Via Paul Krugman, it looks like Rep. Darrell Issa is seeking to investigate the Financial Crisis Inquiry Commission for corruption, citing high staff turnover and conflict of interest.

Monday is the deadline set by Darrell Issa, the Republican chairman of the House oversight committee, for Phil Angelides, chairman of the commission, to provide financial information and e-mail records to allow a congressional investigation of the investigators.

Mr Issa says he wants to check that taxpayers got value for money in the investigation and to examine any potential conflicts of interest, the high staff turnover, requests for more funding and the breakdown in relations between Republicans and Democrats

But if there’s any value in Issa looking into the FCIC, minority member Peter Wallison seems actually like a valid target. Mike Konczal writes:

This report is exactly what he believed in 2009. Think about this. We paid this guy at a level IV of the Executive Schedule, which is a juicy six-figure salary, for the days he worked. He had a staff, subpoena power, researchers, documents, access, interviewers. And he ultimately had a responsibility to be an investigator. And his final product is a handful of AEI white papers from 2009 stapled together. If there is new evidence from his investigations I didn’t see it on the first pass. He could have not been on the FCIC, we could have put in a conservative who was serious about getting to the bottom of what’s broken with our financial system, and Wallison could have written the same exact thing on his own.

I don’t presume that there’s nothing for Issa to investigate about the FCIC. But if he’s honest, he’d start with this glaring report from Wallison. Somehow, though, I doubt that this Republican attack dog will sink his teeth into the actions of Republican members of the FCIC.

Good stuff from Mike Konczal on Third Way’s proposed bank bailout around fraudclosure. He concludes with a very loose prescription for a real solution, contra Third Way:

I’ll have more about what an alternative solution should look like, but this isn’t it. We need to remove servicing from loan modification process. That involves canceling the mess that is HAMP, creating a chapter M for bankruptcy, forced mediation before foreclosure, and an emphasis on principal writedowns. We need a serious investigation of the servicing industry, focused on criminal conduct and the software used. And we need to see if Dodd-Frank needs to be put into play for bank restructuring. That’s the price for fixing whatever the bank lobby wants done at the Federal level.

We know what we need to do in order to build out from this financial crisis and get the economy going again; it’s just a question of whether or not we’ll go for another bailout to paper over the losses.

I really look forward to what Konczal puts forward as an alternative solution.

I want to highlight this response by Yves Smith to Third Way’s prescriptive policy proposal as to how to respond to Ibanez and move forward to a ‘solution’ on the foreclosure crisis. This is some truly dangerous, insidious stuff and it would be poisonous for any Democrat elected official or Democratic spokesperson to further it. Unfortunately, that’s exactly the audience that Third Way appeals to: Democratic insiders and elected officials. When I worked on Mark Begich’s Senate campaign in Alaska, we regularly received every policy update and suggested communications package from Third Way, on issues from crime to smut on the internet. The pipeline from Third Way into Democratic politics is wide and what they put out moves fast.

It isn’t shocking that Third Way would put out a proposal in response to fraudclosure, nor is it surprising that the proposal largely consists of measures that amount to another massive, taxpayer-funded bailout for Too Big To Fail banks. Smith goes through the plan and dismantles it with ease. Her whole post should be read, but here are a few key portions:

The big difference between the original and the new, improved version of the bailout model is that the payouts to the banks were at least in part visible the first time around. This is an effort yet again to spare the banks any pain, not only at the cost of the rule of law but also of investor rights.

This proposal guts state control of their own real estate law when the Supreme Court has repeatedly found that “dirt law” is not a Federal matter. It strips homeowners of their right to their day in court to preserve their contractual rights, namely, that only the proven mortgagee, and not a gangster, or in this case, bankster, can take possession of their home.

This sort of protection is fundamental to the operation of capitalism, so it’s astonishing to see neoliberals so willing to throw it under the bus to preserve the balance sheets of the TBTF banks. Readers may recall how we came to have this sort of legal protection in the first place. England learned the hard way in the 17th century what happens with low documentation requirements: abuse of court procedures, perjury and corruption become the norm. Parliament enacted the 1677 Statute of Fraudsto establish higher standards for contracts, such as witnessing by a third party, to stop the widespread theft of property that was underway.

The memo completely ignores the harm to investors from the bank mistakes and lacks any provisions for damage to investors to be remedied. Moreover, denying borrower rights removes their leverage to obtain deep principal mortgage modifications, which for viable borrowers produces lower losses than costly foreclosures and sales of distressed property. Thus this shredding of contractual protections in mortgages not only hurts borrowers but also harms investors.

