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Principal agent problems and industry structure - YouTube
Channel: Marginal Revolution University
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Next I wanna talk about principle agent
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problems and industry structure
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Principle agent problem is the problem
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you have when you delegate, so you ask
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someone else to do something for you and
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if you ever ask someone to do something
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for you yknow sometimes they do it the way
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you want to and sometimes they don't.
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And thats the principle agent problem:
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how to get them to do what you want them
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to do. So in the mortgage industry
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We can think of a very long chain of
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delegation. we can say we start with
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tax payers, they have some interest
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apparently because we have government
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involved in housing finance
and they delegate to regulators who may
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or may not have the interest of tax payers
in mind or may or may not execute that
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well. And then lets go from regulators to
the government spots at enterprises Freddy
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Mack and Fannie May. They in turn have
employees but they also delegate but they
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also delegate some of their
responsibilities to others there
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are people who sell mortgages sellers
of mortgages and there are servicers.
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People who service mortgages. those are
the people who collect payments remember
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that function. and then the sellers of
mortgages in turn, the people who sell
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them to Freddy Mack. The mortgage bankers
who sell them might delegate some function
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to brokers. They might delegate some
functions to credit scoring companies, to
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credit repositories, appraisers. there is
a whole bunch of delegation going on and
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at each stage, there may be cases where
the delegation doesn't work well.
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It's possible
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that the agent who is the person who's
had stuff delegated to does not do what
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the principle wants--that's the person who
does the delegating. So that's generic so
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I just wanna talk about some of the
issues as they apply to industry structure
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in the mortgage industry. there are a lot
of examples, but if we go back to the days
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of the savings and loans process, the
savings and loans and the so called
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originate-to-hold model. The savings and
loan originated the loan and then held it,
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then, there's really no delegation of
servicing or underwriting to an outside
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party. That is you are not delegating
those things to an outside party.
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And so the principle agent problem is
simply a matter of managing your employees
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so you have employees and you have to
worry about whether they're doing their
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job the way you want them to, but once
you've managed that, you've managed the
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process. when you have securitization then
we are talking about outside parties
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getting involved. If lets say it's Freddy
Mack doing the securitizing, someone else
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is gonna originate and underwrite loans,
so that's gonna be done by an agent.
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And its gonna create principle agent
problems. Somebody else is gonna service
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the loans, and then again that's an agent
that is gonna create principle agent
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problems. when you have, but at least with
Freddy Mack and Fannie May you have one
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principle in some sense worrying about
the servicing of the loans. When you have
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private securitization, you have many
owners of the security, so you have many
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investors for whom the servicers is an
agent, and these investors will differ in
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how they want the loans serviced. Some of
them might benefit from having the
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servicer forgive a bad loan others
would benefit if the servicer would
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foreclose as quickly as possible. And so
with the conflicts of interests you really
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get very complicated principle agent
problems. another point I'd like to make
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on principle agent problems, is that
credit scoring really changed the nature
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of the problem because before when you had
a human underwriter, the human underwriter
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was an agent. So you had let's say Freddie
Mack buying loans for a private label
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securitizer, Private issuer buying loans.
and they would have been dependent on a
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human underwriter as an agent--that is an
underwriter working at another firm.
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That represents a challenge especially the
private label issuer. There really wasn't
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much use of private label issuing as long
as they were dependent on human
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underwriters because there are principle
agent problems, you have to send careful
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instructions to the underwriters, you have
to do quality control on the underwriting
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and so on. If you can bypass the human
underwriter with credit scoring then you
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have a different agent. You have a credit
scoring company making use of the credit
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repository. Of course the human
underwriter would also make use of the
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credit repository. And you are bypassing
the human underwriter you are dealing with
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a more automated system and so some of the
principle agent problems go away.
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And that's why private label issued
securities took off once credit scoring
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took over the industry. It became a
possibility. It became less expensive to
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manage the principle agent problem
involving underwriting loans once
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credit scoring took off.
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And I think we may see a similar ability
as the automated appraisals--
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--sorts of things that
you find on Zillow and so on. Automated
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Autmomated appraisals
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can resolve some of the principle
agent problems that otherwise
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would arise with human appraisers
because with a human appraiser, the human
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appraiser has to respond to the mortgage
seller, whose interest is in y'know give
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us the appraisal that will enable us to
close the loan and the mortgage buyer, or
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whoever is gonna be taking on the risk of
the loan, who says y'know don't inflate
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the value of the house. So the mortgage
seller says do inflate the value of the
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house. The mortgage buyer says don't.
The human appraiser isn't gonna get work
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if mortgage sellers don't hire them but if
the human appraiser works too much against
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the interest of the mortgage buyer and
let's too many bad appraisals slip buy
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then at some point the mortgage buyer is
gonna have to do something to not allow
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that human appraiser to work for him
anymore.
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But this whole issue can be bypassed to
some extent if you have automated
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appraisals that work. just as credit
scoring allows you to change the role of
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the human underwriter, so the point here
is that the nature of the principle agent
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problem can change as the technology of
mortgage origination changes.
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