California must lead, not follow, on mortgages
Given the impact of subprime crisis, state must do more than apply new federal rules
June 28 2008
The current home mortgage meltdown has roots in the 1980s when Congress and the president deregulated the nation’s financial institutions. Not surprisingly, a full range of non-bank lenders and brokers emerged, offering complex, risky loan products with little or no regulation and oversight.
It’s worth noting that many of these loans involved mortgage companies and brokers that are state-chartered. California embraced the unregulated market and now suffers the consequence. We now know there were many abuses. Clearly there should be stronger efforts to police this Wild West marketplace – at both the federal and state levels.
Belatedly, the Federal Reserve stepped in with October 2006 “guidance” to federally regulated lenders to tighten lending practices, to assure that borrowers have the ability to repay over the life of a loan. But the Federal Reserve realizes guidance alone isn’t enough, so it is completing rules setting national standards for federally regulated lenders.
So what has California’s response been? The state essentially has waited for the federal government to act and then has done the minimum to follow federal rules, rather than leading with its own response to the crisis of foreclosures and delinquencies.
For example, Sen. Mike Machado, D-Linden, authored a bill (Senate Bill 385, signed into law last September) that extended the federal October 2006 guidance to state-regulated entities engaged in mortgage lending and brokering. He believes SB 385 takes care of the largest problem – having lenders assess the ability of the borrower to repay over the life of the loan and providing a simple disclosure sheet for borrowers. But there’s little recourse for borrowers if lenders don’t follow through.
Now that federal regulatory fixes are in the works, Machado again is recommending that California simply extend the federal rule, when it is final, to state-regulated lenders and brokers. In other words, he wants California once again to be a follower, not a leader.
Machado says he doesn’t want to create a dual state-federal system where lenders have to make calculations under both. But under our system of federalism, states have an obligation to police their own licensees and to protect their own borrowers. Further, states are laboratories of experimentation that on many matters have taken the lead in crafting strong laws that get picked up by other states and the federal government.
New York is an example. There, a bipartisan agreement between governor and legislature this week includes measures that go beyond the federal regulation – such as making mortgage payments reflect true costs (including property taxes and hazard insurance), banning flipping of loans into subprime loans without a benefit to the borrower, and prohibiting prepayment penalties on subprime loans.
In California, the killing and watering down of bills in the Legislature the past couple of weeks is a very bad sign. The situation calls for creative steps, not tit-for-tat squabbles between Senate and Assembly or complacency from Gov. Arnold Schwarzenegger. The consequences of taking bold, experimental action in this still-developing collapse of the mortgage market are far less than the consequences of caution and inaction. It’s time to act.