So to save the banks from their own, colossal abuses of contracts that they devised, the Third Way document advocates Congressional intervention into well established, well functioning state law. This is a case where these matters can and should be left to the courts and ultimately state AGs to coordinate the template of a more broadbased solution.

But this proposal is this memo is a direct result of the banks losing in court and the fear that they will continue to lose. The Massachusetts Supreme Judicial Court Ibanez decision is clearly the trigger for the release of this plan. The SJC said its decision was merely articulating well established law. Consistent application of these principles will mean more losses for the banks. This memo is clearly an attempt to stop this as soon as possible. The real message of this document is clear: we can’t permit justice to prevail if it will hurt bank profits and balance sheets.

Smith goes on to look at  how Third Way is proposing homeowners and tax payers give TBTF banks trillions of dollars in exchange for nothing:

Is there any other instance where an entire set of parties to a broad class of contract have gotten a free waiver for their own enormous, costly, and purely elective errors? The normal arrangement is that to obtain a waiver or a change in contract terms that has economic value, consideration must be paid. Remember the JP Morgan purchase of Bear: the reason the price went from $2 per share to $10 was that JPM had made a drafting error that left it exposed to more risk than it had bargained for and it needed to reopen the deal.

But I see no proposal here to have borrowers receive compensation from servicers and trustees for having their rights compromised. Aha, that’s the reason for all the expatiating about the Ibanez decision being bad for borrowers. They should give a major concession for free because it’s really good for them! Stockholm syndrome in action!

If the Third Way types were truly concerned about protecting homeowners rather than banks, they’d at the very least give homeowners something in return for the rights they are being asked to sacrifice, such as allowing courts to write down mortgages to current market value in bankruptcy (a well established practice for virtually every other type of secured lending).

This is what the transfer of wealth from working Americans to the top 1% looks like.

Additionally, Third Way’s plan seems guaranteed to create massive upheaval and uncertainty in the housing markets, due to the fact that if it were implemented, it would face constitutional challenges in every state in the nation.

An ironic aspect of this proposal is that it is depicted as a way to reduce uncertainty. In fact, any Congressional intervention into well-settled state based real estate law is very likely to generate Constitutional challenges, particularly since Federal bank regulators have acknowledged that state law still applies to securitization assets. That in turn will increase, not reduce, uncertainty, and put the real estate market in an greater pall than it is now.

Third Way wants to make sure the Too Big To Fail banks, which seem almost, if not entirely, insolvent,  never have to pay for the gambles they have taken in the housing market. This move does two things: it creates a massive moral hazard and it preserves systemic risk, making it nearly certain that the TBTF banks will use another opportunity to blow up our economy. I would hope that as a result of these consequences, no Democrat or Republican will take Third Way’s suggestion seriously.

Yves Smith has a must-read post responding to some ridiculous comments by Barclays’ CEO Bob Diamond. Smith highlights the dynamic the banks have set up, namely “Heads We Win, Tails You Lose”:

Diamond’s presentation was yet another reminder of the banking industry’s continued extortion game, namely, that they can take outsized, leveraged risks and when they work out, pay themselves handsome rewards, and when they don’t, dump them on the taxpayer.

But this passage stands out particularly clear:

As we have noted often in the past, the very idea that employees of major banks are entitled to even as much as average wages is a stretch. If the true cost of their operations was priced in, they’d all be out of business. By any standards, they should be paying all the rest of us to be allowed to do so much damage with so little interference.

Andrew Haldane of the Bank of England goes through the math. In a March 2010 paper, he compared the banking industry to the auto industry, in that they both produced pollutants: for cars, exhaust fumes; for bank, systemic risk. While economists were claiming that the losses to the US government on various rescues would be $100 billion (ahem, must have left out Freddie and Fannie in that tally), it ignores the broader costs (unemployment, business failures, reduced government services, particularly at the state and municipal level). His calculation of the world wide costs:

….these losses are multiples of the static costs, lying anywhere between one and
five times annual GDP. Put in money terms, that is an output loss equivalent to between $60 trillion and $200 trillion for the world economy and between £1.8 trillion and £7.4 trillion for the UK. As Nobel-prize winning physicist Richard Feynman observed, to call these numbers “astronomical” would be to do astronomy a disservice: there are only hundreds of billions of stars in the galaxy. “Economical” might be a better description.

It is clear that banks would not have deep enough pockets to foot this bill. Assuming that a crisis occurs every 20 years, the systemic levy needed to recoup these crisis costs would be in excess of $1.5 trillion per year. The total market capitalisation of the largest global banks is currently only around $1.2 trillion. Fully internalising the output costs of financial crises would risk putting banks on the same trajectory as the dinosaurs, with the levy playing the role of the meteorite.

