Category News

Justice Sotomayor’s Supreme Court Nomination and Janet Yellen

Danny Vinik 1 Comment

During my brief vacation last week, I read Jeffrey Toobin’s excellent new book The Oath that examines President Obama’s complicated relationship with the Supreme Court. The book gives a background of the justices and analyzes the major cases brought before the Court over the last couple of years. One passage in particular, on Obama’s consideration of Sonia Sotomayor for an open spot on the Court, struck me:

He sensed an authenticity in [Sotomayor], and no one had to remind the president of the political appeal of appointing the first Hispanic to the Supreme Court. If he had a chance to make history in this way, with an impeccably qualified nominee, Obama was going to do it.

What major appointment will Obama make in the near future that has an impeccably qualified nominee who would make history as well? Janet Yellen to head the Federal Reserve of course! The Supreme Court and the Fed are certainly different institutions and Obama has clearly shown an affinity to Larry Summers that he did not have for the other prospective Supreme Court nominee, Diane Wood. But the similarities are still striking.

Meanwhile, more reports are floating around that Obama is leaning towards Summers for the job. As I’ve said before, I’m very skeptical about any reporting on who the next Fed Chair will be. Maybe it’ll be Summers. Maybe Yellen. We’ll know in a short time. The decision will be kept under lock-and-key until the President announces his choice. Until then, we can hold out hope that Toobin’s intuition on Obama’s Supreme Court nominee holds true for his Fed Chair nominee as well.

Eminent Domain and Fair Value

Danny Vinik 2 Comments

It’s a slow news day so I’m going to return to my favorite pet subject: the use of eminent domain to help underwater homeowners. As regular readers know, I believe eminent domain could be used to help such borrowers, but the current plan being implemented in Richmond, California is outright fraud. Most analyses of it that I’ve seen have come to a similar conclusion, but University of Georgia Professor Stephen Mihm wrote a defense of the proposal last week. The piece is actually very good – particularly the history of the use of eminent domain to seize intangible assets (like mortgages). But Mihm misses the reason why Richmond’s plan is such a rip off. He writes:

Richmond’s plan is to seize 624 mortgages valued at more than the homes for which they were written. Relying on a private intermediary, the city would compensate the investor holding a mortgage at a price reflecting the home’s current value rather than an inflated bubble value.

This is the problem. Investors don’t own these homes – they own the mortgage-backed securities associated with him. Those MBS are not worth what the value of the home is. They are worth a certain amount depending on the future stream of payments from the mortgage, the initial par value of the loan, the current value of the home and the likelihood that the borrower defaults. In fact, the worst case scenario for investors is that the homeowner defaults immediately, they foreclose on the home and they only recoup the current value of the home. Thus, the minimum value of the MBS is the current home value. The actual value of the MBS is well above that. Yet, Mihm is arguing that paying those investors the current value of the home is fair value. It’s not at all.

Mihm concludes his piece by saying:

Yet to listen to the hysterical denunciations of the Richmond plan, a proposal to bring 624 mortgages in line with market prices is the epitome of eminent domain abuse. History suggests otherwise.

It may not be the greatest abuse of eminent domain, but it certainly is abuse. The private firm supplying the capital to purchase the securities – Mortgage Resolution Partners (MRP) – makes a tidy profit by buying the securities as well-below fair value. That’s the definition of abuse.

What makes this even worse is that eminent domain could be used to help those borrowers. Richmond would have to pay investors fair value for their investments – and they probably would still file lawsuits against the town – but the plan could work. Unfortunately, using eminent domain in this fraudulent manner prevents it from ever taking off in a legitimate one.