Why the Independent Foreclosure Reviews Were Doomed to Fail

Apparently part of the bank flaks' talking points regarding the foreclosure reviews is that to the extent homeowners harmed by wrongful foreclosures, they were actually drug dealers. The message: we didn't foreclose on anyone who didn't deserve it. We were just foreclosing on some scumbags and doing you all a favor by getting the meth lab out of the neighborhood before it blew up. We're part of the war on drugs. 

This talking point is particularly revealing, I think, both about how seriously our largest financial institutions take sanctity of contract, and about the nature of the whole independent foreclosure review sham.  

Running a meth lab in your basement may be an event of default on a mortgage--but if that's going to be the default that triggers a foreclosure, the bank is going to have to prove that you've been running a meth lab on the property. The lender's relationship with the borrower is contractual, not moral. If the borrower does something morally objectionable, it only matters if there is a breach of the contract. If sanctity of contract matters as a social principle, then even meth lab owners rights' must be respected. We have criminal forfeitures to the government, but that doesn't result in civil forfeitures to private lenders other than pursuant to contract. We've seen this vigilante foreclosure line before. 

I think this points at the fundamental problem of the independent foreclosure reviews:  it was a process that was nominally supposed to provide a remedy for various legal harms, but it was not a legal process.  Instead, it was an entirely ginned-up review procedure that lacked any legitimacy: the OCC and Fed were negotiating with the banks over consumers' rights. The gap between regular legal process and the "independent" foreclosure review process is where the problems lie. I have no idea if the outcomes would have been different from IFR if consumers were to actually prosecute their claims in court, but I do know this--their procedural rights would be have been clear and legitimately established and they would get a reasonably fair shake as a result.  

Instead, what the OCC and Fed gave consumers was a jury-rigged, improvised kangaroo system. The avoidance of formal legal process is a hallmark of how bank regulators operate--no prosecutions, just consent decrees, informal supervisory feedback, etc.  This is nothing new--the law firm Kaye Scholer got the short end of this stick in 1992 when OTS froze its assets for representing Charles Keating. That got a settlement real fast. 

Informal, improved process might serve well-enough for prudential regulation, but it clearly will not do when dealing with consumer protection, because the process matters every bit as much as the outcomes. Absent a consistent, fair process, there will always be the suspicion that bank regulators were favoring banks (their true constituency) at the expense of consumers.  Put another way, the independent foreclosure reviews were almost doomed to failure (although not necessarily as egregiously as we have seen) because their design lacked any legitimacy.  

At this point, the foreclosure remediation situation is so bollixed up, that I can't see any satisfactory resolution. I take some comfort in perhaps optimistically thinking that the great foreclosure cover-up might be the last gasp of the pre-CFPB age of bank regulation; hopefully the dynamics of regulation have changed sufficiently that we will not see something like the independent foreclosure review process emerge again. I wonder, though, will the prudential bank regulators ever learn that they cannot keep dealing with banks through ad hoc, informal processes if they want political legitmacy?  Do they even care? And if not, can we make them?