Bank Lawyer's Blog

Mnuchin and Warren Munch On Each Other

While recently considering how often the most self-righteous of blog trolls are (A) from Dog Patch, U.S.A., and (B) have such incredibly small hands, I also considered that one of the benefits of Secretary Mnuchin's recent testimony before the Senate Banking Committee was yet another opportunity for news outlets to post photographs that displayed, sitting over his right shoulder, his drop-dead hot ticket of a fiancee, English actress Louise Linton. That brightens up any dry discussion of matters having to do with more mundane figures. In the case of the Wapo's Damien Paletta's Wonkblog, the pic also featured, over Mnuchin's other shoulder, a spectator whose face bore an expression indicating that something flaming had lodged in his shorts for more than a short stay. Having an eye for detail has its side benefits.

On a substantive note, Mnuchin made clear to the senators who were grilling him, that the Trump administration is intent on rolling back the Barack-and-Barney fanned tidal wave of bank regulation that has been washing over banks big and small since 2008 and that has done so much to avoid the next recession by never permitting the economy to fully exit the last one. It has also prevented bank failures by preventing banks from making loans. One way the Trumpeters intend to accomplish this King Canute-like halting of the tide is by "exempting all banks with less than $10 billion in assets from rules under the 2010 Dodd-Frank financial overhaul law." We're not entirely clear on the extent of that exemption, but it sounds, in the abstract, like music to the ears of community banks throughout this great land we like to call "Mur'ca," so less-than-$10 billion bankers everywhere will be waiting for the details with baited breath.

Mnuchin also indicated that bigger banks would not be ignored in their fight against the evils of being regulated entities that are actually subject to---GASP---regulation. He "said he was expecting to recommend [changes to existing law that] would allow many regional banks to escape tighter regulatory scrutiny by raising the $50 billion asset threshold that automatically triggers tougher oversight. He didn’t say, though, what threshold he might recommend." A quadrillion? A bazillion? We must await further details and, we hope, another opportunity to peruse the lovely Ms. Linton.

While Senators from both parties have previously paid lip service to the goal of easing the regulatory burden on small fry banks wherever located, that era of good feeling at the recent hearing could not outlast the war chants expectorated by Senator Spouting Bull Warren, who waxed incredulous that Secretary Mnucin might be backpedaling on his fearless leader's alleged previous indications that he favored the re-imposition on big banks of Glass-Steagall Act-like restrictions on the combination of commercial banking and investment banking activities. You all remember how both Democrats and Republicans voted to do away with such restrictions in the 1990s, an endeavor that had the full support of then-President Clinton. Wall Street does not want those limitations reenacted and Mnuchin is, if anything, a man of the street who, no matter what The Donald may or may not have said yesterday or the day-before-yesterday, is not going to concede anything to Warren on this point.

"We never came out and said we should separate banks from investment banks," Mnuchin said.

"This is just bizarre," Warren later responded.

Actually, Trump said he has been "considering" breaking up the big banks, which is not the same thing as separating commercial banking from investment banking. On the other hand, the Republican Party platform in 2016, on which the Orange Lord ran, did call for the reinstatement of Glass-Steagall prohibitions in this respect. Nevertheless, even if Trump had flat-out promised to reinstate Glass-Steagall at some point, he consistently pirouettes 180 degrees on so many issues at warp factor four. Therefore, how can Warren's professed amazement be anything other than an exercise in political theater?

The Democrats on the committee also criticized Mnuchin for talking only to bankers and not to consumer advocates. Mnuchin refused to confirm the names of any person with whom he has or has not met. He said he would do so only if the list was kept "confidential." Paletta did not report whether the members of the committee then broke out in belly laughs. Given the fact that the entire D.C. hive is composed of nothing but leaking sieves, there's little danger that Mnuchin will ever disclose the list of names. Our bet: he's talked to a few consumer advocacy groups, but did so while playing Spider Solitaire on his iPhone.

Regulatory relief appears to be coming. However, it's coming slowly and it's going to be a rocky road to the promised land. Just last week, major retailers managed to strip out of Jeb Hensaring's Financial Choice Act a repeal of the Durbin Amendment. Even though bank lobbyists insist that the battle is not over on that issue, you can see how something that was clearly a bought-and-paid-for price control law that harmed banks and helped big box retail outlets (and, of courser, had no favorable impact on consumers), once enacted, becomes as tough to eradicate as cockroaches. Expect more of this type of backing and filling in the months ahead. Also, expect more Mnuchin v. Warren public showboating in the process.

