In the good, old days, when you'd borrow from your local bank and a banker you knew, this wouldn't happen. If you blew out financially and couldn't make the loan payments, then the bank had an incentive to re-paper the loan at term you could meet. There is still a great deal of this sort of activity, and this is how work-outs happen. Foreclosure from a bank's perspective is a bad thing (~$0.40 on the dollar, home in bad shape, etc, etc)
The trouble is... there is also a great deal of mortgage paper that has been sliced and diced by the Wall Street Wizards. No longer does the loan originator have any particular skin in the game (though in some cases a bad loan can be put back to them). Most of the problematic paper is in the form of asset-backed securities -pools of mortgages which have been packaged and sold off as various tranches of bonds at various credit ratings.
The mortgage servicer earns fees for processing the payments and ensuring that the AAA tranche gets paid first, the AA tranche next, and so forth. There are strict and contractually specified limits on how much a mortgage servicer may change the terms of the underlying paper (the mortgages). The bond buyers have expectations of certain cash flows, and they have bought bonds accordingly.
What this plan does is to cram the "freeze" down on bond buyers - who are now the lenders. Don't kid yourself: bond buyers have *not* signed on in any way to this plan. They are so dispersed that one could not even begin to assemble a quorum of them. Imagine you bought a bond with certain cashflows, and the government came in and said: "sorry; the flows are now X0% lower. Eat it." That's what is being forced on the "lenders" here.
There are some who will assert that this workout is better for the lenders because it avoids forclosures and better for the homeowner (homedebtor) because he or she stays put. Maybe, maybe not. That's not the point. When the gov't comes in and forces a change to contract terms between private parties (to benefit one over the other: servicers vs bond holders) it sets a terrible precident. Bondholders are on notice that what's agreed to may be changed if the other side becomes a favored victim class by the gov't. So while there is no explicit government payment flowing here, there also is no such thing as free money. You will pay the cost in the future as the captial markets price in government-fiat risk in the terms. And you can bank on that.
Big government solutions bring out positively the worst in their promoters, too. Since this program cannot be sold on the merits (other than rubbing salve on the poor grasshopper), demagoguery is all that's left. The Chairwoman of the FDIC is in the papers saying that those opposing this plan probably have short positions in ABX securities. She has no evidence to support such slander, but that doesn't matter. Pity...
The terms and intent of the document can be reinterpreted at will.
Some tenants feel the same way about the lease contracts. No dogs means they can have five dogs because they love dogs. Rent due on the first means a bouncing check on the first is A-OK because Juniors “travel team” costs big bucks. You have to pay for hotels every other weekend so junior can pretend he is Babe Ruth. It for the Children, rent must come last.
Interesting puzzle. I would think the fundamental problem lies with the scattering of buyers in such fashion that nobody has authority to make necessary decisions. To what extent is the government making the decisions, and to what extent is it giving the mortgage bond service companies the authority to do so?
Suppose that the government hadn't acted, but a mortgage bond service company unilaterally decided to accept a point lower interest rate from someone and had rock-solid proof that the alternative would be a foreclosure which would have cost the bold holders more. Would the bond holders have standing to sue for breach of contract even if the service company could demonstrate that they came out better than they would have if the contract had been adhered to precisely?
What would happen with a conventional corporation if its shares became so widely distributed among non-voting entities that it became impossible to establish a quorum? Would the quorum requirements be waived, or what?
Perhaps the best remedy in the mortgage situation would have been to provide that certain actions could be undertaken on mortgage bonds by less than a full quorum of bold holders. In that case, bond holders who would have reason to object to a particular course of action could make their objection known; those who declined to object could be deemed to have given at least tacit acceptance.