Sarah Bloom Raskin: Creating and implementing an enforcement
response to the foreclosure crisis
Speech by Ms Sarah Bloom Raskin, Member of the Board of Governors of the Federal
Reserve System, at the Association of American Law Schools Annual Meeting,
Washington DC, 7 January 2012.
* * *
Thank you and happy New Year. It is a pleasure to be with you today as you meet to discuss
so many pressing and important issues. I know there has been much discussion at this
conference about the public function of law schools and I commend you for tackling this
essential challenge. In my speech today, I hope to add to the conversation a little bit by
presenting a simple argument, that laws and regulations must be enforced, and enforcement
must be part of what we teach lawyers and future lawmakers to study. What we think of as
the rule of law encompasses not merely theories of the process by which public laws and
regulations are created through particular legislative and administrative procedures, and not
merely theories of how laws and regulations are interpreted by courts. The rule of law
includes enforcement itself. The rule of law compels us to consider whether a rule has been
crafted in such a way that it is capable of being complied with and capable of being enforced
effectively by state actors. The rule of law also involves decisions about whether there has
been compliance, and if not, what should be done about it.
The failure of timely enforcement leads to the entrenchment of bad practices and an increase
in the costs of correction. For example, turning to what will be the focus of my comments
today - the role of mortgage servicers in the foreclosure crisis - the longer it takes for
mortgage servicers to make the operational adjustments necessary to fix their sloppy and
deceptive practices, the costlier and more difficult it becomes for them to sort them out and
correct them.
More fundamentally, a failure by regulators to enforce the laws and regulations as strong
antidotes to financial misconduct and unsafe and unsound practices by the institutions they
regulate establishes de facto acquiescence to the dominant norms of the financial
marketplace. At that point, our laws become the resting place for unfair practices and broad
disrespect for the law generally. This is a phenomenon that Shakespeare's Angelo observed
in "Measure for Measure" when he said:
We must not make a scarecrow of the law,
Setting it up to fear the birds of prey,
And let it keep one shape, till custom make it
Their perch and not their terror.
For sure, different regulatory regimes could have different answers regarding the best way to
enforce laws and regulations. As law professors teaching both the substance of law and the
practice of law, I imagine you find ways within your courses and scholarship to discuss
theories of enforcement - for example, the use of private rights of action versus enforcement
by regulatory agencies; different enforcement tools such as memoranda of understanding,
consent orders, and cease and desist agreements; how these different enforcement tools are
sequenced; and whether and when violations of law should be publicized.
In answering all of these questions, there is consensus that public enforcement should be
used in addressing pervasive regulatory problems. Today I want to talk about how home
mortgage foreclosures hurt the pace of an economic recovery, and how important it is that
the severe misconduct that has been uncovered in the mortgage servicing sector be
addressed through intensified public enforcement of the law as part of the overarching effort
to rebuild our damaged communities and neighborhoods.
Mortgage servicing and the economy
The economic downturn that began in late 2007 and worsened considerably in the autumn of
that year resulted in the worst recession in many decades. Although recovery from the
recession officially began in the third quarter of 2009, the pace of recovery has been modest,
resulting in an unemployment rate that has remained at or above 8.5 percent since
mid2009. This sustained high unemployment rate - with all the attendant social consequences,
including lost income and family strains - has contributed to an unprecedented number of
mortgage foreclosures throughout the nation.
This wave of foreclosures is one of the factors hindering a rapid recovery in the economy.
Traditionally, the housing sector, buoyed by low interest rates and pent-up demand, has
played an important role in propelling economic recoveries. The increase in housing sales
and construction often is accompanied by purchases of complementary goods, like furniture
and appliances, which magnify the effect of the housing recovery.
However, six years after house prices first began to fall, the pace of the economic recovery
remains slow. Nationally, house prices have fallen by nearly one-third since their peak in the
first quarter of 2006, and total homeowners' equity in the United States has shrunk by more
than one-half - a loss of more than $7 trillion. The drop in house prices has had far-reaching
effects on families, neighborhoods, small businesses, and the economy, in part because so
many American families - more than 65 percent - own their homes. The fall in house prices
has caused families to cut back on their spending and has prevented them from using their
home equity to fund education expenses or start small businesses. The decline in house
prices has also impeded families from benefiting from the historically low level of interest
rates, as perhaps only half of homeowners who could profitably refinance have the equity
and creditworthiness needed to qualify for traditional refinancing.1
Throughout the successive waves in foreclosures that have occurred since 2007, problems
in mortgage servicing have emerged and persisted. These problems have included critical
weaknesses in mortgage servicers' foreclosure governance processes, foreclosure
document preparation processes, and oversight and monitoring of third-party law firms and
other vendors. Collectively, these problems have hampered the ability of the courts and the
markets to work through the foreclosure inventory in an efficient manner.
