The Obama Department of Justice has been attacked from both sides for its post-financial crisis approach. Some, like Sen. Elizabeth Warren, believe it was insufficiently aggressive and followed a “too big to jail” policy. Others, including many in the banking industry, believe it acted wrongly in extorting huge penalties from banks for relatively venal sins.
Because of DOJ independence, my work in the White House gave me no window into specific cases. I have tended to sympathize with DOJ given the contradictory nature of the critics’ attacks and the complexity of the issues involved.
I was disturbed though to realize from reading Matt Levine’s blog that there was a large systematic overstatement of the burdens borne by banks as they settled mortgage-related claims. The typical press release began with the statement that Bank X agreed to a settlement of YY billion dollars in connection with its mortgage business. I, like I suspect many others, assumed this meant that Bank X shareholders were made poorer by YY billion dollars.
Not so. The settlements have two components. The first was a fine payable to the government. The second was labeled “consumer relief.” Since consumer relief was added to the fine, I naively assumed it represented payments by banks to consumers or additional relief from obligations for distressed borrowers. In fact, rather than these sums cited by the banks and DOJ, it seems that zero is a better estimate of the cost to banks of providing “consumer relief.”
Levine gives some examples. Goldman isn't in the mortgage business so it provided consumer relief by buying mortgage pools at a big discount to par, reducing principal and then making a profit. Deutsche Bank satisfied the requirement by providing financing to hedge funds speculating in mortgage securities. I'd imagine other major banks with mortgage portfolios got consumer relief credit for carrying through on principal reductions that they would have found necessary wholly apart from the DOJ’s intervention. While there may have been some encouragement to principal reduction through these settlements, neither the cost to banks nor the incremental benefit to consumers is remotely comparable to the consumer relief figures advertised by both the DOJ and the banks.
I appreciate that there may have been a political imperative for the appearance of consumer relief. So, even though consumers likely ended up with very little benefit beyond what they would have gotten in the absence of these settlements, a kind of symbolic value was achieved. And perhaps the concept of principal reduction was a bit accelerated, and that was a good thing. I also recognize that hindsight is 20-20, and the world may have looked different when the first settlements were reached than it does to me right now. And it may in fact be that the actual fines paid were more appropriate than the apparent ones reported. It is hard to judge.
But it seems to me that when the wrongdoing in question involves lack of financial integrity, clarity and transparency in reporting the settlement should have been a preeminent value. I wish this had been the case.