Bailing Out Homeowners
Washington explores help for those who can't pay mortgages
"Liquidate labor, liquidate stocks...liquidate real estate. It will purge the rottenness out of the system.... People will work harder, live a more moral life." That was how Herbert Hoover once described Treasury Secretary Andrew Mellon's unsympathetic attitude as the Great Depression began to unfold.
To homeowners struggling to make their mortgage payments—or worried they won't be able to when their adjustable-rate mortgages reset—it might seem as if that brand of financial puritanism is once again dominating Washington. When the Federal Reserve recently cut the discount rate it charges to banks, it didn't lower its key federal funds rate, long at 5.25 percent. Most ARMs indirectly track the fed funds rate, and a Fed rate cut would help reduce those monthly mortgage payments. Moreover, when President Bush was asked earlier this month about helping homeowners, he offered empathy but no cash: "If you mean direct grants to homeowners," Bush said, "the answer would be, 'No, I don't support that.'"
FHA role. But the spreading credit crunch has created a renewed sense of urgency. In an interview with CNBC last week, Treasury Secretary Henry Paulson said the administration is "really focused on the homeowners...who are in danger of losing their homes and thinking through policy options to address that segment of the market." One possibility: The Federal Housing Administration could offer refinancing options to homeowners. On Capitol Hill, Democrats have renewed efforts to free mortgage giants Fannie Mae and Freddie Mac to purchase so-called jumbo loans, a beleaguered sector of the mortgage market. But the White House has resisted raising the caps, noting past financial difficulties at Fannie and Freddie. Yet given Democrats' growing enthusiasm on this issue—and the fact that the Senate Banking Committee is chaired by presidential candidate Christopher Dodd—independent policy analyst Charles Gabriel thinks the White House could still "be dragged kicking and screaming" into accepting greater loan flexibility for the two entities.
Indeed, if the housing crisis worsens, more drastic action might suddenly seem plausible. One idea floating around Capitol Hill is to change the nation's bankruptcy laws to help subprime borrowers keep living in their homes even if foreclosed upon. Devised by Dean Baker of the Center for Economic and Policy Research, a left-of-center think tank, the plan would change the foreclosure process so that owners who have lost their homes could opt to remain in the houses by paying fair-market rent. "This isn't some big giveaway, and it's not going to make anyone rich," Baker says. "What it does do is help out homeowners rather than the bank or hedge funds."
Andrew Samwick, former chief economist for Bush's Council of Economic Advisers, admits his first instinct is that the government should do nothing. Yet he admits feeling more than a "pang of sympathy" for people who were misled when taking out subprime mortgages. So if the government does take action, he would prefer a plan like Baker's that "leaves as small a footprint as possible" over one that creates billion-dollar bailout funds or sweeping changes to Fannie Mae and Freddie Mac. Even Andrew Mellon might have approved.
This story appears in the September 3, 2007 print edition of U.S. News & World Report.