Some Of The Opressed Like Their Oppressors

When I recently read J.D. Vance's memoir "Hillbilly Elegy," I was struck by comments he made in defense of the much-maligned payday lending industry. After researching the issue a bit, I discovered that I was not the only reader with an interest in payday lending who took note of Vance's position. Joe Colangelo, the Executive Director of Consumers' Research, "the nation's oldest consumer organization, thought enough of Vance's views that he wrote an article for Forbes about them. Since Joe echos my thoughts, I'll let him articulate them for me. It's a lot less work for me to let Joe do the heavy lifting.

For those not familiar with Vance's best seller, it details his rise from poverty in a small Rust Belt town, where he grew up in a mostly dysfunctional working class white family with strong Appalachian ties, through a stint in the Marine Corps, through The Ohio State University and later and Yale Law School (where he became editor of the law review), and eventually to an upper middle-class career. His above-average intelligence certainly helped him along the way, but credit also goes to his iconoclastic grandparents and other mentors on his journey. Vance is hardly an apologist for his "class," and has some searing criticisms for those still "trapped" in poverty, who, Vance contends, could help themselves by breaking some of the self-perpetuated psychological chains that bind them.

Coangelo, however, focused on another aspect of the memoir, one that gives lie to the myth that the poor need government regulation to protect them from oppressors such as payday lenders, who, critics like Liz Warren and Maxine Waters assert, befuddle their victims poverty-fogged brains in order to unwittingly trick and trap them into vicious evergreen cycles of debt-induced servitude. Vance thinks that in his case, payday lenders not only didn't steal his bacon, they actually saved it.

To pay for his studies at The Ohio State University, Vance at one point held three jobs simultaneously, including a position with a state senator named Bob Schuler. Vance recounts that while working for Schuler, the senate considered a bill “that would significantly curb payday-lending practices.” Vance is referring to Ohio’s Sub.H.B. 545, which proposed such regulations as capping loans at $500, requiring a 31-day minimum loan duration, and prohibiting loans that exceed more than 25% of the borrower’s gross salary.

Schuler was one of only four state senators to vote against the bill, which was signed into law by Governor Strickland on June 2, 2008 and became the Short-Term Lender Law. Surely someone from Vance’s impoverished background, who grew up in a community that struggled to make it from paycheck to paycheck, would have resented the senator for voting against the reform. Of all people, Vance would see payday lenders as exploitative leeches, right?

As it turns out, Vance applauds Schuler’s vote and concludes that he was one of the few senators who knew the everyday realities of the state’s lower-income citizens. “The senators and policy staff debating the bill had little appreciation for the role of payday lenders in the shadow economy that people like me occupied,” Vance writes. “To them, payday lenders were predatory sharks, charging high interest rates on loans and exorbitant fees for cashed checks. The sooner they were snuffed out, the better.”

Vance’s own experience in “the shadow economy” gave him a very different perspective. Contrary to elite opinion, “payday lenders could solve important financial problems.” They are useful for people who, like him, are unable get a credit card or conventional loan for various reasons, including what he refers to for himself as “a host of terrible financial decisions (some of which were [his] fault, many of which were not). As a result, he explains, “If I wanted to take a girl out to dinner or needed a book for school and didn’t have money in the bank, I didn’t have many options.” Payday loans filled that credit gap.

Vance relates the story of when he gave his landlord his rent check even though he didn’t have the money in his account to cover it. He planned on picking up his paycheck that afternoon and depositing it on his way home—but it slipped his mind. A short-term payday loan was exactly what he needed:

On that day, a three-day payday loan, with a few dollars of interest, enabled me to avoid a significant overdraft fee. The legislators debating the merits of payday lending didn’t mention situations like that. The lesson? Powerful people sometimes do things to help people like me without really understanding people like me.

At the time Vance took out this loan, the required minimum loan duration was 14 days. When the Short-Term Lender Law passed, it raised this minimum to 31 days. Typically, consumers pay more in interest, the longer the term of their loan; therefore, requiring a longer minimum can result in overall worse terms for consumers than the three-day loan Vance needed.

