When it comes to the foreclosure mess right now, banks are in a bind. On one hand, they have every incentive to process the flood of foreclosures promptly and professionally. On the other hand, they were also under pressure to modify more mortgages, a costly and time consuming process for which the incentives weren't as great. The interplay of the two is worth examining. 

It shouldn't really surprise anyone that banks--and their mortgage servicers--have muddled through all this.  Problems with mortgage servicers have been known for years, notes the Washington Post. The Government Accountability Office and the Congressional Oversight Panel for TARP both had already warned that servicers were woefully understaffed and lacked solid processes that resulted in lost important paperwork, improperly processed foreclosures and an inability to track cases. The use of robo-signers is an apt symbol of just how awful and untenable the process has become. (Whether it is also fraudulent is another matter). 

These problems perhaps reflect the good times when foreclosures were scarce. By the time it was clear that foreclosures would skyrocket, it was frankly too late to invest. Banks had other problems. 

The lack of investment was unfortunate for banks because they have every reason to foreclose. They tend to make more money when they foreclose than when they modify. If a borrower is in default, the servicer gets to add additional fees on the account. In addition, if a borrower is in default, the servicer has to cover the payment to the ultimate mortgage owner. And apparently, credit rating agencies smile on faster foreclosure processes.

Despite these incentives, the servicer really dropped the ball in the face of the foreclosure flood and opened the door for plaintiffs' lawyers to make hay. It may be that most of the foreclosure on tap are legitimate. But there has to be a logical reason to think as much, and that's lacking now.

Why didn't anyone crack down on the banks' mortgage servicers? Federal officials obviously knew there were problems, but they needed the banks support when it came to modification programs. The result unfortunately is that both programs are now stalled, making a recovery in the industry that much more difficult. As of now, it's unclear how quickly this will be resolved. More than 40 states are looking into it. Bank of America has halted foreclosures nationwide. JPMorgan Chase, GMAC Mortgage unit and PNC have stopped foreclosures in 23 states. Wells Fargo and Citi may also be forced into action. 

For now, Wells Fargo says it will not halt foreclosures. Instead, it wants to modify more mortgages. But that's a really tough position to defend, though it is what government officials and troubled homeowners want to hear. People tend to be skeptical of any firm that says it's voluntarily acting in way that runs counter to it best interest financially. The banks may be deciding essentially that foreclosures en masse are just too hard right now, despite the incentives and the PR risk. What do you think? 

What a mess. - Jim