Bank of America CEO Kenneth Lewis Shares Views on Bank's Role in California's Economic Recovery

As the largest financial institution in California, we embrace our responsibilities to the people and communities of this great state...We also understand that our acquisition of Countrywide only increases our responsibilities here. To that point, I'm very pleased that we've moved the headquarters of our national mortgage business to Calabasas, and that a Bank of America executive with deep roots in California has agreed to come back here to lead that business, Barbara Desoer.

We are determined to grow our business here and to help California's economy grow. We are doing so much in so many neighborhoods with new products and services, community development, environmental programs, and support of the arts. We're confident that as Californians take a closer look at our company in the months and years to come, you are going to like what you see more and more.

Some time ago, assessing the damage to Los Angeles' economy by over-speculation in real estate, one observer wrote: "It is doubtful whether any city ever experienced a boom such a that which occurred in Los Angeles. Space cannot be given to an adequate discussion of the excesses committed by the real estate dealers during that period." That period sounds a lot like our own. But the quote isn't from last month. It was written in 1927, about a land boom that peaked and went bust here in 1888, 120 years ago.

Excesses in financial markets are not new. We've seen them many times. But when an economic bubble bursts that is based on the one asset that represents much of a family's net worth and their shelter-in short, their home-the fallout for families, for neighborhoods, communities, and the nation can be devastating...The good news is that, despite our challenges, the national economy is actually holding up okay. First quarter annualized GDP growth was revised upwards to 1 percent; export growth boosted economic activity, and we expect similar growth for the second quarter. I think we'll start a gradual recovery toward the middle of next year. Until then, depending on what sector of the economy you're in, it will feel slow and may feel like a recession.

The bad news is that consumer confidence is at its lowest point since 1992. It's easy to see why. Here in Los Angeles, distressed home sales are up from 3 percent of total sales in spring of 2007 to 30 percent in spring of 2008; 3.7 percent of all homes are in foreclosure; and across California, home sales prices are off almost 30 percent. And that is not to mention $4 gasoline and record food and commodity prices that are pinching household budgets.

I quote these facts not to dwell on the negative but to take the full measure of the challenge we're facing as we work to revive our housing markets and our economy. The first step is to review how we got here.

There were a lot of factors that played a role. Think of it as a "perfect financial storm." Before this decade, we had a long history of relatively stable appreciation in home values, averaging about 3-4 percent a year for more than a century.

But during that time, the conventional wisdom built that housing prices never go down, except for brief corrections in the march upward. In the last few decades, the cost of home finance went steadily down as inflation was driven lower. Lending standards became looser and looser as financial institutions and investors came to believe that home lending had little risk. Anybody remember the 25-year mortgage with 20 percent down? That was the standard before the 1970s.

Contrast that with loans with no money down, little or no documentation of the borrower's financial condition, and offers to pay only part of the interest.

Then, earlier in this decade, the Federal Reserve drove interest rates to near record lows to ensure against deflation. Investors all over the world looked for better yields without, they thought, taking more risk. Wall Street obliged by bundling mortgage loans, many of them subprime, into packages that were eagerly bought by these investors. In effect, we created a housing boom that was not based on economic fundamentals.

The simple version of this story is no different than every other boom and bust cycle in history: greed and fear. When greed and fear are in balance, our markets stay in balance. Over the past several years, greed and fear got out of balance, to put it mildly.

As long as prices continued to go up, every participant in the market was motivated to take advantage of the prevailing conditions. Normal price drivers like population and income growth gave way to rampant speculation.

The most telling statistic is this: In 2000, 3.5 percent of home sales were "second home" sales intended purely for investment. By 2005, investment purchases jumped to 28 percent of the residential real estate market. And those that weren't speculation in the investment market were speculating on the future value of their primary residence. Homeowners cashed out more than $2.5 trillion of home equity from 1999 to 2006.

The psychological signs were very clear. Many Americans had stopped thinking of their home first as shelter and second as a long-term investment, and had begun to think of their home either as a get-rich-quick scheme or a very large ATM.

To put it bluntly, fear had vacated the premises. From buyers to sellers to appraisers to tax assessors to investors and, yes, even to bankers, a consensus formed-some might say a delusion-that prices would never fall. Until they did. And fear returned...

...The hard lesson learned is that any asset bubble, no matter what the asset is, will be followed by a correction, just as surely as night follows the day. The questions we must turn to now are: what can financial services companies and policymakers do to help homeowners, homebuyers, and neighborhoods through today's crisis? And how can we shape the mortgage markets to better balance growth and stability for tomorrow?

Let me address the first question first. What can we do to help borrowers manage through the current crisis? It was said of one Los Angeles banker in the late 19th century that he "never foreclosed a mortgage until he was compelled to." That's not a bad place to start. It's a great myth that bankers are motivated to foreclose on distressed home loans. Foreclosure almost always means a loss for the bank or investor.

There is a perception today that borrowers are losing their homes because of unreasonable loan terms. That's usually not the case. If borrowers can afford to pay market rates and want to stay in their homes, we can-and do-work with them to make that happen, even when it means modifying the terms of a loan they can no longer afford.