Coangelo asserts that Vance's tale is another example of how the unintended consequences of "well-intentioned" regulations can hurt the people they're designed to protect. I'd also assert that it's another example of elite progressive academic frauds and professional bloodsucking politicial shysters who both foster and profit from a sense of perpetual aggrievement in those who keep them in office, cynically exploiting their constituencies in ways that purport to aid, but actually harm, those constituencies. Demagogues have been doing that for thousands of years, so you might have expected that people would have evolved to the point where they would have wised up to the shell game. Fallen human nature being what it has been, is, and always shall be, if you think that way, you'd be progressively and outstandingly wrong.

Well over a decade ago, back in the days before a typical blog's comment box became the exclusive den of spambots, wingnuts, weirdos, thugs, and assorted other freaks in need of serious psychiatric drug therapy, I wrote a post for another blog about the unfairness of the overdraft fee practices of many banks. That post generated a comment from a thirty-something, bandanna-wearing, pistol-packing, Harley-riding, six-foot, single mother from Wisconsin who told me that she used overdrafts as a financing device to get her from paycheck to paycheck, that she knew exactly what it cost her (she was a bookkeeper for a manufacturing plant), that she did not have alternatives and needed those overdrafts, and that if I wanted to treat her and others like her as if they were children, I could do something physically impossible to myself. Needless to say, we became fast friends. If she'd been a Texan, and I hadn't already been married, I might have fallen in  love with her.

The point that I think Vance and Coangelo are, and I know I am, attempting to make (I won't vouch for anyone's position other than my own) is that in considering legislation or regulation designed to protect people from alleged "harm," legislators and regulators might be best advised to start first with the assumption that the objects of their attention are adults, and to treat them accordingly. Based on that assumption, they might next make the effort to inquire if those adults want your protection. Sometimes, people simply don't want your "assistance."

SCOTUS Affirms The Theoretical Validity of Bank Scapegoating

Last week, the US Supreme Court, in a 5-3 decision, gave both municipalities (in this case, the City of Miami) and the mortgage lenders they love to sue (in this case, Bank of America, Wells Fargo, and Citigroup), some good news and some bad news. Housing Wire's Ben Lane gives a nice summary of the back story.

In its original lawsuit, Miami accused the lenders of "reverse redlining," which led to a large number of foreclosures, lower property tax collections, and increased cost to the city to deal with the resulting property value loss and blight.

Per the Supreme Court’s decision, Miami claimed:

The City’s complaints charge that the Banks intentionally targeted predatory practices at African-American and Latino neighborhoods and residents, lending to minority borrowers on worse terms than equally creditworthy nonminority borrowers and inducing defaults by failing to extend refinancing and loan modifications to minority borrowers on fair terms. The City alleges that the Banks’ discriminatory conduct led to a disproportionate number of foreclosures and vacancies in majority minority neighborhoods, which impaired the City’s effort to assure racial integration, diminished the City’s property-tax revenue, and increased demand for police, fire, and other municipal services. The District Court dismissed the complaints on the grounds that (1) the harms alleged fell outside the zone of interests the FHA protects and (2) the complaints failed to show a sufficient causal connection between the City’s injuries and the Banks’ discriminatory conduct.

U.S. District Judge William Dimitrouleas initially dismissed the lawsuits in July 2014, ruling that the city lacked standing to sue, and that the alleged harm was too remote from the banks’ conduct.

Then, the city appealed the Dimitrouleas’s ruling to a higher court. And in September 2015, the 11th U.S. Circuit Court of Appeals reversed the lower court’s dismissal of the city's claims under the federal Fair Housing Act.

Bank of America and Wells Fargo then appealed the Court of Appeals decision to the Supreme Court, while Citigroup elected not to appeal.

And in June of last year, the Supreme Court agreed to hear the case, stating that it will not rule on the merits of the city’s lawsuits, but rather whether Miami is allowed to bring the lawsuits in the first place.

The majority of the court held that municipalities that allege that they have been injured by the alleged "reverse redlining" of mortgage lenders (making loans on less favorable terms to members of protected minority groups than to members of non-minority groups) are "aggrieved persons" who are within the "zone of interests" the Fair Housing Act protects and, therefore, are entitled to pursue claims under that Act. The dissent argued that the majority erred in this determination, but they were outvoted so, unless a future SCOTUS overrules this precedent, expect other municipalities to stream to the litigation trough like pigs to slop.

