Indeed, as Congress scrambles to shore up the mess on Wall Street with more than a trillion dollars in bailouts, many homeowners are still drowning in debt due to the nefarious lending practices that created the crisis in the first place. Not only will they be saddled with the increasing deficit and footing the bill for the trillion-dollar-plus Wall Street bailout, they’re stuck with bills they can’t pay and facing foreclosure and bankruptcy because of the shady lending practices that brought on the bailout.

Here in Minnesota, home prices in some areas have plummeted by more than 20 percent. Nationwide, prices have dropped 18.4 percent since July 2006, according to the Standard & Poor’s/Case-Shiller 20-city index. And while Treasury Secretary Henry Paulson claims a “housing rebound” is around the corner, Minnesota’s housing market appears to be facing a long stretch of trouble.

For one thing, the Joint Economic Committee estimates that Minnesota will see another 27,871 foreclosures by the end of 2009. That’s due in part to the fact that 57,000 Minnesotans, or approximately 25 percent of those who still have Adjustable Rate Mortgages, will see their rates increase in the next year. Add to that the problem of declining home prices—which some experts predict could fall as much as another 25 percent in the next three years—negative equity, and more homes being dumped on the market, and that rebound looks more like a deep puncture.

In fact, the Center for Responsible Lending estimates that 8,000 families each day are going into foreclosure, and that over the next five years, about 1 in 8 mortgages in the U.S. will go into foreclosure. That’s 6.5 million foreclosures. And while the Bush Administration’s plan offers a handout to those responsible, it has yet to address the serious issues facing homeowners who were victims of egregious lending and grab-and-go greed.

“This is just absurd,” Cox says of the current bailout plan. “It’s like a reverse criminal action where you give restitution to the criminals and put the victims in jail.” Cox talks to MnIndy about how we got here and why the bailout needs to change.

MnIndy: With the Bush Administration’s current plan, it’s as if no one wants to discuss how the crisis happened and instead only wants a quick-fix cover-up. You know, there’s “no time for the blame game” kind of philosophy. So how did we get here? And who is responsible?

Prentiss Cox: The fact that we are spending a substantial part of the next generation’s income on this bailout is astounding. The people who were really responsible for this catastrophe are for the most part left wealthy, and in the case of Wall Street, feel the right to shape the terms of the bailout. Wall Street was one of the parties responsible for the problem. So it takes amazing shamelessness for Wall Street to demand that it has this bailout without any other restrictions or any help for homeowners who were victimized.

We got here in a fairly direct manner. First, we had massively irresponsible and unfair lending primarily by unregulated institutions. That lending was funded and to a large part shaped by Wall Street. And those Wall Street investment firms knew early on what they were dealing with. In the first major predatory lending case against a company called First Alliance Mortgage Company, Lehman Bros., who’s now in the news, had a memo saying, “If we want to deal with this company we have to check our morals at the door.” And that was over ten years ago. So Wall Street knew what they were dealing with when they were dealing with these subprime mortgage companies, and they financed them anyway.

Prentiss Cox

Then, there was a second wave that started around 2003 and 2004. In that wave, Wall Street flooded the market with massive amounts of money and helped shape the terms of the kinds of loans that would be made. And that lending spread far beyond the stand-alone subprime companies and became standard industry lending practice. It’s really that second wave that led to the scope of the catastrophe that we’re dealing with now.

MnIndy: So we’re talking here about the Alt-As and no-doc loans that still have to shake out of the market.

Cox: It allowed loans to be made without adequate underwriting for quick fees. The primary attributes were, number one, lending to homeowners with no down payment; number two, lending to homeowners with teaser rates that would explode even if the interest rates were stable; And number three, encouraging homeowners to use stated income. The worst borrowers encouraged borrowers to make up specific stories that you would see over and over again in loan documents.

Fourth, there were loans that trapped homeowners with pre-payment penalties and high fees that ate away substantial amounts of equity. And fifth, there was lots of fraud, including fraudulent appraisals. All of this was undergirded by the belief that home prices would continue to escalate and cover up all the sins.

So that’s how we got here. Wall Street firms funded it all. And banks and other major institutions also made and bought a substantial amount of these loans so that the pain is spread fairly large and wide.

MnIndy: We know this has been going on for years. And then finally, last August of 2007, we saw the height of the foreclosure crisis hitting homeowners. Why did it take so long for the Bush administration to finally call this a serious problem?

