Economic Outlook: $25 Billion Hype

After the hype of a $25 billion settlement with five major U.S. banks over foreclosure malpractice comes the stark reality: The deal is full of holes.

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The New York Times reported Wednesday the five banks — Wells Fargo & Co., Citibank, Ally Financial, JP Morgan Chase and Bank of America — are allowed to take credit against the $25 billion for practices that are already a routine part of daily operations. The punitive settlement, some say, is like telling a dog the punishment for digging holes in the backyard is to go inside and take a nap.

Out of the $25 billion, $17 billion was billed as "assistance to borrowers who have the intent and ability to stay in their homes."

How does that fit with the fine print, which says that banks can whittle that $17 billion down to $15 billion by using $2 billion to demolish abandoned homes? Banks are already demolishing abandoned homes that they cannot sell or donating them to non-profit groups just to get the liabilities off of their hands. Who is to say one of the five banks accused of cheating homeowners through fraudulent foreclosure practices cannot donate or knock down a serious insurance risk that needs a new roof and call it a palace? Prices are often inflated when something is taken off the market and called a gift.

It turns out 68 percent of the $25 billion or $17 billion is to be set aside for relief for troubled homeowners and only 60 percent of that — or $10.2 billion must go to reducing principle on mortgage loans.

In effect, 40.8 percent of the original $25 billion is to be set aside for borrowers in what was billed as the largest federal-state civil settlement ever.

Who gets the money? That's simple. Federal and state governments are the ones who come away with cash. Five billion dollars goes directly to them with no silly gray areas to complicate the matter.

But looking back at the original press release, the Justice Department said, "Because servicers [banks] will receive only partial credit for every dollar spent on some of the required activities, [such as demolishing homes] the settlement will provide direct benefits to borrowers [troubled homeowners] in excess of $20 billion."

Where is the argument?

"The $17 billion is supposed to be the teeth of this settlement. And yet they are getting all this credit for practices that they do every day," former inspector general of the Troubled Asset Relief Program Neil Barofsky told the Times.

Fans of the settlement, such as Patrick Madigan, an assistant attorney general in Iowa who helped draft the agreement, said the deal pushes banks to do more of what they already do — more of what benefits homeowners and neighborhoods.

One estimate, however, by Mark Zandi, chief economist at Moodys.com, predicted the deal will help 250,000 homeowners refinance their loans and 450,000 reduce the principle on their debts.

The reason, Zandi said, is that few homeowners will qualify, because their situation is so dire, so hopeless, that even principle reduction will do little more than buy some time.

"I'm beginning to wonder if you're going to find enough homeowners where principal reduction works in a meaningful way," he said.

Why is this? The answer is extraordinarily simple. The S&P/Case-Shiller Home Price Index released Tuesday said prices on its 20-city index fell 3.8 percent in January compared to January 2011. Prices were off 34.4 percent from their 2006 peaks.

That's it in the a proverbial nutshell. There is no $25 billion settlement that will bring the average home price in the country up 34.4 percent.

The settlement is not a drop in a bucket. It's a drop in a washtub.

In international markets Wednesday, the Nikkei 225 index in Japan gave up 0.71 percent while the Shanghai composite index in China lost 2.65 percent. The Hang Seng index in Hong Kong shed 0.77 percent while the Sensex in India lost 0.79 percent.

The S&P/ASX 200 in Australia rose 0.98 percent.

In midday trading in Europe, the FTSE 100 index in Britain lost 0.34 percent while the DAX 30 in Germany slipped 0.61 percent. The CAC 40 in France lost 0.38 percent while the Stoxx Europe 600 slid 0.44 percent.