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Bush, Bernanke Pledge To Stabilize Mortgage Meltdown

But no bail-outs for speculators; higher FHA limits possible

by Martin H. Bosworth
ConsumerAffairs.com

September 1, 2007

Both men rejected calls for a wide-scale bailout of lenders and borrowers, with Bush saying during his press conference that, "It's not the government's job to bail out speculators or those who bought a home they knew they could not afford."

While giving a speech at a Federal Reserve economic symposium in Kansas City, Bernanke reiterated his belief that "[i]t is not the responsibility of the Federal Reserve--nor would it be appropriate--to protect lenders and investors from the consequences of their financial decisions."

Under Bush's plan, homeowners with subprime adjustable-rate mortgages (ARMs) would be able to refinance their mortgages with loans backed by the Federal Housing Administration (FHA).

In order to qualify for the plan, homeowners would have to verify they were current on their mortgage payments before the rate reset, and that they had 3 percent or more equity in their homes. Roughly 80,000 homeowners currently qualify for the assistance under current regulations.

FHA Reform

Bush's plan is an opening move in his larger agenda to reform the FHA, including expanding the limits of loans the FHA will support.

The FHA's current maximum limit for backing a loan is $362,000, which has made it unusable in "bubble" markets such as California, New York, and Washington, D.C. Bush has proposed raising the maximum limit to $417,000.

Although the mortgage meltdown is chiefly affecting borrowers with subprime loan terms, even homeowners with "jumbo" mortgages--those above the $417,000 limit--are having a harder time selling their properties or getting lenders to back new big loans. High-end properties in the million-dollar range are moving more slowly and buyers are hesitating, causing a ripple effect that may lead to lower overall prices.

Bush's tax advisory panel had previously recommended limiting the tax deductibility of jumbo mortgages in order to reduce home prices and increase tax revenue, but the recommendations were never adopted.

Smoke Signals

Meanwhile, Bernanke's remarks placated a jittery Wall Street, which ended the day trading higher on hopes that the Fed may consider a cut in its prime lending interest rate when it next convenes.

But Bernanke also admitted that the effects of the mortgage meltdown and subsequent credit crunch were more widespread than he had anticipated.

"In particular, the further tightening of credit conditions, if sustained, would increase the risk that the current weakness in housing could be deeper or more prolonged than previously expected, with possible adverse effects on consumer spending and the economy more generally," Bernanke said.

"Consequently, we will pay particularly close attention to the timeliest indicators, as well as information gleaned from our business and banking contacts around the country."

In previous remarks since taking office in 2005, Bernanke has emphasized that the chief role of the Fed is to contain inflation and promote growth, and claimed that any problems rising from increased defaults on subprime loans were contained, and would not affect the larger economy.

His stance became more pessimisstic in recent weeks, as he admitted that the market's troubles were spreading worldwide.

However, should the Fed vote to lower interest rates in order to spur more lending and borrowing, it may send a dangerous signal to Wall Street to continue engaging in the kind of risky lending behavior that precipitated the housing boom--and subsequent bust--in the first place.

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