Cox: This was a disaster before it was a crisis. And what I mean by that is families and homeowners were being negatively affected by these unfair and imprudent loan products before the financial collapse. The reason we didn’t hear about it is because we treated them as individual tragedies. The homeowners were either able to sell their homes because of the rapidly appreciating prices or refinance into an even worse and riskier loan.
So the housing appreciation allowed a cover for the risky loans and made them appear better products than they were. So when the housing values started to fall everything went into reverse.

MnIndy: Regardless of the Wall Street bailout, homeowners still have falling home prices to contend with. Yet Paulson says a “housing rebound” will ensure that taxpayers won’t be stuck with the nearly trillion dollar bailout package for Wall Street. Is that even feasible that taxpayers won’t be stuck with it given that a rebound looks dubious?

Cox: I think it’s really unclear. I think that anyone who thinks they know the answers to this has a crystal ball I don’t have. Of course the Treasury Secretary is going to say that we can expect a rebound because he is trying to get the biggest bailout in U.S. history by a fairly wide margin, and he wants it done with almost no strings or regulations. And most importantly, he wants it done in a way that harms homeowners. He calls that a “clean” bill. Anyone who wants to do anything to help the victims is complicating the “clean” bill.

But I don’t think that it’s realistic to say that we will recoup the money. There’s a chance it could happen, it happened in Sweden when that market faced a collapse in the early nineties. But there’s a key difference here: They drove a much stronger bargain with the collapsed industries. This is simply a “we’re giving all this money to Wall Street and trust us” bill. This isn’t a thought-out policy. This is a “we have such a good track record with these things, trust us,” which gives one pause.

MnIndy: What can homeowners expect from the bailout? The Democrats’ bankruptcy provisions aside, under Paulson’s plan, is there any chance the bailout could affect homeowners positively, like opening up more loans and allowing them to refinance? Or are we just talking about a bailout for the investors who caused the crisis and leaving homeowners and taxpayers footing the bill once again?

Cox: That’s the real question. Look, this is outrageous. I mean, is it necessary to do a $700 billion bailout? Probably. We probably needed to do all of these bailouts. They tried to contain it. It wasn’t containable. So they probably need to do an incredibly bold stroke like this in order to restore the market, pull out the assets, and deal with them rationally. While it’s unbelievable that we got to this place, given that we’re here, a bailout seems to be a rational policy choice.

What makes my jaw drop is we’re doing this in a way that completely ignores any possible assistance for homeowners who were victimized by this. And in fact, just to rub salt into the wounds, the bill probably will result in limiting existing defenses to foreclosure and protections that individual homeowners have under existing law when they default on their mortgage, because it’s a federalization and federal law would preempt many of those protections and wipe out those defenses, as sometimes happens when the FDIC takes over an institution.

So that is incredible. This is just absurd. This is like a reverse criminal action where you give restitution to the criminals and put the victims in jail. I have been astounded from day one that so many people are so comfortable basically socializing business risk to a degree never seen before in our country while at the same time completely ignoring any help, I mean any help, for homeowners.

MnIndy: You mentioned earlier that home declines were seen as an individual crisis and not necessarily a systemic problem. Is it a type of thinking that foreclosures and home-price declines are individual cases, or “individual responsibilities,” part of the reason homeowners are being ignored the victims in this case?

Cox: It’s that homeowners don’t rate. They don’t rate a thought or a mention here. When you do try to help, like we did with the Foreclosure Deferment Bill last year, which is looking pretty darn good at this point, you get these ridiculous lines like, ‘We don’t want to interfere in the market.’ Take a step back, folks! We’re giving a trillion dollars to these institutions that caused these problems.

We’re socializing our financial system. We’re socializing the wealthiest and largest players in our financial system to an unbelievable degree. But we don’t want to help the homeowners and families who were victimized by these loans. It boggles the mind. It truly boggles the mind that people can hold those principles together in their mind and not cringe.

MnIndy: It goes back to the decades’-old idea of the “invisible hand” of the market that’s been at the center of discussions about the foreclosure crisis from the beginning. Let it work itself out, except when it affects Wall Street. How much of this is about politics and clinging to a philosophy than addressing the reality of the situation?

