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Eminent Domain Is Bad Mortgage Fix: Rep. Schweikert

Rep. David Schweikert, R-Arizona
Bill Clark | CQ Roll Call | Getty Images
Rep. David Schweikert, R-Arizona

If delinquencies and strategic defaults were not risk enough for investors wading into the mortgage market to face, a new wrinkle is being considered in California—the concept of eminent domain introduced into the private marketplace.

Local officials in California's San Bernardino County are exploring the possibility of invoking eminent domain as a means of extending homeowners a helping hand.

In 2005, the U.S. Supreme Court decided Kelo v. City of New London by determining that eminent domain could be used as a means of transferring property between private owners.

Up until then, eminent domain had only ever been applied to the greater public good. The consideration currently underway in California would extend this narrowly defined extraordinary governmental authority to buying underwater mortgages from investors and marking them to market by reducing their outstanding principal. The reduced mortgages would then be sold to new investors.

Proponents of the plan praise the opportunity to provide some much needed relief to citizens who are struggling to stay afloatwhile acting responsibly and continuing to make their monthly mortgage payments.

They also insist the move is necessary to reignite the private label mortgage market, claiming that the persistent overhang of underwater loans is preventing private capital from returning to the market.

Putting aside the unconscionable idea of government seizing investments from free market participants, what is being overlooked here is the effect that such a bold move will have on loan origination and interest rates.

To start with, applying eminent domain in this fashion will depress housing values by providing banks with less incentive to originate mortgage loans.

Investors will likewise be unwilling to wade into the marketplace if they fear the potential for government seizure of their investment products on an unchecked whim—these jurisdictions have authority that allows them to act without approval by city councils or boards of supervisors unless they require public funding.

Given that this proposal is being funded by private capital, there exist no checks or balances to this activity save for a lawsuit.

And while eminent domain requires compensation be made for seized property, the law places that determination in the hands of the seizure. The governments of San Bernardino County would be the ultimate arbiters of "Return on Investment" in their local real estate markets. Are we a capitalist society, or a communist one?

Eminent domain will dry up whatever private capital has been enterprising enough to reenter the mortgage market since the housing crash. With credit drying up, bond yields will rise, driving up borrowing rates for homebuyers. It will be a perfect storm of escalation, borne by a well-intentioned but shortsighted attempt to rectify the housing market crisis.

And what of the "bogeyman" who’s getting stiffed in the first place? Most banks are actually local, which inhibits their ability to diversify and offset the effects of such governmental overreach. They will feel the longest-term effects.

And remember that large banks punished through this program aren’t so much faceless corporations as they are employees, shareholders, and all manner of citizens whose retirement and pension plans hold bank stocks—as well as MBS products—in their portfolios.

And what of the actual mortgages seized by the government? What happens when fear of further governmental action keeps investors from purchasing these reduced loans due to newfound intervention risks? Who pays for them then? The American taxpayer.

Thanks, California, but I think we’d rather move forward, not back.

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David Schweikert is the U.S. Representative for Arizona's 5th Congressional District (R).