Sunday, August 17, 2014

The Debt Underworld

I read this article on the Web site of the New York Times, adapted from thisbook by Jake Halpren, about the shady world of debt collectors. It’s a real eye-opener. I already knew that the buying and selling of old debts was a questionable business, but I never realized the extent to which it is infected with thieves and cheats. But it’s only the extent that surprised me. I think that the debt economy as a whole cannot be conducted with complete honesty the way it is set up.

More on that in a moment, but the article is largely about the theft of consumer debt accounts. Unscrupulous collectors get data for accounts they do not own, and collect on them anyway. The legitimate (as much as these things can be legitimate) buyer of the debt goes to collect and finds—surprise—that someone else has already collected the money. One of the proposals to solve this problem is a database:
A centralized loan registry might help, and there are some in development. Mark Parsells, the chief executive of a company called Global Debt Registry, has developed a database that tracks the ownership of consumer debts once they are sold off by banks or original creditors.
But this sounds remarkably like MERS, the database of home loan notes that has caused so much trouble in the mortgage industry. Not only has MERS sidestepped the time-honored system of recordation of mortgage transfers by separating the note (the debt instrument) from the mortgage (the security), but their database has proved to be of questionable accuracy. The problem with databases is that they contain information about a loan, not necessarily accurate information, and nothing concrete, like a signed contract.

Of course, a lot of consumer debt is issued in the first place without any kind of signed contract, so where is the proof that the debtor agreed to this debt in the first place, much less that the buyer (or the second buyer, or the tenth) has any right to collect, knows the correct amount, and even has the right person?

These are not easy problems to solve, and yet I don't even think they get at the heart of the matter, which is how most consumer debt is created in the first place. And here I'm talking about credit issued by banks, which account for most loans. For one thing, because of the special place that banks hold in our economy, the vast majority of the money they lend to you and me is created out of thin air. Yes, just like the Federal Reserve, federally-chartered banks have the power to create money.

So they loan you money. They may pretend that they agonize over lending you that money, but the downside risk is very small and you can bet that whatever tightening of credit is foisted upon us in tough times will loosen up long before the tough times do.

So, say you've gone into hock with some bank, via your credit card, to buy a big-screen TV. You never actually signed anything to get the card; you did something online and they sent you the card, and you agreed to the terms the moment you used the card to make a purchase. And you bought this $1000 TV set. Why did you pay that much? Because it's a good round figure, that's why.

Now, the bank, if they are following the rules, put up about $100 of that money, and the rest they just created as an entry on their books. If they are not following the rules, they may have put up only about $20. Really. And they probably won't get into any trouble over it.

Now the bank has very little at stake. The company that sold you the TV is okay, because although they traded a set for the money, they have the money in hand after a certain waiting period. They paid a fee for that safety net, but it's just the cost of doing business.

And you got a TV. But what happens if you lose your job and can't pay the credit card bill? You are liable for the full amount, plus interest, plus fees, plus penalties. Now, maybe the bank will take you to court to collect. But often, they won't. They will "sell" the debt.

As an aside, when did a contract, and agreement between two parties, become a commodity that can be sold like so many bushels of corn? Isn't trust a part of any agreement? How do we know we can trust our new creditor?

So, back to the subject. When your bank "sells" the debt, they are only selling an electronic spreadsheet with the salient information. They don't even guarantee that the information is accurate. So the amount, the interest rate, and even the Social Security number might be wrong. And who's to say that they have only sold that information once?

And, certainly, as Mr. Halpren's books reveals, even if the bank is totally above-board with its information transfer, the collectors down the line may not be. And no database is going to stop a crook from calling you in the middle of the night trying to collect that 10-year-old credit card debt that he or she bought the information for, but never owned. And how many debtors are going to know how to find out for sure?

Of course, there are two things that would help this situation tremendously. One is to eliminate fractional reserve banking and debt-money creation in our economy. If banks were only lending money they were liable for, they would be more careful about lending. Tight credit isn't a bad thing; consumers in particular should think twice about borrowing money for anything.

The other thing we could do is go back to signed contracts. Actually putting pen to paper (a "wet-ink" document) and making the physical contract part of any sale of the debt would give a true paper trail. Would it slow down the whole credit-issuing process? Yes! Would the economy come screeching to a halt? No. Credit doesn't drive the economy, it drains it.

And making debt harder to issue, harder to accept, and harder to collect can only make things better.