San Diego Housing Bubble News and Analysis

http://www.latimes.com/business/la-fi-pe...

One view of the Bush administration's mortgage-crisis action plan, outlined by the president Friday, is that it's a Republican attempt to avoid a larger-scale federal intervention.

But history suggests that a larger-scale government intervention is exactly what we're going to get.

The U.S. loan guarantee for Chrysler Corp. in 1979, the Treasury-engineered refinancing of Latin American debt in 1989, the savings and loan bailout of the early 1990s -- all of these were solutions for problems that were deemed too big for any entity other than Uncle Sam to handle.

What, then, is the current housing bust, if not of the same or even greater import to the economy than the above? A few hours after President Bush spoke, the liberal-leaning Center for American Progress reached back to the 1930s to propose the re-creation of the Home Owners' Loan Corp., which during the Great Depression directly refinanced many delinquent mortgages.

A new Home Owners' Loan Corp. would perform the same function: It would take over, at taxpayers' expense -- and also at some loss to lenders -- a large chunk of the mortgages now in default or destined to land there.

The idea that a government entity should step in to save some significant number of people who can't make their mortgage payments has been gaining traction, and not just with the think-tank set.

Bill Gross, the bond fund guru at Pacific Investment Management Co. in Newport Beach, in his latest website commentary all but demanded that Bush rescue "millions of hard-working Americans whose recent hours have become ones of frantic desperation."

Of course, given the turmoil that wracked bond and stock markets in August -- much of it rooted in surging mortgage delinquencies that have caused mortgage-backed bonds to crash in value -- it's hardly surprising that big investors in general would support a plan that could damp markets' worst fears.

And if mortgage bonds stop plummeting, who benefits more than Wall Street?

How bad is the housing situation, really? One number thrown around repeatedly is that 2-million homeowners have adjustable-rate mortgages that will reset in the next few years from low "teaser" rates, and that many of those folks won't be able to afford the higher payments.

But if the economy keeps expanding, and most people keep their jobs, maybe the loan defaults won't be extreme. On the other hand, the foreclosure data this year aren't encouraging. Nor is the downward trend in home prices in many regions.

The criticism of Bush's plan, predictably, is that it doesn't go far enough. He wants the Federal Housing Administration, itself a product of the Depression, to have expanded powers to insure mortgages, including for people who fall behind on payments.

That should allow 80,000 more people to refinance via FHA-insured loans in the next year or so, beyond the 160,000 who already were expected to get FHA loans, the agency says.

If the number of failed mortgages reaches into the millions, however, that 80,000-loan addition won't look like much.

The alternative -- direct government purchases of troubled loans -- conceivably could help many more struggling homeowners, and could soothe financial markets that fear there is no end in sight for the housing bust.

As envisioned by the Center for American Progress, a new Home Owners' Loan Corp. would invite homeowners who meet certain criteria to apply for loan relief. The agency then would go directly to the lender or investor holding the loan and make an offer to refinance at some amount that would require the holder to take a haircut.

Some lenders will just decide to work out a loan with a borrower on their own. Others may see foreclosure, and resale of a home, as the logical option.

But those lenders or investors who want to quickly be rid of problem loans could see the new agency as their best bet, contends Andrew Jakabovics, an associate director at the center.

Only a federal agency "would be able to negotiate on a mass scale because it would bring considerable powers of persuasion to induce the loan holders to the bargaining table," he said.

The Depression-era Home Owners' Loan Corp. paid lenders for loans by issuing government bonds that earned 4% tax-free interest. Therein is the taxpayer cost, although much or all of it could be recouped over time if most people who are saved make good on their new loans held or guaranteed by Uncle Sam.

Other proposals for the direct government takeover of troubled loans follow similar scripts. A central point in all of them is that only some subset of struggling borrowers would be saved -- mainly, people who can afford a new loan at a reasonable rate and who live on the property.

Would this fix face enormous challenges because of how loans have been securitized? Yes. Could it be a taxpayer boondoggle? Ditto. Could it foster "moral hazard" – encouraging bad behavior by other borrowers (and lenders)? You bet.

The thought of a bailout has and will continue to infuriate millions of Americans who didn't succumb to the temptation of a temporarily cheap mortgage to buy a house they really couldn't afford, or to tap their home equity for that boat, RV or vacation villa that also was otherwise beyond their means.

Then again, if some of your neighbors are in danger of facing foreclosure, you may think differently about the idea of a government-led rescue. In a sinking housing market, it may be better for your own property's value to keep your neighbors in their homes than to face a street pocked with vacant units, perhaps for years to come.

In any case, history -- and the approach of an election year -- suggest that Washington will come riding to the rescue, and on a greater scale than what the White House has proposed.

tom [dot] petruno [at] latimes [dot] com