January 25, 2010

Analysis of Strategic Defaults (3 of 5)


In part 2 of our analysis of Brent White’s paper on strategic mortgage defaults we saw how the homeowner’s decision not to walk away from an underwater mortgage, seemingly irrational on paper, is driven by emotional factors – shame, guilt, and fear. But these aren’t just feelings people naturally have. Rather they are systematically and aggressively drilled into us by the government, the banks, and the corporate media.
Economists shilling for the banks have raised the alarm that if people start to think strategic defaulting is OK, or if mortgage modification policy seems to encourage the act, this may trigger an avalanche of walkaways. It’s true that once defaults become prominent in a neighborhood, they may become contagious as the guilt and fear wear off. (As we discussed in parts 1 and 2, the fact that a region is economically depressed doesn’t seem sufficient to set off this contagion. Rather, it takes time and the sight of others defaulting to wear down moral resistance and trepidation.)
The government has taken (modest) action to try to prevent foreclosures from snowballing in the first place. But they have not sought to do this by lowering the principal on bloated mortgages, which would be disadvantageous to the lenders. Rather, programs like the HAMP claim only to seek to lower monthly payments.
White comments, “implicit in this approach is the assumption that home owners are unlikely to default on their mortgage if they can ‘afford’ the monthly payment.” So even as academic studies pretend homeowners are “ruthless” as per neoclassical theory, and even as these studies are brandished by opponents of real relief, the real life power cadres believe and act as if people are really not so ruthless. On the contrary, they bank on people being conformist, inertial, docile.
Government policy depends upon the effects of fear and guilt to keep people vainly throwing money at an underwater situation, against their own interests.
To sum up:
1. TPTB fear contagious defaults once ingrained fear and guilt wear off. They want to prevent these defaults for as long as it’s profitable for banks not to foreclose.
2. They do not want to lower principal, since this would hurt lender profiteering.
3. They believe that as long as the homeowner can afford the payments he’s likely to stay put and keep paying no matter how underwater he is. This is because of that fear and guilt.
4. So the preferred policy is to at least pretend to permanently modify payments, while reinforcing fear and guilt through propaganda.
White cites further numbers from the Guiso/Sapienza/Zingales study: 45% of homeowners would walk away if they were down $300,000. But only 38% of those who think it’s immoral to default would do so under those circumstances, and that’s for the 87% of the whole who do think it’s immoral. That means over 90% of those who don’t believe it’s immoral to walk away would do so if down that badly.
So we can see how those with a vested interest in preventing strategic defaults must seek to instill and reinforce feelings of shame and guilt. And since shame and guilt alone aren’t enough, they also seek to generate fear of the consequences of default.
White points out how “the clear message to American homeowners from nearly all fronts is that one has a moral responsibility to pay one’s mortgage.” (p. 25) It starts at the top with Obama himself lauding the “responsibility” of those who continue to pay, and the harm to “our common values” wrought by those who do not. Henry Paulson, finding time away from stealing from the Treasury on behalf of his old frat Goldman Sachs, was more severe: “And let me emphasize, any homeowner who can afford his mortgage payment but chooses to walk away from an underwater property is simply a speculator – and one who is not honoring his obligations.”
(This was presumably not a Goldman recruitment pitch, yet many have pointed out how Paulson seems to have a different attitude toward their speculators. As Felix Salmon put it, Paulson would have fired anyone at GS who acted according to the morality he’s proclaiming here.)
The corporate media has constructed a wall of moralizing sound, much of it harsh. Fox News especially calls those who fight back vs. the banks “deadbeats”, “obscene”, and compares them to appeasers of the Nazis. The MSM triumphs words like “responsibility”, “honor”, “contracts”, “ethics”. Needless to say, all such terms are used unironically, with no self-awareness, and completely unanchored from any real moral frame of reference, by a corrupt media whose main purpose by now is to shill for the Bailout and for bank and government policy which are in fact obscene, and utterly irresponsible, dishonorable, unethical. It’s our own government and media who are obscene. But Orwell has never had such a field day.
When the media feature someone who defaulted they often shield his identity to reinforce for the viewers the notion that he’s some kind of derelict. What’s more, even the credit counseling agencies, who in theory should be giving people unbiased information on their options, including the rational upside to strategic default, have joined the propaganda chorus. In fact, such “non-profit” agencies as the National Foundation for Credit Counseling (whose rep goes around to interviews blathering about people’s “responsibilities”) are really funded by the lenders, and serve as funnels for lender propaganda.
So when the system “speaks with one voice” (p.29) in framing this as an issue of individual morality, involving core American values, it distracts the focus from the responsibility of banks and government. It seeks to put the burden of responsibility for the bubble collapse on the individual and remove it from the system. What’s more, when the media and non-profits blare the same message, seeming to speak as if from “among” the people, they misdirect attention away from how the banks and the government are the real organizers of this propaganda, and how that propaganda flows from the top down.
In this sense, the MSM and non-profits serve as classical front organizations. Or today we can also call them Astroturfs.
The same dynamic plays out with the misinformation campaign to instill fear. White quotes the ever-eager Time magazine: “What is real is how completely a foreclosure wrecks your finances. Near term, you might get slammed with a massive tax bill, since forgiven debt can be subject to income tax. Long term, car loans and – you guessed it – home loans will be much harder to come by. How’s that for walking away? This is the American Dream ended in disaster.” (p.30)
Wow. Awful. In part 1 we discussed how exaggerated this is, and how any such damage can be mitigated.
It’s an endlessly repeated set pattern. The MSM story first questions the morality of walking away and then quotes an “expert” on how disastrous it’ll be for your credit.
Guilt and fear in tandem operate synergistically. They reinforce one another. So the system seeks to maximize both to obscure the facts about the financial benefits of walking away. The media seldom gives a detailed account of the rational upside. They’re especially unlikely to give a non-alarmist account of the likely repercussions for one’s credit score. On the contrary it’s precisely here where they seek to raise panic.
Credit scores have been the focus of their own microcosmic social indoctrination. People are encouraged to believe that a good score is a source of pride, a formal validation of character. The government explicitly claims the score measures character, calling it a “mechanism for investigating and evaluating the credit worthiness, credit standing, credit capacity, character, and general reputation of consumers” (in the Fair Credit Reporting Act).
A bad score, on the other hand, is supposed to denote bad character, that one is shifty and disreputable. The system does indeed want the dire warnings in the media to reflect reality. The tyranny of the score is intended to reward or penalize you everywhere. The fact that it doesn’t really live up to this is not for lack of malign intent on the system’s part.
When coupled with moral indoctrination, the stick of a bad score seeks to impose emotional suffering as a transaction cost of any action counter to the interests of the banks.
All of this takes place on an extra-legal basis. The contract should be clear on the responsibilities and recourse of the lender and borrower. The collateral is the property itself, not the good name and general socioeconomic prospects of the borrower. If someone borrows from you and you agree upon collateral for the loan, and he fails to pay you back, and you seize the collateral, you don’t then get to punch him in the face as well.
Similarly, the borrower walks, the lender takes the property, the contract is complete. For the lender to then go and trash his credit is the added punch in the face. Yet the government lets them do that, even though it’s outside what any reasonable contract, any rule of law, would allow.  
In part 4 we’ll go into detail about how this is lawless, how it’s really the lender who conspired against the borrower to write a faulty contract and then shift the onus of that contract onto the borrower.


