Tuesday, March 4, 2008

On Ben's Advice for Banks

So, uncle Benny, in his most recent spew of "wisdom", suggested banks should consider forgiving some principle on bad loans given to people who couldn't possibly pay them back for homes they couldn't possibly afford. Now normally, I think the Fed is generally bad for the country, bad at their job (controlling inflation, in case anyone forgot what that was), and bad in their advice. However, in this case, I think it's not actually that bad (regardless of how bad it sounds). I'll explain (in a shameless copy of a post made on The Mess That Greenspan Made)...

Banks and other lenders have a problem with all their bad loans which is going to get worse. As people figure out they can walk away from underwater loans with various levels of downside (from a simple defaulted "everybody did it then" debt to "many people did it then" bankruptcy), lenders will be left holding a lot of properties they can't unload. As states try to combat urban blighting, they will figure out ways to fine the lenders lots and lots of money to compensate for lost property tax revenue. Add in the foreclosure cost, chance of people declaring bankruptcy and keeping their homes while clearing their debt (which is certainly possible), and lawsuits over predatory lending, and lenders are staring down the proverbial abyss.

Given those considerations, it really might be cheaper for the lenders to write off some of the principle of the debt, and a prudent financial move. The goal of the lenders is to get people paying 100% of their income to the lenders, forever, without pushing the people who borrowed money to the point where bankruptcy or defaulting is seen as the better option. If giving people some phantom equity furthers that goal, it's certainly an option worth considering, compared to the probable alternatives for most of the "obvious default" loans.

I know, I feel dirty for agreeing with Benny... but that's just how I see this one.

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