Significant judicial resources are being expended on resolving the legal problems related to
mortgage servicing. Indeed, the dockets of federal courts, bankruptcy courts, and state
courts include numerous cases involving a wide range of troubling issues, such as claims of
missing or forged promissory notes; claims that mortgage servicers have foreclosed on the
houses of active-duty U.S. soldiers who are legally eligible to have foreclosures halted;
sworn affidavits containing false "facts" that homeowners were in arrears for amounts not yet
due; claims of falsifications of documents required to transfer ownership of the mortgage;
allegations of false affidavits claiming homeowners owe fees for services never rendered;
and claims of false affidavits overstating how much homeowners are behind on their
payments.
And this is a sampling of the legal issues related just to mortgage servicing. There is another
galaxy of vexing issues surrounding recordation and title issues and claims related to an
entity called the Mortgage Electronic Registration System, or MERS. Significantly, the
necessarily slow pace of a judicial response to these legal issues hinders the ability of the
housing market to regain function and become a driver of a more-robust economic recovery.
Response to misconduct
In addition to the effect on the macroeconomy, this current judicial morass reflects profound
and pervasive misconduct in mortgage servicing. It also calls for timely public enforcement.
While the courts sort out - one by one - the mortgage servicing cases, the Federal Reserve,
together with other federal and state regulators, must create, implement, and complete an
enforcement response. Accordingly, in 2010, the Federal Reserve and the other federal
banking agencies began a targeted review of mortgage servicing problems at 14 large,
federally regulated financial institutions that had significant market concentrations in
mortgage servicing.
From these examinations, the agencies found significant problems with the mortgage
servicing and foreclosure processing at all 14 of them, which collectively represent more than
two-thirds of all mortgage servicing volume nationally. The problems found by the agencies
pose risks to the safety and soundness of the institutions, impair the functioning of mortgage
markets, and diminish overall accountability of mortgage servicers to homeowners. As a
result of these findings, in April 2011 the Federal Reserve issued formal enforcement actions
requiring the four mortgage servicers that it regulates and the holding companies of six
national bank servicers regulated by the Office of the Comptroller of the Currency (OCC) to
address the deficient practices in residential mortgage loan servicing and foreclosure
processing.2 The OCC and the Office of Thrift Supervision simultaneously issued actions
against mortgage servicers, resulting in enforcement actions against 14 banking institutions
with mortgage servicing operations.
The enforcement actions are cease and desist orders and are legally enforceable in federal
court. The enforcement orders require, among other things, the mortgage servicers to submit
corrective action plans addressing the errors discovered during the targeted reviews and to
implement practices designed to prevent future abuses in the loan modification and
foreclosure process. The plans must be acceptable to the Federal Reserve. And to be
acceptable, for example, the plans must detail ways the mortgage servicer will increase and
enhance the staffing and other resources allocated to the mortgage servicer's loan
modification and foreclosure departments. Such requirements relate to the failure of
mortgage servicers to provide adequate staffing to carry out residential mortgage loan
servicing, loss mitigation, and foreclosure activities. The increased resources required by the
enforcement orders are meant to improve a homeowner's ability to readily obtain information
and assistance from the mortgage servicer and to decrease errors made by mortgage
servicers when modifying loans or pursuing foreclosures. The corrective action plans also
must address other significant mortgage servicing and foreclosure-governance shortfalls and
must be designed to ensure compliance with state and federal mortgage servicing and
foreclosure laws. They must also improve foreclosure management information systems;
establish robust controls and oversight over the activities of third party vendors; and
strengthen communication with borrowers during loss mitigation and foreclosure processes.
