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Risk in the Global Real Estate Market: International Risk Regulation, Mechanism Design, Foreclosures, Title Systems, and REITs

ISBN: 978-1-118-01135-5
433 pages
February 2012
Risk in the Global Real Estate Market: International Risk Regulation, Mechanism Design, Foreclosures, Title Systems, and REITs (111801135X) cover image
Essential reading for professional investors, risk managers, regulators, central bankers, and real estate professionals, Risk in the Global Real Estate Market: International Risk Regulation, Mechanism Design, Foreclosures, Title Systems, and REITs takes an international look at the ways in which U.S.-style constitutional laws, financial laws, and real estate laws in various countries affect global economics and risk; and analyzes specific constraints that deter market development such as Asset Liability Matching, inappropriate financial products, land title systems, inefficient constitutions and human biases.

The sub-prime mortgage crisis (that began around 2006) and the Global Financial Crisis of 2007–2010 disrupted the economies of various countries and exposed many of the psychological, social, and economic problems inherent in the legal/risk infrastructure for mortgages, land title systems, REITs, securitization, and pensions. In this remarkable new book, Michael Nwogugu explains how these processes and statutes are unconstitutional and inefficient, and how they influence demand for housing, real estate prices, retirement savings, household wealth, consumer disposable income, marriage opportunities, job markets, crime, and regional economic growth. The resulting major economic and public health problems have continued to reduce the quality-of-life of nations, and continue to cause permanent declines in wealth, increases in crime and delinquency, high divorce rates, depression, and inadequate job creation, among other problems. The book examines a range of fields—including mechanism design, psychology, risk finance, and corporate governance;  and emphasizes Constitutional economics as a distinct dimension of risk analysis.

Risk in the Global Real Estate Market makes a compelling case about how constitutional torts increase information asymmetry, transaction costs, agency problems, and compliance costs, as well as inefficiency in real estate transactions. These problems, the book argues, are not unique to the United States, but also affect Commonwealth countries and other nations that have developed regulations that are similar to, or are based on U.S. commercial, securities, and or constitutional laws.

Risk in the Global Real Estate Market presents a novel analysis of the sub-prime crisis (that first began in 2006), the failure of securitization (CMBS/MBS) markets, the Global Financial Crisis, and socio-economic problems caused by traditional mortgages and securitization. The book reveals that many of the statutes and processes that define mortgages, foreclosures, securitization, and REITs in the United States (and many common-law countries and nations that have adopted American-style real estate regulations) are fundamentally unconstitutional and inefficient, and have lasting negative effects on consumer psychology, the demand for real estate, price discovery in property markets, economic growth, and quality of life. The book examines the nature of constitutional torts and property rights as the foundation for business transactions and economic growth within the context of risk regulation, interstate commerce, takings, and legislation.

Risk in the Global Real Estate Market introduces new theories of consumer psychology and institutional dynamics in real estate transactions; presents new theories of takings, and also surveys psychology/psychiatry studies (based on data from various countries) that confirm the harmful effects of mortgages, securitization, and foreclosures. Using elements of mechanism design, Michael Nwogugu develops new efficient financial products (Mortgage-Alternatives products), and presents a policy framework for a unified “Mortgage-Alternatives” market for the CEE/CIS region and China. He also explains why Asset Liability Matching hinders lending, capital formation and risk management, especially in developing countries.

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Preface xvii

CHAPTER 1 Regulation and Constitutional Torts 1

Federalism, Preemption, and Risk 2

The Restoring American Financial Stability Act of 2010 (RAFSA) 6

The Existing “Tests” for Unconstitutionality 6

Quasi Constitutions 10

Social Capital 10

References 11

CHAPTER 2 A Critique of Mechanism Design 13

Conclusion 16

Reference 16

CHAPTER 3 General Public Health and Social Psychology Issues in Global Housing Markets and Mortgage Markets 17

Survey of Public Health Problems Caused by Traditional Mortgages and Foreclosures 18

Conclusion 32

References 32

CHAPTER 4 Public Health Issues: Psychological Factors Inherent in Housing Demand, Mortgage Demand, and House Prices 37

