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The Inclusive Economy
Five Realities of the Current Economic Crisis
By Katherine Lucas-Smith on 05/05/2011 @ 03:45 PM
Recently, a paper coauthored by CFED Federal Policy Analyst Katherine Lucas-Smith was published in the Suffolk University Law Review. Katherine and coauthor James. H. Carr of the National Community Reinvestment Coalition wrote “Five Realities about the Current Financial and Economic Crises” as a companion to Mr. Carr’s keynote address at an April 2010 symposium on consumer financial protection at Suffolk University Law School.
“Five Realities about the Current Financial and Economic Crises” addresses the root causes of the Great Recession, how low-income and minority populations have been effected relative to the nation as a whole, critiques federal policy responses, and offers policy recommendations to address the specific needs of the hardest-hit communities. The full article, as well as the complete contents of the current issue of the Suffolk University Law Review, is available online. The following is a brief summary of the article.
The financial crisis and resulting economic contraction were predictable and avoidable, but policy responses in the decade leading up to the start of the recession were inadequate. Consumer advocates and affordable housing experts documented predatory and misleading practices in the subprime home mortgage market over more than ten years, but their concerns were dismissed by the federal regulatory agencies responsible for protecting the financial wellbeing of the American public. A critical lesson of the Great Recession is that stronger regulatory oversight of consumer financial markets and products should be a long-term characteristic of the financial regulatory regime.
Policymakers’ inaction in the years leading up to the financial crisis enabled the damage to concentrate disproportionately in communities of color. Poorly regulated and irresponsible subprime lending concentrated in communities of color and resulted in disproportionately higher foreclosures rates in those areas. The foreclosure crisis has hit African Americans especially hard: black homeownership has declined three percentage points since the rate peaked in 2004. The disproportionate levels of foreclosure are likely adding to the racial wealth gap because the share of total wealth held in a household’s primary residence is almost double for people of color than for non-Hispanic whites.
The primary federal response to the foreclosure crisis, the Home Affordable Modification Program (HAMP), was ineffective. It was able to avert only a small handful of the millions of foreclosures that have taken place in recent years. Since HAMP was launched in April 2009, fewer than 600,000 permanent mortgage modifications have been made, far short of the administration’s initial goal of three to four million. HAMP suffers from a variety of challenges, including inadequate program design, poor implementation, and failure to keep pace with changing market conditions. The limited success of the program is apparent in its low spending: only $58 million of the program’s $75 billion budget (less than one percent) was spent in its first year.
The foreclosure crisis is still ongoing. As long as unemployment remains elevated and the housing market sluggish, more families will get behind on mortgage payments. Throughout 2009, more than 300,000 homes entered foreclosure each month. The pace eased slightly in 2010, though a record number of homes were repossessed by lenders last year. At the end of the first quarter of 2011, the rate of new foreclosures is decreasing—the Mortgage Bankers Association reported that just over 8 percent of all mortgages were delinquent or in foreclosure, as compared to fully 10 percent a year before—but most of these loans are unlikely to recover. Foreclosure will continue to be a drag on economic recovery for years to come.
“Five Realities about the Current Financial and Economic Crises” details a three-pronged policy approach to prevent foreclosures, provide a sense of certainty about the future of regulation to financial firms, and begin to replace jobs and revitalize communities.
First, there are low-cost alternatives to stem the foreclosure crisis and mitigate the damage from unavoidable and strategic defaults. One option is to require pre-foreclosure mediation and conciliation between servicers and borrowers. Under such a policy, states could implement procedures tailored to fit their needs. Servicers would be required to meet face-to-face with borrowers to discuss loan modification options prior to proceeding to foreclosure. Borrowers should be guaranteed access to legal representation and/or representation of a HUD-certified homeownership counselor. Such a program could be modeled after Philadelphia’s successful Residential Mortgage Foreclosure Diversion Program. The Philadelphia program has enabled approximately one third of those who participated in conciliation conferences with pro-bono attorneys and servicers to modify or refinance their loans and avert foreclosure. Another option is to reform the bankruptcy code to better protect homeowners. This includes fully exempting primary residences. Bankruptcy judges would structure mortgage modifications based on borrowers’ income, the properties’ current value, and lenders’ interests.
Second, the new Consumer Financial Protection Bureau (CFPB) should be structured in a manner that maximizes its capacity to ensure the safety and soundness of consumer financial products. CFPB should have comprehensive jurisdiction over all consumer protection laws and authority over all institutions that extend credit to consumers. The new agency should act swiftly to allow states to enact and enforce existing consumer protection laws that are stricter than the federal floor established in the Dodd-Frank financial reform law. CFPB was carefully designed to have robust rulemaking and enforcement authority over consumer financial protection laws, independent decision making capacity and reliable and diverse streams of funding. It is critical that Congress protect these characteristics as CFPB transitions from the implementation stage to full operations.
Third, job creation strategies should be linked to efforts to rebuild the hardest-hit communities. In some communities, home values have dropped 50%, foreclosure rates are above 15%, and unemployment remains in the double digits. Residents’ credit scores have plummeted, their capacity to be reemployed is diminished, and they have spent any savings they had accumulated before the recession. Efforts to support these communities should focus on housing, employment and community infrastructure. Homeowner assistance programs can help some new buyers, and redeployment of foreclosed and abandoned properties will help stabilize values. Intermediary steps are needed, however, to bridge the gap between renting and owning for low-wealth households and those with impaired credit scores. Lease-to-purchase and shared equity homeownership are promising approaches. Supporting small businesses and new entrepreneurs is also crucial for job creation, economic development, and community reinvestment. Job training programs should integrate entrepreneurship training into their curricula. Finally, federal funding for infrastructure investment should prioritize these hardest-hit, disadvantaged urban and rural communities. Improving public transportation, upgrading communications systems, renovating and building schools and community facilities, and other investments to improve basic livability in impoverished neighborhoods will create efficiencies in local economies, produce jobs, and provide targeted training opportunities.
These strategies offer a path forward for an economic recovery that continues to struggle to take hold. Over the course of the recession, the United States shed approximately 8 million jobs; since the economy began to grow again, it has added only 1.6 million. New policy responses such as those detailed in “Five Realities about the Current Financial and Economic Crises “ are necessary to spark additional job growth and help struggling communities recover from the damage they have suffered.
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