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When last I published, I discussed mortgage put-backs. I discussed how that could lock up the mortgage market and further hinder a recovery of the housing market. That scenario appears to be playing out. After enduring two weeks of bashing by politicians, investors and the GSEs (yeah, like they are in a position to criticize), banks are beginning to take a stand against there critics. Even Bank of America (NYSE:BAC) is going to fight against put-backs. It is easy to point one's finger at the banks, though they are not solely culpable.

There is enough blame to go around. Banks slackened their underwriting standards and in the frenzy to write an increasing number of mortgages, banks chose to overwork underwriting departments and may have let a few (or not so few) bad mortgages slip through the cracks. After all, the banks and the credit ratings services had complete and, as we have discovered, misplaced confidence in quantitative models which, as with all models, were backward looking and couldn't account for the unknown unknowns.

However, blame has to also be placed on the investors themselves who conveniently did not ask questions regarding the quality of and underwriting accuracy of the underlying mortgages. The banks will have to cough up money, but the large banks have the cash to create reserve funds and can easily raise more capital in this market and raise it cheaply. The demise of large banks is greatly exaggerated, including Bank of America. Regional banks could be a different story.

The end result is likely to be a very modest recovery and soft growth and spending for years to come as the banks find religion and perform proper due diligence. The days of credit for all are over. Any inflation we see (and we could see it) is more likely to be the result of a devalued dollar than growth. We will see a recovery, but it will feel like a prolonged mild inflation. Waiting for unemployment to dip below 8.00%? Good luck!. Getting it below 9.00% will be a challenge.

Investors believe the Fed will succeed in generating inflation as they bought yesterday's TIPS auction with a negative yield to maturity for the first time in history. Inflation, yes. Growth, kind of.

Disclosure: Long BAC and C

Source: Economy Watch: Mortgaging the Future