing
banks to write down loans that otherwise would have been paid . . . and
double-especially problematic if those Chapter 13 plans fail at anything
like the rate for current Chapter 13s. That would dump more houses
onto the market through bargain-basement foreclosure sales.
- Premature bankruptcy would impair other lender assets
Chapter 13s include all your loans, not just the house. American
households do need to deleverage, but no one's enthusiastic about using
contracting bank credit to speed the process up.
while mortgage cramdowns might help the people who need to file
bankruptcy for other reasons, there are reasons to worry about trying to
use it as a tool to help those whose main problem is an underwater
home. Obama's advisors probably aren't keen to mess with any
"solutions" that involve touching off further tightening of bank credit,
or price declines in the housing market--much less encouraging large
numbers of Americans to start bankruptcy filings.
Moreover, as a tool to help those who do use Chapter 13, it's probably not
worth expending much legislative energy on. Ultimately, you're talking
about less than a hundred thousand people a year who will successfully
complete a Chapter 13, not all of whom own homes. Unless it came in the
context of some broader bankruptcy reform, I'm not sure this would be
worth spending staff time on even if the banking lobby didn't exist.