Fortunately, this covers the majority of financially distressed borrowers. If they come forward and ask for help, or if they respond when we reach out to them, we take the steps necessary to help keep them in their homes. So far this year, Countrywide has worked successfully to help almost 100,000 customers remain in their homes. At Bank of America, including the Countrywide portfolio, we expect to work out at least $40 billion in troubled loans over the next two years, enabling more than a quarter of a million families to stay in their homes.

Both Bank of America and Countrywide maintain extensive Homebuyer Education Provider networks, partnering with nonprofit organizations like ACORN, NeighborWorks, and the Neighborhood of Assistance Corporation of America, or NACA, to deliver foreclosure prevention classes. And we're also working with industry groups, like the Asian Real Estate Association of America and the National Hispanic Association of Real Estate Professionals, to increase our counseling and technical support capabilities...

...Banks need to tighten lending standards but keep credit flowing to qualified borrowers. Lax lending standards are not an issue for the first mortgage business at Bank of America. We believe the credit quality of our first mortgages is excellent. And we have consistently maintained the lowest foreclosure rates among major lenders thanks, in part, to our focus on providing the right loans to our customers and maintaining credit quality standards that most in the industry are now working to adopt. But the fact is that many lenders were going way out on the risk curve to get market share.

The good news is that risk standards have naturally tightened at all financial institutions. This is helpful to credit quality but is good for the economy only up to a point.

Banks should not-cannot-just stop taking risk. It's the business we're in, and what we're paid to do. We have to be smart enough to take the right risks and get paid appropriately for the risks we take. But the purpose of banks is to keep capital flowing to fuel the economy and fulfilling that purpose is most important during times like these.

Third, mortgage providers must re-evaluate or discontinue the riskiest retail mortgage products we saw in this last cycle. Bank of America got out of the subprime origination business many years ago. I saw a risk, both for us and for our borrowers, and decided it was not a good business for us. Bank of America never thought products like Option-ARMS and Pick-a-Pay loans that permitted payments that failed to cover the interest due were good ideas, and we originated very few of these loans. While we do have more of these products in the Countrywide portfolio, we have discontinued offering almost all of these nontraditional mortgage products.

Most important, lenders must learn a lesson from this experience. The drive to take market share by creating new ways for people to stretch their purchase power will always be there. As an industry, we have to return to a more disciplined view of risk standards that will protect everyone from a repetition of what we're going through today.

The industry can do a lot but we need our public policy partners at the table as well. You can imagine that, as a banker, I'm not going to be the strongest advocate for government intervention. But I understand the risk of a vicious cycle in which imprudent lending practices and falling home prices lead to foreclosure, which cause further declines in home values throughout neighborhoods. I believe this situation calls for a measured public policy response that is crafted to mitigate the worst pain for the most vulnerable.

Here in California, just last week, the state Legislature enacted AB 1137, which requires loan services to conduct early outreach efforts with at-risk borrowers, gives tenants a 60 day transition period to find new housing after a home they are renting has been foreclosed, and requires that properties seized in foreclosure sales be maintained to prevent neighborhood blight. It is a point of pride for me that these measures, which the Center for Responsible Lending has called the strongest of their kind in the country, are consistent with practices that Bank of America already has in place.

The last topic I want to hit is what the future of the mortgage industry in the United States might look like. First, it will be smaller than it is today. This is simply a matter of supply and demand. With all the speculative purchasing gone, there is less business to go around. Further, we continue to have over capacity in the banking industry in general, with more than 8,200 banks and savings institutions in the country. An episode like this one has a way of culling the herd, so to speak.

Second, financial services will consolidate across the industry segments, bringing a wide range of products and services together in integrated companies like Bank of America. The downturn we're experiencing has proved the point: Many of the institutions that have been hardest hit are the ones that were most concentrated in housing. I believe the integrated, "universal bank" model will continue to gain market share and strength, as more players come to appreciate the benefits of revenue diversity.

This is precisely why Bank of America acquired Countrywide. Despite challenges in the mortgage markets, we believe that the U.S. housing sector will be strong again, and that we'll benefit from leading in this critical product category. After considerable analysis and due diligence, we also believe that the business we've acquired is a very good one, with a great franchise and large customer base, the best technology platform in the business, and many extremely talented people.

Third, financial innovation, both retail and wholesale, will continue. For the immediate future, I think the industry is returning to more traditional mortgage products and securities structuring and trading that provides for greater transparency and more clear valuation...

...Today, we are in the midst of a major market disruption. It is our shared challenge to do all we can to support the most vulnerable in our communities, even as we work to put our economy and financial system back on the right track for strong and stable growth.

As we engage in this work, we have a lot going for us. The U.S. economy remains among the most flexible and dynamic in the world. Our entrepreneurial culture and free markets are generating growth from the bottom up, even as we speak. And we have one another-business leaders, homeowners, bankers, and policymakers-all committed to working toward renewed prosperity here in Los Angeles and all over the country.

Speaking for all my teammates at Bank of America, I look forward to all we'll achieve for this city, and the community, working together.