Proposition 1: Credit Bias 44

Proposition 2: The S&L Crisis Effect 44

Proposition 3: Tenure Bias 45

Proposition 4: Low Willingness to Accept Losses (WTAL) 46

Proposition 5: Investment Horizon Effect 46

Proposition 6: The Deferred-Disutility/Deferred Pain Bias 47

Proposition 7: The Lender-Experience Effect 48

Proposition 8: The Government Intervention Effect 49

Proposition 9: The Multiple-Listing-Service (MLS) Effect 50

Proposition 10: Psychological Limitations on Supply of Housing Units 50

Validity of Housing Demand Models 52

Conclusion 53

References 53

CHAPTER 5 Behavioral Biases in Property Taxation and Property Appraisal 59

Biases in Property Taxation 60

Psychological Effects and Biases Inherent in Property Appraisal 64

Conclusion 76

References 77

CHAPTER 6 Foreclosure Statutes and Processes 83

Foreclosures Reduce the Efficiency of Monetary Policies and Fiscal Policies 83

Some Adverse Contagion Effects of Foreclosures 84

The Statutory Ban of Waiver of Judicial Foreclosure in Conveyancing Documents and the Omission of Nonjudicial Foreclosure from States’ Laws Are Unconstitutional 85

The Borrower’s Post-Foreclosure Right of Redemption Is Unconstitutional 93

The Unconstitutionality of Preemptive Foreclosure Rules 98

Enforcement of Core Foreclosure Processes and the Failure to Enact Uniform Federal Foreclosure and Mortgage Statutes Constitute Violations of the U.S. Constitution 103

Alternative Foreclosure Systems 109

New Theories of Takings 109

Conclusion 112

References 112

CHAPTER 7 Unconstitutionality of U.S. Bankruptcy Code, Preemption of State-Law Mortgage Foreclosure Statutes, and Related Economic Effects 115

Existing Literature 116

Survey of Macroeconomic Effects of Bankruptcy Codes 118

The Financial Accelerator Theory Is Inaccurate 126

Criteria for Preemption: Equitable Subordination, Fraudulent Transfers (the “Reasonably Equivalent Value” Doctrine), the Deprizio Controversy, and the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 127

The U.S. Supreme Court’s Standards for Preemption Cases 132

New Standards for Preemption Cases 135

Constitutional Law Issues 139

Due Process Rights 140

The Separation-of-Powers Doctrine 144

A New Theory of Takings 144

Conclusion 145

Note 146

References 147

CHAPTER 8 Mortgages and Deeds of Trust 151

Improper Coupling/Combinations of Mortgage Markets, Rental Markets, Savings/Investment Markets, and Property-Value Markets 152

Mortgages Cause Fraud and Misallocation of Risk 153

Traditional and Alternative Mortgages Are Inefficient and Create Wrong Incentives 154

Mortgages Reduce the Efficiency of Monetary Transmission 155

The Mortgage Wealth Illusion: Inefficient Household Allocations and Reduction of the Marginal Propensity to Save 160

Traditional and Alternative Western Mortgages Reduce Socioeconomic Flexibility that Substantially Affects Psychological Well-Being 161

Traditional and Alternative Mortgages Distort the Marriage Market 162

Traditional Western Mortgages and Alternative Mortgages Distort the Job Market 163

The Statutory or Common Law Prohibition of Prepayment Penalty/Yield Maintenance or Limitations on Prepayment Penalty on Default Are Unconstitutional 165

The Lack of Definition of the “Future Advances” Clause in Mortgages Constitutes a Violation of the U.S. Constitution 172

The Government’s Failure to Enact Statutes that Define the Qualifications/Characteristics of a First Mortgagee 173

The Lender’s Right to Receive Proceeds of Insurance and Condemnation (Arising from Real Estate) Is Not Codified 176

Anti-Deficiency Statutes Are Unconstitutional and the Lender’s Right to Deficiency Judgment Must Remain Enforceable 180

New Theories of Takings 190

Conclusion 191

Notes 192

References 192

CHAPTER 9 Subprime Lending Is Unconstitutional 197

The State-Action Requirement: The Substitution Theory and Failure-to-Act as State Action 198

Subprime Lending Is Unconstitutional 198

Conclusion 201

Note 201

References 202

CHAPTER 10 Constitutionality of Real Property Title Systems 205

The Recording System and the Registration/Torrens System Are Unconstitutional 205

The Uniform Commercial Code (UCC), Title Systems, and Conflict of Laws 213

Conclusion 217

References 218

CHAPTER 11 Constitutionality of Real Estate Investment Trusts 219

The REIT Ownership-Concentration Rules Are Unconstitutional 227

The Regulation of REITs by U.S. States Constitutes Violations of the U.S. Constitution 233

The Entire REIT-Qualification Statutes (IRC Section-856, RMA, and AJCA REIT-Qualification Rules) Are Unconstitutional 235

The Mandatory REIT Dividend Payout Rule Violates the U.S. Constitution 242

The Government’s Failure to Regulate Management Agreements of REITs Constitutes a Violation of the Equal Protection Clause of the U.S. Constitution 245

