The Home-Loan Crisis: Who will help borrowers in trouble?

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The unfolding crisis in the $10.8 trillion U.S. home loan market is so widespread and so complex that many experts question whether the government can do much to fix it, especially if a bailout isn’t on the table.

“Some people are just in houses that are just way out of reach for them,” says Douglas Elmendorf, a senior economics fellow at the Brookings Institution. Politicians do not like “explicitly appropriating funds for this,” he notes.

Congress, the White House and bank regulators have little ability to prevent defaults and foreclosures, says Karen Weaver, global head of securitization research at Deutsche Bank. “It’s unfortunate, but it has to play out. …We need home prices to come back to reality.”

Washington’s desire to help is undercut by the reality that it’s not viable to rescue homeowners or banks that made loans or investors that bought securities backed by mortgages. Some lawmakers and several consumer groups say lending law reform is needed to prDevent mortgage abuses in the future; others say doing it now makes it harder for the housing market to recover. Republican critics say proposed legislation by Rep. Barney Frank (D-Mass.), chairman of the House Financial Services Committee, to crack down on mortgage lending abuses would push the country into a housing recession because lenders would face new restrictions on their ability to help borrowers refinance.

Political pragmatists say there are so many complicated issues at hand and so many interest groups involved that only narrow proposals can muster support. For example, Alex Pollock, a resident fellow at the American Enterprise Institute, has drawn up a one-page mortgage form designed to give borrowers a much simpler way to understand the financial commitments involved in a home loan. Yet, his commonsense suggestion is overshadowed by fears of what more defaults will do to the economy and financial markets.

Former Federal Reserve Chairman Alan Greenspan says the data suggest the housing downturn is worse than anticipated. His analysis of housing statistics put the possibility of a recession in 2008 at 50/50. Politicians headed into a presidential election year aren’t thrilled with those odds. Moody’s Economy.com projects that more than 2 million mortgages worth about $450 billion will default. Even after homes are sold at foreclosure auctions, investors are still likely to be hit with nearly $150 billion in losses, according to the forecast. The defaults extend beyond subprime mortgages extended to borrowers with weak credit. They include loans made to borrowers who weren’t required to provide proof of income, borrowed more than what their home is worth or made down payments of less than 10 percent.

President Bush has pushed for expanded authority for the Federal Housing Administration, a Depression-era agency that insures loans made to low-income borrowers. A bill authorizing the FHA to help borrowers with larger home loans stalled in the Senate after passing in the House. Many experts say its impact would be limited.

Sheila Bair, chair of the Federal Deposit Insurance Corp., argues that mortgage servicing companies should agree to widespread conversions of adjustable-rate loans to fixed-rate loans for borrowers who are current on payments but confront rate resets. Experts in the $6 trillion market for mortgage-backed securities say Bair’s idea won’t work because mortgage servicing companies, which collect and distribute loan payments to lenders, have a legal responsibility to modify loans only if they’re confident the changes would be successful, says Mark Adelson, a mortgage securitization consultant.