Cox: It absolutely has become about that. If you’re truly a real free marketer, how can you suddenly support all these bailouts? It’s comfortable for me to support both, because I don’t believe markets have much capacity to exist outside of reasonable public control and limits. So for me, subsidizing the markets was a result of our terrible thinking over the last 25 years. I would use the word “childish” thinking about the ability of financial markets to police themselves.

So it doesn’t surprise me that we need to do this. But the idea that we need to enact socialism for business risk, but believing basic government protections–even when they don’t cost money to the public–for homeowners who were caught in this disaster is somehow an affront to the free market and availability of credit is a ludicrous and contradictory position. It speaks not well of our politics that people can hold that position without having to defend themselves from questions about the obviously discordant nature of their views.

MnIndy: Out of this, too, it seems it’s only fueled the same political rhetoric and denial. But a clear analysis and call for action beyond the market crisis seems to still be missing.

Cox: It’s become out of control. McCain’s people have this rhetoric about greed on Wall Street and firing the SEC commissioner? Why don’t they jut fire the Idaho health-department commissioner? It’d be the same thing. It is not how we got into this mess. It is just absurd rhetoric. And, again, we have a poverty of political discourse that a comment like that that isn’t met with howls of incredulity. It’s an absurd statement. And underlying it is a total lack of a policy that will deal with this in any way that will actually help people.

And Obama’s plan is timid. It’s been timid since the beginning. It’s a little more of a step in the right direction. But it never grasped the magnitude of the problem or the need for strong public control over the process to protect the most number of homeowners. All of which is entirely doable. It’s simply a matter of political will. And I really hope that Democrats finally get a backbone and put in provisions that will actually help homeowners.

MnIndy: What is it that the candidates—and especially the Paulson bailout—is missing? Are we talking simply about a provision that would help homeowners in bankruptcy? Are we talking about allowing homeowners facing foreclosure to refinance? What about those facing negative equity?

Cox: If we’re talking about a national solution, helping homeowners means enforced loan modification. That’s number one. So we just have to take the people who are in trouble or in default on their mortgages, and we have to rewrite these loans in a way that’s fair. You can’t save everybody. You can’t save more than half the people at most.

But these risky loans a huge part of the part of the problem. And you’ve saved a lot of homeowners, you’ve prevented properties from being dumped on the market. The homeowners aren’t going to get a bail out. No matter how you do it, they will still pay for their mortgage. But they might get some balancing of the leverage, so that homeowners have something to come to the table with that will allow them to survive.

The second thing that should happen is preserving and creating more rights for homeowners who were victims of the worst kinds of lending to allow them to recoup their losses. And the third thing, and most important in the long run, is effective regulatory structure. These kinds of things are happening not only with mortgages, but the underlying causes that drove refinancing and the crisis, which is consumer debt in America and they way we don’t regulate consumer debt.

We’ve lost critical years since this crisis started. In the year and a half since we’ve been deep in it, we have done zero, in capital letters, ZERO, to force lenders to force lenders to enter in to reasonable accommodations with homeowners. We have press release after press release after press release about voluntary measures, none of which have done anything to end the problem. They’re just a lot of press releases. And homeowners are still the real victims in all of this.

In Minnesota, Sen. Ellen Anderson (DFL-St.Paul) and Professor Prentiss Cox, a former assistant attorney general who teaches at the University of Minnesota and specializes in consumer issues, have a plan to ease the foreclosure crisis in Minnesota until a federal package is enacted. They’ve worked to create the Subprime Foreclosure Deferment Act (SF3396), which would keep more than 15,000 Minnesotans from losing their homes.

The bill’s premise is fairly simple: Homeowners must have a subprime or negative amortization loan; it must have been originated before August 1, 2007; it must be for an owner-occupant property; the owner must have lived in the residence six months prior to foreclosure and intend to live there for the duration of the deferment period. If they meet these criteria, homeowners then must file an affidavit for foreclosure deferment with the lender and then pay either 65 percent of the payments due when the homeowner defaulted, or the minimum monthly payment when the mortgage was first created, whichever is less.

In other words, they’re required to pay their mortgage. There’s no money given for relief. The bill simply gives homeowners the ability to negotiate a plan with lenders, most of whom have been unwilling to compromise in the face of the mortgage meltdown and credit crunch.

