John Conyers' Bankrupt Proposal

Todd Zywicki explains what's wrong with John Conyers' bill to let bankruptcy judges modify mortgage contracts. Here's the first of several solid objections:

Mortgage modification would indeed provide a windfall for some troubled homeowners—but its costs will be borne by aspiring future homeowners, and by any American who uses credit of any kind, from car loans to credit cards. The ripple effects could further roil America's consumer credit markets.

In the first place, mortgage costs will rise. If bankruptcy judges can rewrite mortgage loans after they are made, it will increase the risk of mortgage lending at the time they are made. Increased risk increases the overall cost of lending, which in turn will require future borrowers to pay higher interest rates and upfront costs, such as higher down payments and points. This is illustrated by a recent example: In 2005, Congress eliminated the power of bankruptcy judges to modify auto loans. A recent staff report by the Federal Reserve Bank of New York estimated a 265 basis-point reduction on average in auto loan terms as a result of the reform.

Zywicki also notes the incentives the law would create for filing bankruptcy, and the opportunities it would open for bankruptcy abuse. Read the whole thing.