Mortgage Fraud Fueled the Financial Crisis and Could Again

An interesting article which was written by Thomas Herndon and appeared here, is warning that the economics of deception that occurred prior to the economic meltdown 10 years ago to the day is likely to happen again.

The reason he points out is that there is a tendency in Washington to not take Mortgage Fraud seriously and because of that is likely to occur again in the near future.

Mortgage Fraud Was Prevalent

The failure of the mortgages underlying these securities caused substantial losses for the institutions directly invested in them or which held derivatives based on them, as well as loss of wealth for the communities in which foreclosures occurred. The private MBS market suffered $500 billion in losses from foreclosure from 2007-2012, which was disproportionately borne by poor communities that never recovered from the crisis (Herndon 2017; Mian and Sufi, 2017). A large body of empirical research has now convincingly documented how mortgage fraud contaminated all portions of this supply chain (Griffin and Maturana, 2016; Piskorski, Seru and Witkin, 2015; Garmaise, 2015; Jiang, Nelson and Vytlacil, 2014; Black, 2013; Ben-David, 2011). This research has shown how these mortgages were originated with fraudulent and negligent practices, and how these abusive practices were then concealed from and misrepresented to investors who purchased securities based on these mortgages

He Forewarns That It Is Bound to Happen Again

Unfortunately, the spirit of cutting red tape is alive and well in the current administration, as shown below in Figure 2. There is a high danger that our regulatory agencies, including the ones created to address the problems that led to the financial crisis, are currently being weaponized. An example of this is the choice of Mick Mulvaney to replace Richard Cordray as the head of the Consumer Financial Protection Bureau, despite the fact that Mulvaney has stated that the agency was a, “sick, sad joke,” and that, “some of us would like to get rid of it.”[5] Unfortunately, recent history has provided us with the costly lesson that a prudent person should reach for their wallet whenever they hear those responsible for enforcing the rules talk about cutting red tape. We forget this lesson at our own peril.

Stay vigilant, Mortgage Fraud is a very real and present danger.  Lenders, servicers, and regulators need to stay vigilant to make sure that a financial meltdown does not happen again.