But like most immediate homeowner help, the bill also faces opposition, chiefly in the person of Tim Pawlenty. The governor has said he’d “probably” veto it because it might scare away lenders and dry up credit. Prentiss Cox says that’s ludicrous and that Pawlenty is being swayed by the industry that caused the problem in the first place.

Cox talks to Minnesota Monitor about the bill and why it’s important that plans at the state and federal level get passed into law now.

Continued: Click “Read more”Minnesota Monitor: There are so many proposals at the state and federal level regarding foreclosures. It’s hard to keep track of what’s next and what’s in the works and what each bill is about. Can you explain the goal of the Foreclosure Deferment Bill?

Prentiss Cox: With the current foreclosure crisis, you have long-term, medium- and short-term. In the long-term, we’ve shut off the underlying problem, the creation of the situation. Now that assumes we don’t have an economic crash that everyone seems to be talking about. What caused this crisis in the potentially long term has been shut off. 

In the medium-term, there is going to continue to be a wave of foreclosures and probable foreclosures. There are increasing tools to try to deal with this that are just proposals. Nobody has enacted anything to really help people in foreclosure. It’s sort of all these big notions that aren’t being implemented.

So that’s the genesis of the deferment: We just have to freeze the situation for people who have a realistic chance of prevailing at the other end versus kicking them out [of their homes] because people are talking and not doing.

That’s why I think the deferment is so important at the state level, because there are no solutions now. And that would help prevent more abandoned property by keeping a certain percentage of people in their homes.

MinMon: So there’s relief for subprime borrowers. But what about the second wave of foreclosures we keep hearing about, the Alt-A or no-interest mortgages that have yet to peak?

Cox: The negative-amortization proposal [in the Subprime Foreclosure Deferment Bill] was aimed at those. That’s the most common type of Alt-A mortgage, the option ARM with the negative amortization. So the deferment was also aimed at that group.

What’s going to happen with those loans is a little trickier, for a few reasons. One is, they are more geographically spread, so you don’t get this concentration in areas where property values are plummeting by huge numbers. That changes it a little bit. They aren’t as likely to decline as rapidly. When you have a property that goes on sale in a nice area of Golden Valley, it’s not likely to become abandoned and vacant relative to the chances of that [occurring] in a poorer area.

MinMon: And most people with Alt-As have higher credit. If they aren’t in negative-amortization, is it likely they will refinance if their home values haven’t declined too much?

Cox: They have more chances to refinance and get out of these situations that way. But that’s kind of a question mark. We still don’t really know how or if these people will be able to get out of these situations yet.

So the two options you have are to refinance or sell when your mortgage payments exceed what you can afford. And unless we get some help in these developing federal solutions, you’re down to refinancing or selling. And Alt-As have a better chance on both ends. So you will probably see a higher percentage of Alt-As that default work their way out. But the question is, are we talking about 20 percent or 80 percent that go from default to foreclosure? And that we don’t know.

MinMon: What is right and wrong about some of the proposals at the federal level? What have been some of the main issues that might not be at the forefront of discussions in the press but still matter in staving off the growing crisis?

Cox: The better proposals are really good. I just don’t know what their chances are of passing in the current environment. The better proposals are the bankruptcy reform, which would allow bankruptcy judges to do enforced loan modification. And the FHA financing reform that makes the new FHA money contingent on loan restructuring and write-downs, and putting loan loss at the back of the loan and sharing equity.

MinMon: The federal housing stimulus package presented by Sen. Christopher Dodd on Monday did not include the bankruptcy provision. Can you talk a little about how and why that happened? Is it purely banks’ disdain of the provision?

Cox: My understanding is that the bankruptcy provision was taken out of the package that went to the floor, but there was an agreement that the Republicans would not invoke cloture on a vote to add bankruptcy reform as an amendment. The current status is that the amendment was raised and tabled, and the prospects for passage in the Senate do not look good.

The current Senate bill is what could be obtained over the objections of Senate Republicans, who were prepared to filibuster the bill that contained substantial mandatory remedies. The financial services [sector] may be the most powerful lobbyist, and [is] certainly one of the most prolific campaign contributors in Washington. 

The bankruptcy provisions would eliminate the current prohibition on bankruptcy judges making loan modifications in residential mortgages, as these judges can do with commercial mortgages. There is an irony in the Senate refusing to enact this provision, given the wholly lopsided bankruptcy re-write in favor of the financial services industry in 2005. 

