The Obama administration is focusing on the short-term pain of families losing their houses and neglecting the long-term costs of undermining the integrity of contracts.This mischaracterizes what the foreclosure plan does. First, it allows millions of homeowners to refinance. Second, it uses TARP funds to provide liquidity to lending markets. Third, it sets guidelines for modification of sub-prime loans. Now this portion of the plan does require payment reduction and caps on monthly payment amounts, but these mandatory guidelines apply to institutions that receive assistance from the federal government. If you're a lender that doesn't want renegotiate your sub-prime loans - fine: stop taking taxpayer money. Seems like a reasonable quid pro quo.
But GG's primary beef is with loan modification as part of a bankruptcy proceedings, then he just doesn't see eye to eye with the framers of the constitution. Article I, Section 8 of the Constitution gives Congress the power to establish uniform bankruptcy laws throughout the United States. This explicit grant of power is in the same section of the Constitution that give Congress the power to coin money, organize and provide for a military, and declare war. From this, one can infer that the Constitutional Convention found the provision of national debtor protection laws was less controversial that say, the freedom of expression, religious freedom, or freedom of the press.
Since then the US has had a long history enacting pro-debtor laws that have benefited not only individuals, but also large corporations. In fact, lenience for corporations with debt problems is one of the hallmarks of American bankruptcy law. This tradition is codified in Chapter 11 of the Bankruptcy code and is called reorganization. While not unique to the US, the idea that a debtor can hold on to its assets, renegotiate credit terms, and continue to operations without the immediate threat of liquidation or foreclosure is a truly American legal tradition. Under Chapter 11, if the creditors and the debtors can't find mutually agreeable terms for restructuring the debt, the Court may step in and create terms that would allow approval of the restructuring plan.
Therefore, for at least the last 125 years, commercial lenders have always entered into lending agreements with the understanding that a court could rewrite the terms of the loan agreement. Yet American credit markets have grown through these years and America's companies have been able to borrow plenty (perhaps too much). Thus there is ample evidence credit markets can function and grow, even with the threat that a bankruptcy judge may not honor the "integrity" of the original contract.
Now, over the years, Chapter 11 reorganization has been available only to companies and high net worth individuals. The average person couldn't file for bankruptcy and hope to hold on to their home. The Obama administration means to change this by providing all Americans with the same protections afforded to corporations and the rich. Of course, if the debtor is unable to meet its restructured obligations, all bets are off and the lender can foreclose.
Ironically, the absence of any means for an individual to renegotiate home loan terms in bankruptcy may have created a moral hazard wherein lenders (using the faulty assumption that home values would always rise) could offer sub-prime mortgages with little or no risk. Lenders could extend credit with confidence knowing that if the borrower did default, they could quickly foreclose on the house and never have to deal with the borrower again.
With this change to the bankruptcy laws, lenders will have to be more cautious in lending with the knowledge that the terms may have to be renegotiated and that easy foreclosure is not an option.
What is hypocritical here is that just months ago, GG was demanding that the Big Three be placed in bankruptcy so that a judge could rewrite the terms of union and labor contracts. Apparently, there is no need concern ones self with the "integrity" of contracts when average working folks are the ones getting the shaft. But God forbid using the same laws for the benefit of average working folks if it means lenders may have to renegotiate terms of some of their more boneheaded loans.