No Cramdowns

The Lehmann Letter ©

Today, by a 45 – 51 vote, the U.S. Senate refused to enact legislation permitting bankruptcy judges to reduce mortgage debtors’ outstanding loan balances. This is a defeat for President Obama, who had counted on judicial authority to motivate mortgage lenders to modify mortgage contracts. The thinking: If judges have the authority to cram down loan balances, lenders are more likely to modify mortgages in the borrower’s favor. Outcome: Fewer foreclosures and a quicker end to the mortgage crisis.

Naturally the banking industry lobbied hard against the legislation. The banks, no doubt, viewed it as confiscatory. But would the banking industry have been more amenable if the Obama Administration had offered to save the banks harmless in the event of judicially-mandated cramdowns? For instance: Suppose the federal government had agreed to compensate the banks for any losses suffered in the course of a bankruptcy proceedings. Perhaps the banks would have been more amenable.

More important, would that have swayed the handful of additional senators required to enact the legislation?

© 2009 Michael B. Lehmann