Many of the corrective action plans mandated by the enforcement actions require mortgage
servicers to change the way they conduct critical aspects of their business. For example, the
corrective action plans require improved communications with borrowers before a foreclosure
may proceed. In particular, the mortgage servicer must thoroughly explore loan modification
options with the homeowner. The mortgage servicer must also improve the way it
communicates with homeowners by establishing a "single point of contact" for homeowners
in loss mitigation or foreclosure to use when they need help from the mortgage servicer in
addressing problems. By having a single person at the mortgage servicer with whom to
communicate, homeowners should be able to receive more reliable, accurate, and prompt
information about their mortgages, modification options, and the status of any foreclosure
actions.
These orders also require each firm to hire an independent consultant to review the firms'
past practices to identify specific cases in which these practices resulted in financial injury to
specific consumers. This enforcement technique, known as a "look-back," is the current
subject of much debate in the mortgage servicing context because it requires firms to use an
independent consultant. The consultant reports both to the enforcing agency and to the firm,
allowing the agency to better monitor and judge the completeness of the look-back.
Requiring an independent review of certain banking operations is not a new enforcement
tool. Historically, independent reviews have most often been required by the Federal
Reserve in connection with a banking organization's money-laundering or Office of Foreign
Assets Control (OFAC) sanctions-compliance programs. Independent reviews typically
require the regulated entity to hire a third party to do more time-intensive work than the
regulator has already done. The examiners have perhaps found a problem and want the
institution, at its own expense rather than taxpayer expense, to do more extensive scoping
and remediation.
Monetary penalties and transparency
The enforcement actions against these 14 institutions and the associated corrective action
plans are only a start in a comprehensive enforcement response to the foreclosure crisis.
Monetary penalties for the deficient practices in mortgage loan servicing and foreclosure
processing also must be imposed against the 14 institutions. The Federal Reserve and other
federal regulators must impose penalties for deficiencies that resulted in unsafe and unsound
practices or violations of federal law, just as state banking commissioners and state
attorneys general impose penalties for violations of state law. The Federal Reserve believes
monetary sanctions in these cases are appropriate and plans to announce monetary
penalties. One purpose of monetary penalties, when they are appropriately sized, is to
incentivize mortgage servicers to incorporate strong programs to comply with laws when they
build their business models. This is an operational purpose, but as mentioned earlier,
monetary penalties also remind regulated institutions that non-compliance has real
consequences; the law is not a scarecrow where the birds of prey can seek refuge and perch
to plan their next attack.
It is also worth noting the obvious, which is that Congress enacted some of the laws that are
allegedly being violated - they are public laws. Their efficacy must be evaluated and
reevaluated by the public. This means that enforcement of laws must occur in a manner that
permits an appropriate public evaluation. There is currently a lively debate about the
appropriateness and value of transparency regarding the regulatory remediation required by
the enforcement actions entered into with the 14 mortgage servicers. The fact that this public
debate is occurring is entirely appropriate, and underscores the importance that Americans
place on enforcement in the mortgage servicing context.
The cease and desist orders against the 14 large mortgage servicers are publicly available;
they have been fully disclosed. The corrective actions that the mortgage servicers are
undertaking pursuant to the enforcement actions in an appropriate format also need to be
shared with the public. Not only is the public directly and significantly affected by how the
acts of mortgage servicers have contributed to the state of the economy, but cities,
neighborhoods, and communities have a direct and significant interest in the role that
mortgage servicers play in the value of a homeowner's investment.
Conclusion
Too many of the practices in the mortgage servicing industry have been developed and
defended solely on the basis of "standard industry practice," but many practices were not
only standard, but shoddy. This has proven true, I might add, on the underwriting and
secondary-market sides of the business, and we are seeing courts reject many of those
practices.
Appropriately tailored enforcement against these mortgage servicing practices is necessary
as one way to rebuild an important sector of the housing market. Accordingly, current
deficiencies must be corrected.
What's more, financial institutions need to understand that they are responsible for assessing
the effects their actions will have on consumers and the country as a whole, and factor those
considerations into their business decisions. We should not forget that effective enforcement
of our laws can animate our efforts as policymakers, regulators, business innovators, legal
educators, and lawyers in creating the conditions that must exist for the emergence of an
improved mortgage-servicing model that hinders neither economic growth nor homeowners'
legal security. If a law is worth having, the law is worth enforcing.
Thank you.