Foreclosing on the American Dream

 The foreclosure epidemic illustrates a problem that is far larger and more pervasive than current banking practices: America’s growing power imbalance.

By Sheila Suess Kennedy

Recently, I served on the doctoral committee of a student who was writing her dissertation on the “Lived Experience of Foreclosure.” My student’s research illuminated the interdependence of economic stability and self-worth in American culture in a way I hadn’t previously appreciated.

Home is more than just a roof over one’s head; it’s a time-honored symbol of the American Dream.

There weren’t many people who were willing to share their experiences with her. And the reasons for that reluctance could be inferred from the insights of those who did respond. In America, after all, homeownership is a cultural marker, tangible evidence of solid and responsible citizenship. Home is more than a roof over one’s head or a place to live; it’s a time-honored symbol of the American Dream—and its cultural symbolism makes foreclosure an American nightmare.

Research on the effects of the mortgage default epidemic that accompanied the Great Recession has confirmed foreclosure’s more “macro level” consequences: foreclosures are a threat to neighborhood stability and community well-being; they affect predominantly the low-income and minority populations most likely to be hard-hit by economic downturns; they create an environment conducive to criminal activity and lead to disinvestment.

Those consequences are bad enough, but it is the experience of real people caught up in an economic downturn not of their making—and the lessons that can be drawn from those experiences—that can help us shape policies to minimize a repeat of the recent epidemic. [pullquote] The cultural symbolism of foreclosure makes it an American nightmare. [/pullquote]

Foreclosure, it turns out, is not just a legal process triggered by an inability to pay. It is equally the consequence of a profound disconnect between the borrower and lender. That disconnect is a function of dramatic changes in banking since the days when mortgage loans were the product of face-to-face agreements between an officer of the bank on the corner and a long-term, well-known customer.

The purchase of local banks by ever-bigger, national ones was driven by the bankers’ belief that bigger would be better, that consolidation would permit efficiencies that would ultimately benefit consumers. Dividing banks from their customers was an unanticipated consequence. [pullquote] Foreclosure is not just a legal process triggered by an inability to pay. [/pullquote]

That initial disconnect was exacerbated by the practice of “flipping” mortgage loans. In some cases, the borrower was barely out the door when a letter arrived informing him that his loan had been sold and would henceforth be serviced by Bank B, with whom the borrower usually had no previous relationship.

It is no longer uncommon for a mortgage to be sold several times during its term. Among the consequences of flipping is the obvious one; when the bank extending the loan doesn’t intend to keep it, there is less incentive to ensure that the borrower can repay. The growth and prevalence of inadequate and unethical underwriting standards—a scandal widely discussed in the wake of the Great Recession—is largely attributable to flipping. [pullquote] Today, a mortgage is often sold multiple times during its term. [/pullquote]

This distance between the borrower and the eventual owner of the mortgage emerged over and over in the conversations with the foreclosed homeowners. In one case, the delinquent homeowner found a buyer, but could not reach anyone with authority to approve the short sale.

The foreclosure epidemic illustrates a problem that is far larger and more pervasive than current banking practices: America’s growing power imbalance. [pullquote] The foreclosure epidemic illustrates America’s growing power imbalance. [/pullquote]

Free markets require willing buyers and willing sellers, each in possession of the relevant information, and each able to walk away from a transaction if they deem it too one-sided. People who enter into such agreements are expected to live up to their terms—an expectation that most of us agree is just. Increasingly, however, the transactions to which we are party are not the result of negotiation and unforced decision-making. Instead, they are “take it or leave it” arrangements in which one party has all the power and possesses most or all of the relevant information.

In an economic world characterized by such imbalances of power, it is time to rethink policies that operate to penalize the powerless and reward the predatory.

Sheila Suess Kennedy, J.D. is Professor of Law and Public Policy in the School of Public and Environmental Affairs at Indiana University Purdue University at Indianapolis. Her scholarly publications include eight books and numerous law review and journal articles. Professor Kennedy is a columnist for the Indianapolis Business Journal and a frequent lecturer, public speaker and contributor to popular periodicals. She blogs at www.sheilakennedy.net