Foreclosures: Are Bank Regulators Messing Up the Housing Recovery?

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Foreclosures are down. Time to celebrate? Not really.¬†Realtytrac, which monitors foreclosures, says the number of people losing their homes is dropping not because people are having fewer financial problems but because banks are taking longer to process foreclosures. And that’s not because they are modifying loans and helping people stay in their houses for good. Pace of modifications is falling as well.

Do regulators need to do more? One regulator thinks so: Sheila Bair, who heads the Federal Deposit Insurance Corp. She says the fact that regulators haven’t done more to resolve the problem banks are having with foreclosures is one reason why the housing market is not recovering. Worse, it may show that even after the passage of Dodd-Frank regulators still don’t have the tools to police banks. Here’s why:

Sheila Bair is going out with a bang. In the past few weeks, Bair, who will leave her job in July, has said that banks need to hold more capital; she has warned about moral hazards in the money-market fund business; and she has said that more needs to be done to end Too Big To Fail. On Thursday, Bair, who was testifying to Congress along with other regulators, said that she thought one of the biggest issues for bank regulators right now is mortgage servicing. She says that regulators, who are pursuing multi-billion fines against the banks, have not done enough to understand the problems banks are having with processing foreclosures and what needs to be done to fix them.

Banks say that the problems are paperwork related. And no homeowner has been kicked out of their home improperly. And that the are working hard to resolve the issues. And that may be the case. But it has been nine months since it became clear, with revelations about “robo-signers,” that banks had some serious issues in the way they processed foreclosures. The fact that Bair, who heads one of the nation’s most important bank regulators, says she thinks regulators still don’t know the extent of the problem is in itself a problem.

Dodd-Frank gives regulators the ability to force banks to hold more capital to try to make sure banks can pay for losses when they happen rather than be bailed out by the government. And Bair says she is for forcing banks to hold higher capital, at least temporarily, in part to make sure than can pay for any settlements with investors or regulators that may be the result of their sloppy foreclosure practices. But just forcing banks to hold capital is not enough. Regulators should have the ability to quickly force banks to change their practices and resolve problems particularly when it comes to something as important as people losing their homes or determining the state of the housing market.

A few months ago, Bair was heckled by Wall Street bankers for saying that is was a bad idea to try to weaken Dodd-Frank. In fact, the law may still need some strengthening.