Tuesday, November 29, 2011

End banks that are too big to fail

Jon Huntsman, one of the many Republican presidential candidates, wants to put an end to banks that are too big to fail. His plan would not allow banks to grow beyond a predetermined percent of the economy. The real solution would be to keep banks in the community and service their own mortgages, loans and investments.

Communities operate best when the stakeholders have reasonable control over the events and issues that affect their personal and community lives. The institutions in the community that assists its citizens need to be small and local so that they can be responsive to the needs of the community. When they become too large, the interest of the institution is not tied to the community.

National and international banks are the biggest offenders. Their interests are not aligned with the interest of individual communities and the needs of its citizens. Decisions by the owners of the large banks are not made on a community by community basis. They are made in support of the corporation. Rather than provide the services that individual communities need, they force communities to confirm to their standards.

One of the issues this affects is mortgages. The amount of mortgages a bank can provide is limited. In order to be covered by the FDIC, a bank must maintain a set amount of its demand deposits on hand. If a bank wants to provide more mortgages than is allowed under law, some of its mortgages must be sold off, usually to Wall Street. This allows the banks to go well beyond their limits on lending money. They can make more profit, which is good for the bank, but not always what is best for the community.

When mortgages are serviced by the bank in the community, it is much easier for someone to approach the bank to discuss issues. Those that own and manage the bank are in their offices every day and are approachable. They care because the failure of a single mortgage means a loss to the bank and its standing in the community will be affected. If the mortgage has been sold off to Wall Street, the local bank has no say in the management of the mortgage. Also, the profit the bank makes from the loan has already been realized.

As a secondary benefit, less risky mortgages will not be made. If the bank knows that they will be servicing the mortgage, it will not want to have the expense of collecting the money. If risky mortgages are quickly packaged and sold off, the bank will be more willing to make those risky loans, knowing they won’t have to service it.

Both issues mentioned in the preceding two paragraphs caused a lot of problems over the last few years. One of the problems that mortgage owners have experienced is that the bank that services the loan would not work with them on finding solutions to avoid default. Personnel at the banks could not be contacted, would not return inquiries and generally were unresponsive to the needs of the homeowners. Also, without question, some of the mortgages should not have been made. Those risky loans were one of the reasons for the near collapse of the mortgage business.

Banks need to be community oriented and service the mortgages they provide. This insures that they will be more responsive to the community. When there is continuing personal contact between all the parties in any business relationship, the outcome is much more likely to be positive.

Note: Thank you to my daughter Lauren Hagerman for her insightful and supportive assistance for this blog post.

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