Once at the trough, however, the pigs may find that they have to do a lot more oinking than they intended before table scraps are thrown their way. The court overturned the lower appeals court finding that to prevail on a claim, the city had to show only that the injuries allegedly sustained by the city were "foreseeable results of the Banks' misconduct." Instead, the SCOTUS decision requires that the municipality must show "proximate cause," "some direct relationship" between the "injury asserted and the injurious conduct alleged," and that this showing requires more than "foreseeability alone." Rather than "draw the precise boundaries of proximate cause under the FHA," however, the SCOTUS kicked the can back to the lower courts and asked them to "weigh in." In other words, there will many miles to go (and millions in litigation costs to be incurred) before we sleep on this one.

The dissenting opinion by Justice Thomas (joined by Justices Alito and Kennedy) elaborates on why proving proximate accusation will be a tough row to hoe.

Moreover, the majority opinion leaves little doubt that neither Miami nor any similarly situated plaintiff can satisfy the rigorous standard for proximate cause that the Court adopts and leaves to the Court of Appeals to apply. See ante, at 11 (“The general tendency in these cases, in regard to damages at least, is not to go beyond the first step" (internal quotation marks omitted)).

Miami’s own account of causation shows that the link between the alleged FHA violation and its asserted injuries is exceedingly attenuated. According to Miami, the lenders’ injurious conduct was “target[ing] black and Latino customers in Miami for predatory loans.” Brief for Respondent in No. 15–1111, p. 4 (internal quotation marks omitted). And according to Miami, the injuries asserted are its “loss of tax revenues” and its expenditure of “additional monies on municipal services to address” the consequences of urban blight. Id., at 6.

As Miami describes it, the chain of causation between the injurious conduct and its asserted injuries proceeds as follows: As a result of the lenders’ discriminatory loan practices, borrowers from predominantly minority neighborhoods were likely to default on their home loans, leading to foreclosures.Id., at 5–6. The foreclosures led to vacant houses. Id., at 6. The vacant houses, in turn, led to decreased property values for the surrounding homes. Ibid. Finally, those decreased property values resulted in homeowners paying lower property taxes to the city government. Ibid. Also, Miami explains, the foreclosed-upon, vacant homes eventually led to “vagrancy, criminal activity, and threats to public health and safety,” which the city had to address through the expenditures of municipal resources. Ibid. And all this occurred, according to Miami, between 2004 and 2012. See ibid. The Court of Appeals will not need to look far to discern other, independent events that might well have caused the injuries Miami alleges in these cases.

In light of this attenuated chain of causation, Miami’s asserted injuries are too remote from the injurious conduct it has alleged. See Associated Gen. Contractors of Cal., Inc. v. Carpenters, 459 U. S. 519, 532, n. 25 (1983). Indeed, any other conclusion would lead to disquieting consequences. Under Miami’s own theory of causation, its injuries are one step further removed from the allegedly discriminatory lending practices than the injuries suffered by the neighboring homeowners whose houses declined in value. No one suggests that those homeowners could sue under the FHA, and I think it is clear that they cannot.

Nearly ten years ago, when commenting on a similar lawsuit filed by Cleveland against lenders (a lawsuit that was later dismissed by a federal district court), I was skeptical that the city could establish proximate cause. "Because the banks have money" is not going to propel you over the finish line.

Proving causation is going to be a bitch difficult task, especially when there are so many unclean hands touching not only the relatively recent subprime mortgage meltdown, but the apparent sink hole in which the City of Cleveland finds itself today. At least, if the Mayor is to be believed, the city is in need of hundreds of billions of dollars due to the devastation "caused" by CDOs, so things must be horrible there. Of course, the loss of over half of your population didn't happen overnight, unless there was a nuclear explosion I missed. Crime, poverty, high taxes, a business-unfriendly environment, a lack of cohesive vision for the future and the will to implement that vision even if it existed, all might have had something to do with Cleveland's present woes, and we'll see how the defendants parse the nuances and apportion the blame when they fire back at the Mayor.

That said, the fact that the SCOTUS gave cities looking to scapegoat lenders for civic leadership failures a way to survive a motion to dismiss gives them a powerful tool to squeeze money from lenders. Out-of-pocket litigation and "soft" reputational risk costs will incentivize some lenders to simply pay off the plaintiffs. Cities understand that the banks are responsible to shareholders, many of whom, especially institutional investors, actually look at the bank's bottom line. Many municipal leaders, particularly those running "old world" cesspools like the ones that have been doing the suing, are career machine politicians who know they can waive bright, shiny objects before the cowed masses and, for all practical purposes, avoid financial or political accountability by blaming all bad economic and social conditions on banks. They'll bet on strong-arming the banks in a war of attrition, and they are cynics enough to carry it off, except with those banks that, like Bank of America and Wells Fargo in Miami, assume that their reputations are already so abused that they might as well fight and keep on winning in court until they finally win or the plaintiffs decide that it's easier to try picking lower-hanging fruit and settle for a lot less than they're asking.