REITs Are Unconstitutional Because They Result in Illegal Misconduct 246

A New Theory of Takings 246

Conclusion 247

References 247

CHAPTER 12 Asset Securitization Is Unconstitutional and Should Be Banned 249

Securitization Dampens Monetary Transmission and

Provides Wrong Incentives for Banks and Sponsors 250

Securitization Increases Transaction Costs, Systemic Risk, Inflation, and Hedging Costs 257

Securitization Constitutes a Violation of the Commerce Clause of the U.S. Constitution 260

Securitization Constitutes a Violation of the Free Speech Clause 261

Securitization Constitutes a Violation of the Right-to-Contract Clause of the U.S. Constitution and Is Illegal 262

Securitization Constitutes a Violation of the Equal Protection Clause 263

Securitization Constitutes a Violation of the Separation of Powers Doctrine 264

The Elements of Required New Regulations 265

The Implications of Change 267

Conclusion 269

References 270

CHAPTER 13 Recommendations for the Development of a Mortgage and Mortgage-Alternatives Market in the CIS Region, the CEE (Central and Eastern Europe) Region, and China 271

Surveys and Needs Assessment 277

Coordination among Institutions in CIS/CEE Countries and China 278

Establishment of Mortgage and Real Estate Research Networks (Institutes) 279

The Mortgage-Alternatives Funds 280 Legal Infrastructure 281

Credit Ratings Systems 293

Taxation 298

Pension Reform 300

Accounting and Transparency/Disclosure 300

Central Banks 301

Mortgage Insurance 302

Home-Equity Mortgages 303

Primary Mortgage Markets 304

Creation of Secondary Mortgage-Alternatives Markets 307

Statutory Ban of Traditional “Western” Securitization 308

Alternatives to Foreclosure 308

The Price-Discovery Process and Viability of Mortgage-Alternatives Markets 309

Monitoring Alternatives to Primary and Secondary Mortgage-Alternatives Markets 311

Incentives for Banks and Financial Institutions 314

Incentives for Borrowers/Buyers to Use Mortgage Alternatives 315

Risk-Management and Risk-Transfer Systems 315

References 316

CHAPTER 14 Asset-Liability Matching Is a Hindrance to Lending 323

Errors in the Formulas for Duration, Modified Duration (MD), and Convexity 324

Default/Bankruptcy Risk and Illiquidity 330

Existing Liquidity Derivatives (Swaps and Options) Are Inaccurate and Inefficient 337

Possible Solutions to the Perceived ALM Problem 339

Constitutionality of Central Bank Restrictions on Daily Cash Withdrawals by Customers 341

Conclusion 344

References 344

CHAPTER 15 New Mortgage-Alternative Products for Primary Mortgage Markets in China and CIS/CEE Countries 349

The Adjustable Balance Mortgage 351

The Continuous Workout Mortgage, Shared Appreciation Mortgages (SAMs), Shared Income Mortgages (SIMs), and Shared Equity Mortgages (SEMs) 353

Traditional Alternative Mortgages 354

Indexed Mortgages 356

Islamic Finance Products 357

Cooperative Mortgages 359

The Pricing of Mortgages and Behavioral Finance—Most Models Are Inaccurate 359

Distortion of Economic Data and National Accounting 363

Banks/Lenders as Seller-Lenders (Installment Sales Contracts and Installment Land Contracts); and Banks as Real Estate Brokers 364

Renegotiation and Sequential Investments 368

Recursion of Mortgages and the Perception of Defaults as Low-Probability Events 372

Characterization of the New Mortgage-Alternative Products 374

The New Mortgage-Alternative Products 381

Conclusion 410

Notes 410

References 411

CHAPTER 16 Conclusion 419

References 421

About the Author 423

Index 425

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MICHAEL C. I. NWOGUGU is an author and entrepreneur based in New Jersey; and is  affiliated with two companies. Mr. Nwogugu has been a co-founder of several new ventures in the technology/Internet, business services, and healthcare sectors. He has reviewed articles for the European Journal of Operational Research and the American Statistician and has written and published articles on real estate, constitutional economics, and finance in international refereed journals such as Managerial Auditing Journal; International Company and Commercial Law Review; Journal of Derivatives & Hedge Funds; Applied Mathematics and Computation; Journal of International Banking Law and Regulation; Computer and Telecommunications Law Review; Journal of Risk Finance; Corporate Ownership & Control; International Journal of Mathematics, Game Theory, and Algebra; and Chaos and Complexity Letters. Mr. Nwogugu earned a graduate degree in business from Columbia University in New York City; and degrees in architecture from City University Of New York, and University Of Nigeria (Nigeria).
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