July 26, 2010
The existing system
of mortgage disclosures in the
As an illustration, a large proportion
of the consumers who took option ARMs during the go-go
years leading to the crisis believed that the initial interest rate, in
many cases as low as 1%, held for 5 years. In fact, that rate was good
for only the first month.
Borrowers taking option ARMs received a
booklet about ARMs in general, a description of all ARM programs in
which they expressed an interest, and historical or worst cases examples
of how ARMs work. But the one piece of information they needed to avoid
a horrendous mistake was not there. The default rate on option ARMs
today is horrendous, and it is expected to be higher next year.
Divided Responsibility For Mortgage Disclosures
A major reason why
government-mandated mortgage disclosures are so bad is that there are
too many agencies involved in the process. One consequence of multiple
agencies is excessive disclosures, as each agency focuses on its own
with little or no regard for the requirements imposed by the others.
Voluminous disclosures tax the absorptive capacity of borrowers, and
make it hard for them to find what is really important, because it may
be concealed in a sea of garbage.
Multiple agencies
also lead to inconsistencies between the disclosures required by the
different agencies, to the befuddlement of borrowers. For several
decades now, borrowers have had to live with the Good Faith
Estimate required by HUD and the Truth in Lending
statement required by the Federal Reserve, with no way to reconcile or
connect the two.
But perhaps the worst result of having
too many cooks is a lack of clear accountability for the total package
of disclosures. Since no one agency is responsible for keeping
disclosures up to date, they are always behind the curve in responding
to market developments.
Wrong Agencies Have Responsibility For Mortgage Disclosures
Two of the cooks should not be in the
disclosure business. By far the worst is the Congress,
which is the least competent and the least responsive to the need to
stay current. The original Truth in Lending legislation
in 1968 included specific mandated disclosures that are as inane today
as they were then. Once specific disclosures are mandated by law, it
seems impossible to get rid of them, no matter how useless they are or
become.
I don’t believe the Federal
Reserve should be in the consumer disclosure business either.
While the Fed has always been the most competent of the Federal
agencies, it has done a wretched job with disclosures. The problem has
been that consumer protection has had the lowest
priority among its diverse responsibilities, and properly so. Monetary
policy and bank regulation are its major concerns, and going forward its
responsibilities in these areas will only get larger as it becomes the
key player in dealing with issues connected to systemic vulnerability.
The third agency involved in mortgage
disclosures is HUD, which is highly bureaucratic and
politicized but at least its responsibilities for mortgage disclosure
are consistent with its overall mission and other responsibilities. The
new Good Faith Estimate that became effective this year
against fierce opposition is a substantial improvement over the old one,
but it took forever.
Disclosures Under the “Restoring American Financial Stability Act of 2010”
Given this backdrop, the creation of a
new consumer protection agency under the “Restoring American Financial
Stability Act of 2010” appears to herald a new beginning. The agency
will assume authority for disclosures in all consumer markets, absorbing
the disclosure responsibilities of the Fed and HUD. Indeed, the new
agency is instructed to “combine
the disclosures required under the Truth in Lending Act and the Real
Estate Settlement
Procedures Act of 1974 into a single, integrated disclosure…” [Sec. 1032
(f)]
However, while the agency would take over disclosure responsibilities
from the Fed and HUD, Congress does not deal itself out of the
disclosure picture. On the contrary, the Act may have more new mandated
disclosures than the original Truth in Lending Act. Some of these are
sensible, such as providing an early warning of a pending rate increase
on ARMs, and the Act could have instructed the new agency to implement a
disclosure for that purpose. Instead, the Act specifies exactly what the
disclosure must be, making the agency responsible for a disclosure it
did not design.
And it gets worse, because some of the specific
mandated disclosures in the Act are nonsensical and will prejudice the
ability of the new agency to do its job. For example, lenders will be
obliged to disclose the “wholesale rate of funds”, whatever that is.
They must also disclose the total amount of interest paid over the life
of the loan as a percent of the loan amount, which is a useless number
for any borrower making a financial decision. I could go on at great
length. The Act, instead of using the creation of a new agency as the
occasion for eliminating the role of Congress as a source of mandated
disclosures, reinforces that role.