MinMon: You mention the uncertainty of these bills passing in the current environment. Gov. Pawlenty has said he would likely veto the Foreclosure Deferment Bill because it would affect credit elsewhere. Is there any way helping these homeowners could freeze credit?

Cox: The governor’s initial position is something I really hope he reconsiders. It is sort of the worst knee-jerk, doctrinaire conservative thinking about a problem.

First, he is just flat-out wrong. While it is often true that this type of regulation could result in [credit tightening], in this particular circumstance or crisis, that type of credit has already dried up due to abuses of the lending community. So they are no longer making the kinds of loans that are targeted here. Subprime securitized credit doesn’t exist, so it’s kind of hard to dry up credit that doesn’t exist.

Negative-amortization loans are illegal after our anti-predatory lending law that the governor supported that was passed last year. So I am a little mystified how you dry up credit that doesn’t exist.

I think this is a really bad approach because it is both false and divisive. It’s creating fear among the average homeowner that somehow this modest approach to helping homeowners in crisis is going to hurt them. And in this environment — with this targeted approach, and with collapsed credit already in those areas — it’s just simply false.

MinMon: Pawlenty also announced last week, when he said he’d veto the bill, that there would be money instead for loan counseling. But is that even an issue given the new loan parameters?

Cox: We can all agree that loan counseling is good. But loan counseling doesn’t do any good if lenders aren’t willing to take losses and make serious loan modifications for people who are in this crisis. And most lenders are not willing to do that kind of restructuring without clout in the form of federal solutions or something else. And the [Minnesota] deferment bill itself would provide borrowers with some clout to enforce reasonable shared loss to loan modifications.

MinMon: Aside from Pawlenty’s stance, what has the biggest challenge with this bill?

Cox: You know, I am astounded that the American Securitization Forum, which is the trade association for these people who do these secondary mortgage loans — the governor is basically accepting their position on this.

And I gotta ask, Why in the world do they have any credibility at all? They just created this crisis through their lending practices and essentially created a global financial crisis. They should be trying to clean up their mess. Not threatening us with false financial choices. It’s disappointing to see the governor accept their position on this.

Of course, the irony is, this bill doesn’t require any taxpayer money. This isn’t a bailout. This is just an attempt to freeze the situation to create a bridge to these federal solutions and keep as many people in their homes who have a realistic chance of retaining homeownership at the end of the crisis.
That contrasts with the $30 billion bail-out of Bear Stearns, which I think was good policy, but that’s a $30 billion taxpayer bailout.

And how you can be silent about or support that, and then claim that this modern, targeted approach that’s going to help families in crisis and help stabilize the local real-estate market is somehow going to cause a credit crunch in the face of this $30 billion bail-out? There’s a contrast there worth noting.

And the securitization industry, again, they should be contrite, not blustering.

MinMon: Isn’t this opposition to the bill part of what we’ve been seeing for decades, though? I mean, in some ways, this whole idea that government is bad, free market is good — it’s an ideology versus a reality?

Cox: I hope that we are over that period. What I was assuming was that this crisis that was created by the lack of prudent regulation in an uncontrolled market would’ve been a clear wake-up call.  So the position the governor was taking would be obviously discredited to everyone.

But it seems like we’re still stuck in that same debate. Which, to me, seems pretty divorced from what is happening. I am astounded that the language and the frame of this debate doesn’t just accept the reality that this was a situation of an uncontrolled market causing tremendous pain for everyone — homeowners, communities, real-estate professionals, investors — the whole range.

I think many of those industries and many politicians are still stuck in their reflexive opposition to any prudent government regulation of the market. And I think it’s time we got past that. I think it’s past that.

And if we can’t see that, in this crisis, then I’m a little mystified as to what it would take to get people to see the consequences of continual deregulation of all aspects of economic life. It’s the archetype of why you have thoughtful government regulation.

I don’t think it can be too much clearer that the systematic attack on prudent government regulation caused this crisis. Maybe there will be another wake-up call after this, but I cannot even imagine what that would be.

For more on Prentiss Cox and foreclosures in Minnesota, check out this eye-opening presentation he gave at the University of Minnesota last week as part of the College of Continuing Education’s “Headliners” series. It includes audio and Cox’s PowerPoint presentation outlining the growing crisis in Minnesota and what it means for everyone.