  1. […] of default. An excellent reform would be to amend the Fair Credit Reporting Act. As we said in part 3, when the lender rats out the defaulting borrower to the credit rackets, he’s adding an […]

    Pingback by Analysis of Strategic Defaults – Conclusion « Volatility — January 31, 2010 @ 4:13 am

  2. Russ,

    I think you have described the system very well. Of course it is rigged against the individual, who must be very strong indeed to simply walk away. You forgot to mention the impact of his credit history upon his employability, which is also adversely affected. The truth is that the free citizens of our Republic have been reduced to two dependencies: the credit market and the job market. Those willing to thumb their noses at both had better have family money or considerable poker skills.

    Remember that a class society and its government can only really f**k over its own citizenry. Others vote with their feet. In 1965 I realized my government was hell bent on killing me over control of some jungle real estate. It has been systematically robbing me ever since. As for elections, as Emma Goldman told us, if elections changed anything they would stop holding them. Keep up the excellent work.

    Comment by jake chase — February 2, 2010 @ 7:26 am

  3. Thanks, Jake. I haven’t seen data on how it affects employability, although the way things are going everything that could possibly be adverse must hurt worse and worse.

    Which is of course intentional on their part.

    I think as long as things persist the way they are the only elections which can matter are local, and maybe some state-level ones. The federal government is utterly beyond redemption. I have zero hope for anything good from it for the rest of the system’s history. The best we can hope for is ineffectuality and gridlock.

    Comment by Russ — February 2, 2010 @ 3:01 pm

    • Speaking of it being intentional, this is from the next thing I went on to read:


      “The hearings focused on the Fed’s role as Wall Street’s major lobbyist and deregulator. Despite the fact that its Charter starts off by directing it to promote full employment and stabilize prices, the Fed is anti-labor in practice. Alan Greenspan famously bragged that what has caused quiescence among labor union members when it comes to striking for higher wages – or even for better working conditions – is the fear of being fired and being unable to meet their mortgage and credit card payments. “One paycheck away from homelessness,” or a downgraded credit rating leading to soaring interest charges, has become a formula for labor management.”

      Comment by Russ — February 2, 2010 @ 3:15 pm

  4. […] capable of making the payments. In my previous series on strategic defaults (part 1, part 2, part 3, part 4, and part 5) I discussed the reasons for this. The system’s actions are predicated on […]

    Pingback by Desperation Stage for the Bailout « Volatility — March 26, 2010 @ 5:19 am

  5. […] […]

    Pingback by Analysis of Strategic Defaults (1 of 5) « Volatility — July 15, 2010 @ 3:08 pm

  6. […] […]

    Pingback by Analysis of Strategic Defaults (2 of 5) « Volatility — July 15, 2010 @ 3:10 pm

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