With the way the economy has been going for the past few months and the rising number of failed banks, it may seem that the only relief homeowners may get from a pending foreclosure is if their bank goes out of business or the entire financial system collapses. But while this may help some borrowers avoid paying their debts for a while, in the end, the banks and government will work something out to make sure everyone pays what they owe.
In a complete financial collapse, foreclosures may be halted for a while as banks holding mortgages fail, especially if the government does not step in quickly enough to take over the assets or arrange sales of the failed institutions (as it did with the sale of Washington Mutual to JPMorgan Chase). Even in the best case, though, this may only mean a temporary halt in the wave of foreclosures sweeping over the nation.
A complete meltdown of the economy and financial system will most assuredly be precipitated by a severe loss of confidence in the dollar and the banking system. Depositors will make runs on banks, taking out their money in the form of cash in order to prevent the institution from declaring bankruptcy and refusing access to currency.
Because banks do not hold very many reserves in their vaults, they will be unable to pay back everyone who demands money and will then be taken over by the Federal Deposit Insurance Corporation (FDIC). There is a limit to how many failures the FDIC can handle, however, and there is already discussion among bureaucrats and politicians that it may have to borrow money from the Federal Reserve in order to meet its deposit insurance obligations.
Even more worrisome is the fact that foreign investors may dump their dollar holdings (in the form of US Treasury securities) onto the world market, driving down the value of the dollar very quickly and flooding the market with a very large supply of devalued dollar-denominated securities. This would ensure that the government can no longer borrow money from these nations, thus restricting its ability to deal with an ongoing financial crisis by borrowing or monetizing debt through the issuance of more securities.
So the financial system may grind to a temporary halt as banks realize their insolvency and the government can not allocate resources to bail out financial firms or arrange sales of assets between a healthy bank and a failed one. This may leave a lot of foreclosure victims seemingly hanging for months or even years as no one is there to collect payments, negotiate mortgages, or even pursue foreclosure lawsuits in the local courts.
But debt collectors are like cockroaches. Although it may seem as if they have disappeared during the financial crisis, they are simply watching out for their own and plotting a profitable return. Collection agencies will survive almost any disaster and will be looking to purchase defaulted mortgage debts as soon as the economic situation has stabilized. This means that homeowners now facing foreclosure need to keep track of how many payments they have missed and be ready to make those payments when a legitimate owner of the debt comes asking.
So homeowners facing foreclosure should do everything they can to keep saving money even if their bank fails or the government can no longer meet its obligations. Lenders will go bankrupt and the FDIC may join them in not having the resources to guarantee deposits in a currency that holds any value. Families facing foreclosure may get a much-appreciated break from the stresses caused by losing a home, but debt collectors will be waiting on the other side of the collapse to begin buying up defaulted accounts and going after homeowners.
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