The ongoing investigation into the mortgage mess -- the often-compromised document chain that passed mortgage loans from borrower, to originator, to investor, to servicer -- is revealing new challenges but is also a reminder of some of the problems confronted by the Dodd-Frank financial-reform law. One of those changes is in the area of federal preemption, a legal standard that allows federal regulators to prevent state officials from supervising national businesses. Here's how it played out during the crisis:
When two banks -- J.P. Morgan Chase and Wells Fargo -- declined to cooperate, the state officials asked the banks' federal regulator for help, according to a letter they sent. But the Office of the Comptroller of the Currency, which oversees national banks, denied the states' request, saying the firms should answer only to inquiries from federal officials. In a response to state officials, John Dugan, comptroller at the time, wrote that his agency was already planning to collect foreclosure information and that any additional monitoring risked "confusing matters."
But even as it closed the door on state oversight, the OCC chose itself not to scrutinize the foreclosure operations of the largest national banks, forgoing any examination of their procedures and paperwork. Instead, the agency relied on the banks' in-house assessments.
John Dugan, who then headed the OCC, is widely regarded as an incredibly lax regulator. His agency's use of preemption has already been identified as a serious problem, as banks like Citigroup used the OCC's ruling to avoid all kinds of scrutiny of their mortgage-lending operations. Imagine how much easier it would be to find solutions had investigators found out the breadth of these practices three years ago -- and for businesses complaining about regulatory costs, it would have been much cheaper to nip these problems in the bud early than let them build into the byzantine structure we face today.
Dugan is gone now, and an interim director is in his place, but the Obama administration has yet to nominate a permanent director for the new regulator, which is more important than before now that some redundant agencies have been folded into it. The Dodd-Frank bill has lowered the standard of preemption to make it harder for banks to evade responsibility at the state level, ending "blanket" preemption and forcing case-by-case analysis (although old rules are 'grandfathered in' under the statute.) Still, going forward, banks will have to make a public, proactive case that they should be exempted from specific local supervision, rather than hiding behind national rules. (As a side note, this empowering of state officials was vociferously opposed by Republican legislators who typically praise federalism).
One more storyline to follow: In last week's elections, many state attorneys general who had been leading major investigations of these issues lost their offices, including Ohio's Richard Cordray, whose initial work led to national focus on foreclosure documentation violations. While these investigations will proceed under newly elected Republicans next year, observers will be watching closely to see if they bring the same scrutiny to the banks. At least Martha Coakley, whose disastrous Senate bid masked her good work as Massachusetts attorney general, and Iowa AG Tom Miller, who is playing an important role coordinating the national investigations, will remain in office.
-- Tim Fernholz