Flat Curve Could Yield Sharp Results

We've long been concerned about "flat yield curves." No, that term has absolutely no connection with employees of Wilhelmina Model Management. It refers to the difference in interest rates that the government has to pay on borrowings of shorter and longer lengths. This spread, in turn, influences the difference between interest rates banks pay on shorter-term deposits and other borrowings and earn on longer-term loans. Traditionally, that "spread" has accounted for much of the earnings of community banks. From this blog's infancy, we've noted how bank earnings and flat yield curves go together like Donald Trump and Elizabeth Warren.

The underlying economic problem for the banks is the flat yield curve. It's frankly without precedent (outside of a recession), or at least that's what my bank and hedge fund clients tell me. I defer to them on such matters, because I'm merely their mouthpiece with no mind of my own. However, assuming that this is true, banks can't make nearly enough money making conventional loans for the simple reason that the spread between what they pay to borrow the money (for example, by issuing a certificate of deposit to a consumer) and what interest rate they can charge on a loan they make with the funds borrowed, isn't enough to cover operating expenses, much less make a profit. That's the problem when the spread between two- and ten-year bonds is 20 basis points (0.02%), and the spread between two- and thirty year bonds is 40 basis points (0.04%).

 

Back in 2006, we discussed the MBA's prediction (prescient, it turned out), that the then-flat yield curve would stay pancaked for the next three years. In June 2008, shortly prior to the onset of the Great Recession, we congratulated the MBA for the reliability of this prediction (although they missed a number of others), but quoted pundits at the time who predicted that the Fed's aggressive rate cutting should sharpen the yield curve and boost bank earnings in the second half of 2008. Such talking heads not only missed the boat on that one, they missed the entire ocean.

A little over three years ago, I quoted yet another expert who thought the flat yield curve would end "sometime in 2015." If he had been correct, the curse of flatness would have lasted  a mere ten years. He, like so many others, was too optimistic. In fact, one year ago, Seeking Alpha's Ivan Martchev warned that the yield curve was flatter than at any time since 2008.

Why do we care? In addition, to the negative impact that flat yield curves have had on the earnings of banks (especially the community banks that are near and dear to my heart), let me reiterate that prior to the first decade of this century, sustained flat and/or inverted yield curves were without precedent outside of a depression. Historically, a flat yield curve was a good sign of a recession, current or imminent. Moreover, as at least one economist close to the financial services industry warned last week, "[t]he chance[...] of a recession within the next 12 months continues to rise as the yield curve flattens."

“The yield curve, which indicates how much the government has to pay to borrow money for different lengths of time is a great indicator of the expectations for the economy in the future,” Fleming said. “In fact, the yield curve is a leading indicator of recession.”

“As the yield curve flattens, differences between short-term and long-term rates become small, or even inverts, long-term rates less than short-term rates, the likelihood of a recession increases,” he said. “Quantitative uneasing helps to increase long-term rates and prevent the flattening of the yield curve.”

[...]

“Based on an analysis of the yield curve from the New York Fed, the yield curve is flattening and the risk of a recession is rising,” Fleming said. “Currently, the estimated probability of a recession in the next four quarters is just over 5%.”

“That may seem low, but if you look at the chart below one can see that anything significantly above zero and more importantly, rising, can be a strong indicator of future recession risk,” he said. “I think the probability that the FOMC knows this is much higher than 5%.”

Housing Wire reporter Kelsey Ramirez cites other respected economists close to the housing industry as putting the risk at 15% to 30%. While they think that a recession would be triggered by a "specific event," the world appears to be chock full of loose canons who are fully capable of triggering such a unexpected event at any time. Therefore, while there may be no need to unwrap the concertina wire, convert dollars to gold, or to finally purchase that lovely civilian model of the M249 Special Attack Weapon you've been lusting after, there may be a need to be cautious and alert, and to take some prudent hedging measures. For example, if a SAW249 seems too extreme, then perhaps a more conservative Springfield Armory SOCOM 16 CQB is more appropriate.