Yves here. So a banking industry that creates global crises is negative value added from a societal standpoint. It is purely extractive.

Smith concludes:

Diamond’s candy-coated defiance shows that three years after the crisis, nothing has changed.

And this is the point. If after a crisis of this magnitude, policy makers in Washington of both parties have decided that there is no need to fundamentally change the role banking plays in the global economy, then the odds of it happening now are basically nil, at least without a fundamental restructuring of politics that includes at least one political party believing in accountability for Wall Street. Most importantly, there must be some cohort in politics and policy making that stands in opposition to a “purely extractive” industry, let alone one that has already wrecked our economy once in recent memory.

I think Matt Taibbi does a good job at getting at the dangers the Ibanez ruling creates, but provides a pretty adequate sense of the scope of what will need to be done to actually make the fraudclosure mess right across the country.

I’m not sure I completely understand the ramifications of it, but certainly it sounds like a great thing on the surface — at the very least, I’m sure the partners of every one of the major Wall Street banks developed 5-6 new hemorrhoids at the news of this decision.

There’s a flip side, of course, which is that decisions like this, and ones that invalidate the MERS transfers — they may forestall unjust foreclosures and keep people in homes, but they won’t actually do much to fix the situation. Preventing bad foreclosures is great, but I’m pretty sure they need to come up with some sort of legislative solution to a) properly compensate the investors in the MBS who are usually the true owners of the mortgage b) negotiate new payment schedules so that homeowners who win these applications don’t feel like squatters but legitimate owners c) preserves as much as possible the credit scores of the homeowners in question, and d) create a modern registry system that does make sense, that both compensates the state for taxes and makes sales of mortgages efficient. I don’t think they can do this through the courts; we’re going to need a federal law that creates a logical procedure for dealing with the bad mortgages from the bubble period, an amnesty or a federal review or something. The problem is, of course, is that any move to legally change the status of these mortgages would affect the value of all these mortgage-backed instruments still floating around, which would leave these banks more or less instantly bankrupt, which would set the stage for another round of bailouts. If this decision means the banks have to take a big loss, they’ll find a way somehow to put that bite back onto the taxpayer. As I saw a commenter on Zero Hedge (with the apt handle what_a_mess_man) write, “cue another back-door, taxpayer-funded bank bailout in 3…2…1!”

I really don’t think there’s any why for there to be a judicial solution that is similar across all fifty states. Or rather, while each state is obviously entitled to follow its own real estate law, I don’t know that waiting around for 50 individual solutions is realistic. Fraudclosure is a systemic risk. There needs to be a response targeting the entire system, which necessitates a federal one.

The starting point for federal conversations about how you solve this needs to include the following premises: (1) property rights must be preserved in America; (2) the big banks are already insolvent; (3) people that have repeatedly fracked the economy do not deserve compensation for doing so, let alone the opportunity and backing of the federal government to do it again. A solution would likely involve breaking up all of the Too Big To Fail banks, providing a bailout directly to their RMBS investors, and cramdown for all underwater mortgages in exchange for a proper sorting out of ownership to these notes, most likely as Taibbi says to the owners of residential mortgage backed securities.

Obviously this is a very rough approximation of how to solve some of the big, top-line issues in the fraudclosure time bomb. But at a certain point, until some of the biggest issues about how to deal with TBTF banks, MBS investors, and underwater homeowners are addressed, the other questions can’t be answered adequately. We have to know what we want the economy to look like at the end of this thing to make the right steps in that direction.

Mike Konczal:

And the most worrisome thing is that the obvious solutions for where we are at – a short period of higher inflation, massive credit writedowns, and a larger government deficit paid for with higher taxes on the rich and the largest banks – are all things this new financial elite hate. And the current debates about “structural unemployment” or a lack of interest in jobs provide cover for an obvious priority with this elite – the American middle-class was an anomaly of history, an artifact of the Cold War and the post WWII era. Regular Americans are going to have to take a massive cut in wages and lifestyle in order to recover. This was the argument in the age of Keynes and the Great Depression, and it is the argument now. No wonder the Democratic party looks paralyzed from the outside.

This is a straight-up terrifying analysis of our current economic situation.  Of course what makes it terrifying isn’t what Konczal is saying, but the reality that he is describing.

That said, I am not willing to accept that “the American middle-class was an anomaly of history, an artifact of the Cold War and the post WWII era.” Organizing can still happen to stop this. Leaders can step forward to fight for the middle class. Regulators can regulate. Legislatures can legislate. Judges can judge. Government can function. Or, if not, things get really ugly.