“Reverse eminent domain” — the seizure of mortgages by municipal governments to keep people in their homes — has yet to be put to the test, but the strong opposition mounted by Wall Street is perhaps negative proof that it is a good idea.
Financial industry opposition has so far cowed any government from actually implementing such a plan, even though one suit filed in California was thrown out as premature. That suit was aimed at Richmond, California, where the city government in July 2013 declared its intent to use eminent domain — U.S. laws ordinarily used to seize properties to clear land for construction projects — to buy mortgages and refinance them.
Cold feet on the part of some city council members has prevented Richmond from actually implementing its plan. But a second city on the other side of the country — Irvington, New Jersey — has voted to carry out a similar program. Fear of being the first has been a factor in the lack of action and if others announce similar intentions, perhaps an interesting experiment will yet be conducted.
The basic idea is this: A local government would buy the mortgage of a home at 80 percent of “fair market value,” which in these cases would be far less than what is owed on the mortgage, and then allow the homeowner to refinance at the new, lower amount. The new loan would be refinanced through a private company contracting with the local government.
This would not be an act of charity. The local government and the private finance company would split the profit that would result from the difference between what the homeowner would owe after the refinancing forced by the use of eminent domain (the property’s assessed “fair market value”) and the lower price at which the private finance company would buy the mortgage (80 percent of “fair market value”). The private company could not do this without a government using its power of eminent domain, which is the power to seize property for a public purpose.
The city council of Richmond, a poor city northeast of San Francisco, voted 4-3 in favor of this plan in July. Under California law, however, it can’t actually implement its plan unless the council has a “super-majority” of five votes, and that fifth vote has proved illusive. Opposed council members variously cite that no other city has stepped forward and a fear that the city would be too exposed to possible liability.
A small reform, not an overturning of economic relations
Although the banks and speculators who have profited enormously from the housing bubble would have you believe that refinancing mortgages proffered by predatory lenders is some sort of socialist outrage, the idea is in actuality a capitalist reform. The person most credited with conceptualizing the idea is a Cornell University professor, Robert Hockett, and he published a paper promoting it on the web site of the Federal Reserve’s New York branch.
The Federal Reserve? The part of the government that exists to see to the expensive needs of financiers hasn’t become a socialist bastion, has it? No, it surely hasn’t. Professor Hockett’s paper can’t be taken as, and isn’t, the policy of the New York Fed. But the mere fact of the Fed publishing it demonstrates that we are not discussing anything remotely resembling a threat to the capitalist order.
The paper simply acknowledges that providing assistance to “underwater” homeowners is the “best way” to assist them. Most mortgages have been bundled into pools of “mortgage-backed securities” nearly impossible to unravel; attempting to make a deal with the holders of these securitized mortgages, assuming they could even be determined, can be avoided by instead using local governments as the dealmakers. Professor Hockett advocates this in the context of refusing to blame homeowners for a bubble not of their making:
“[O]wing to asset-price bubbles’ status as collective action problems, it is doubtful that many homebuyers during the bubble years had much choice when it came to buying overvalued homes. That most homes were overvalued is what rendered the bubble a bubble. It therefore seems mistaken to blame homeowners as a class, or to characterize write-downs as per se unfair or morally hazardous.” [page 8]
Professor Hockett elsewhere argues that the plan would actually increase the value of the targeted loans. Writing on the Web of Debt Blog, he argues that the very fact that it is the loans “most deeply underwater” that are targeted is what makes the plan beneficial:
“[D]eeply underwater loans are subject to enormous default risk (just look at Fannie [Mae]’s and Freddie [Mac]’s [Securities and Exchange Commission] filings for a hint as to how high that risk is — nearly 70% for non-prime and 40% even for prime loans), such that one actually RAISES the actuarial value of the targeted loans by purchasing them and writing down principal so long as one targets the RIGHT loans. … The whole POINT of the plan is to target ONLY deeply underwater loans and associated securities that will be POSITIVELY affected. Those are EXACTLY the loans Richmond and other cities are looking at.” [emphases in original]
Predators profit, prices plunge
Cities like Richmond, with a large minority population, were particularly targeted by predatory lenders. Housing values in Contra Costa County, which includes Richmond, fell 47 percent in 2008 and another 24 percent in 2009. Prices have not recovered. The Richmond plan targets more than 600 mortgages, although that represents only a fraction of the city’s foreclosure-threatened houses.
The private company working with the city is Mortgage Resolution Partners, which refers to itself as a “community advisory firm” and says on its web site that it “will earn a government approved flat fee per mortgage — the same fee that any major bank earns today if it successfully modifies a loan under the federal government’s Home Affordable Modification Program.” (That fee is in addition to the expected profits to be shared with local governments.) The company’s head has worked as an asset manager for several financial companies.
Mortgage Resolution Partners pitched the plan to Richmond, whose Green Party mayor, Gayle McLaughlin, continues to support it. She led a community delegation across the bay to Wells Fargo to negotiate, only to have the bank lock its doors and refuse to negotiate. Wells Fargo and Deutsche Bank were the two banks that sued the city last summer after its vote in favor of the reverse eminent domain plan.
A federal judge threw out the suit because no mortgages had yet been seized, but it is likely new suits would swiftly follow should Richmond or any other city begin to implement such a program. Moreover, the Obama administration’s Federal Housing Finance Agency has threatened sanctions against any jurisdiction that seizes mortgages. An additional threat, that of a capital strike against Richmond, seems to have dissipated, at least for now. A bond offering by Richmond in August 2013 was snubbed, but the city successfully sold $28 million worth of bonds last month.
Perhaps the most likely factor to make reverse eminent domain work would be for it to be widely adopted. Irvington, New Jersey, a poor city bordering Newark, on March 25 became the second U.S. municipality to approve such a plan. Irvington has already been threatened with refusals to issue loans to the city’s government or to any of its residents — an illegal “red-lining” of an entire municipality. Several other cities, including Newark, have discussed reverse eminent domain plans, although San Bernardino County in California dropped its plans in the face of threatened court challenges.
These plans are not without legitimate controversy. Public pension funds are invested in all sorts of financial products, and widespread reductions in mortgages could affect others than banks and speculators. The California Public Employees Retirement System, which holds about $11 billion of mortgage-backed securities, has expressed concern about the Richmond plan, although it has not opposed it. Plan proponents, however, argue that value will be added because the mortgages most at risk of default will be the targets, avoiding default and allowing homeowners to remain in their homes.
There are no magic elixirs here. The voracious growth of financialization has ensnared retirement funds, meaning that write-downs of debt are not simple matters. There has been much swooning at first sight of the reverse eminent domain idea, and it certainly does have appeal because it would undoubtedly help victims of predatory lenders. Yet plans such as Richmond’s can be no more than temporary fixes helping small numbers of people; expecting the same economic system that has created such a colossal mess to clean up its mess will end in disappointment.
As long as financiers and landlords are allowed to haul in massive profits without constraint, struggling homeowners and renters alike will continue to having their homes subject to being taken away when a larger pot of profit beckons.
In the short term, creative solutions to ameliorate the predatory behavior of financial elites and provide some measure of stability to embattled communities should be welcomed. Nonetheless, it is tinkering at the margins. Lasting solutions, rooted in community control, will require dramatic structural changes far beyond what so far is contemplated.