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House GOP Wages War on Strategic Defaults

I think this article I wrote about people no longer paying their mortgages ended up with as many comments as anything I’ve written at FDL. As it turns out, some others noticed the trend as well – House Republicans. And they are shocked, shocked that people would dare to consider behaving in their economic self-interest. They offered a motion to recommit on an FHA bill to cut off strategic defaulters from future FHA programs.

The House GOP launched an assault Thursday on homeowners who walk away from underwater mortgages, arguing that such foreclosed-on former homeowners are using the money they save to dine out and go on cruises.

“The Wall Street Journal has reported on families that have chosen to stop paying their mortgage and instead use the extra money they are saving each month to ‘buy season tickets to Disneyland…take a Carnival cruise to Mexico…’ and go out to dinner more often,” says House Republican leadership in an e-mail to colleagues explaining the anti-strategic-default effort.

In other words, consumers with more money tend to spend it, spurring demand — exactly what the economy needs. More than a few economists argue that the ongoing jobless crisis is a direct result of a lack of consumer demand. A homeowner stuck in an underwater mortgage is, each month, paying off a mortgage that is worth more than their home. The increased cost of housing means that money that could otherwise could be circulated through the economy – at restaurants, Disneyland, or on cruises, for instance – is sent off to Wall Street, whose profits have been soaring despite the economic downturn.

I wish these Republicans would let the market decide. And some Democrats – the motion to recommit passed with Blue Dog help.

These politicians can answer a hypothetical for me. I’m a moderate-income homeowner. My lender snookered me into a high-risk adjustable-rate mortgage to collect a tidy yield spread premium. I was fine until a housing bubble I didn’t create popped, plunging the value of my home and leaving me underwater. Some financier securitized my mortgage and sold off pieces of it two and three times so that nobody really knows the identity of the actual owner. This corrupt process led to a financial meltdown and massive unemployment, costing me my job. Now my rate’s resetting, but I know it’ll take around a year for them to get me out of the house, if they can figure out who holds the title. Or I could just send them the keys in the mail and save all the money going to prop up the banks that caused the problem.

Why should I pay my mortgage? If the banks want their home back they can come and get it; that’s the nature of the contract signed. Why should government interfere with private contracts; isn’t that always the refrain? It’s not the borrower’s fault that nobody can determine the owner of the mortgage or that the bank will lose money as a result.

Dean Baker writes:

Banks know (or are supposed to know) when they issue a mortgage that there is some probability that the homeowner will not repay the mortgage. One of the reasons that homeowners may not repay the mortgage, and cause the banks to lose money, is that the home falls in value. Banks should have incorporated this risk into the interest rate they charged on the mortgage.

Since nationwide house prices have fallen 30 percent since the peak of the bubble, and much more in some areas, there are millions of homeowners who would do better by turning over their home to the bank than by continuing to pay their mortgage. Now many homeowners are taking advantage of this option to the detriment of the banks or other holders of the mortgage.

Rather than respecting the sanctity of contract, the Republicans want to punish homeowners who look out for their own best interest and strategically default. Hence they want to prohibit them from later getting a loan that is insured by the FHA. Who knows what other sanction they may look to impose. Maybe they will also prohibit strategically defaulters from getting a loan through the Small Business Administration or allowing their children to getting a government guaranteed student loan.

In that case, I would hope that Republicans, for consistency’s sake, prohibit banks – all of which have strategically defaulted on one contract or another from time to time – from all government emergency lending programs or the discount window. But that won’t happen, because, as Baker says, “These people are about taking money from everyone else and giving it to the rich: end of story.”

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David Dayen

David Dayen