How MERS broke America’s real estate market

William K. Black gives a straightforward and easy to understand summation (source):

“A conservative, but not theoclassical economist, Hernando de Soto, is famous for his work on private property. I highly recommend his book: The Mystery of Capital: Why Capitalism Triumphs in the West and Fails Everywhere Else. De Soto’s primary point is that private ownership of real property allows even poorer people to mobilize their limited wealth by pledging the real estate as security for loans. The individuals can use those loans as a source of capital to become entrepreneurs. De Soto uses the United States as an exemplar of his thesis, explaining that the colonies that become the U.S. began a system of public recordation of land titles and a system of surveying land. The developing U.S. made these systems a major priority. De Soto argues that these public sector programs were spectacularly successful and helped produce America’s economic success by encouraging entrepreneurial activity.

These two successful government programs (public recordation of land titles and transfers and public land surveys) achieved their intended goals. They made it far easier to pledge real property, which made real property more valuable. Public recordation greatly reduced the risk of fraudulent pledges. Reducing the risk of fraudulent pledges makes lenders more willing to lend and reduces the interest rates on secured lending. Reduced interest rates mean a lower “hurdle” rate for investment, which means that more productive investments will occur and economic growth will increase.

Public recordation in the U.S. became even more effective in spurring growth and efficiency with the development of Article 9 of the Uniform Commercial Code (UCC). Article 9 set out to make it far easier for lenders to access public records of liens by dramatically increasing the degree of uniformity in how and where such records would be kept. Article 9 was not only a governmental program that achieved its aim – it was the brainchild of an academic (Yale Law School’s Professor Grant Gilmore). Article 9 further reduced the risk of fraudulent pledges and greatly increased efficiency. Business, particularly lenders, strongly supported its adoption.

MERS (Mortgage Electronic Registration Systems) sought to privatize key aspects of the public title system. The primary purpose was to avoid recordation fees when interests in real property were assigned or transferred. MERS’ founders read like a who’s who of the entities who caused the recent financial crisis, so some scholars view its creation as an example of a private sector action intended to harm the public. This column assumes that MERS’ harms were, originally, unintended. It focuses on the insanity – from the standpoint of honest lenders and investors – of MERS’ devastation of a public system of recordation that had served business, particularly lenders and investors, brilliantly.”

The people who created MERS knew full well that they were cheating the long-established system; they just didn’t know how long they could get away with it.

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