Govt home loan aid plan will protect banks
Millions will continue to face foreclosure
BY MAGGIE TROWE
MIAMIAs the rate of home foreclosures soared for those holding high-interest subprime mortgages, U.S. president George Bush announced a plan December 6 that he said would address the crisis. The plan, put forward by the White House and a group of banks and other major lenders, would affect only a minoritypossibly 12 percentof subprime borrowers facing loss of their homes. It would protect financial institutions that profit from mortgages.
Meanwhile, in Florida, concern over investments linked to subprime mortgages led panicky local governments to withdraw billions from a state-run investment fund, prompting Florida officials to temporarily freeze the $14 billion fund.
Other states also face problems with funds invested in securities known as structured investment vehicles (SIVs). The SIVs, composed of bundles of subprime mortgage debt, were given misleadingly high ratings by Wall Street rating agencies and sold to investors around the world.
During the recent housing boom, lenders lured many working people, previously denied credit, into buying homes with subprime mortgageshigh-interest loans that require little down payment and no proof of income. This includes adjustable rate mortgages, which begin with interest-only payments for a few years, then jump to exorbitant rates. Caught between soaring payments and sinking home prices, hundreds of thousands of workers and people in the middle classes have defaulted, leading scores of subprime lenders to go under.
The Mortgage Bankers Association announced in early December that U.S. home foreclosures have reached the highest rate since 1972. About 1.7 percent of mortgage holders have entered the foreclosure process, which means a bank or other lending institution is moving to evict a borrower who misses mortgage payments and to repossess the house. More than a million homeowners face foreclosure.
In his December 6 speech, Bush praised innovative mortgage products that in recent years have helped millions of Americans afford their own homes. Bush criticized lenders who made loans that borrowers did not understand and borrowers who took out loans they knew they could not afford, suggesting that those who are losing their homes are irresponsible or lacking in intelligence.
Bush outlined a plan crafted by a group of lenders dubbed the HOPE NOW Alliance. The group includes Bank of America, Citigroup, HSBC, JPMorgan Chase, GMAC, State Farm Insurance, and other major capitalist interests.
Under the guidelines drafted by the HOPE NOW Alliance, some loan-servicing companies would agree to hold payments on adjustable rate mortgages (ARMs) at the lower introductory rates for a period of time. For some other mortgage holders in dire straits, credit counselors will supposedly help them find new loans to prevent foreclosure. Around 1.8 million home loans are ARMs set to increase sharply in the next two years.
But the deal provides no help for many subprime mortgage holders: those already in foreclosure, those who have already refinanced, and those who are more than 60 days delinquent on more than one payment over the past year. Nor will the plan apply to many who have good credit scores or are deemed capable of paying exorbitant interest rates.
Only 12 percent of subprime borrowerssome 240,000 peoplewould be affected by the freeze, according to analysts at Barclays Capital Research. And the second-largest category of loans entering foreclosureadjustable-rate mortgages given to people who had good creditare not even being considered for the freeze.
The rate freeze scheme needs no Congressional action to be implemented.
Many investors who have profited from subprime mortgages oppose the plan. Milton Ezrati of the money-management firm Lord Abbett & Co. told the Wall Street Journal he feared potential investors in mortgage-backed securities might say, If you can interrupt my cash flow today, you can do it tomorrow.
Some who favor the plan were not optimistic. Nouriel Roubini, a New York University economist and head of a research firm, told the Journal, Over the next three years were still going to see a housing recession that leads to defaults and foreclosures. Anything we do now is on the margins.
Democratic party presidential hopeful Hillary Clinton criticized the plan, saying the Bush administration has let down the American middle class. Her proposal differed little from the presidents plan, however, except that it called for a 90-day moratorium on subprime foreclosures.
Run on Florida fund
The sharp decline in the value of SIV subprime mortgage bundles is having widespread repercussions. On November 29 the Florida government temporarily froze withdrawals from its Local Government Investment Pool to staunch a run on deposits. The $17 billion fund was set up to allow local municipal and school districts to deposit collected tax funds prior to spending the money on budgeted expenses such as payroll and debt to vendors.
The LGIP was revealed to include highly rated mortgage-backed securities that were downgraded as the foreclosure rate skyrocketed. Within two weeks, the Orange County, Florida, government and other districts withdrew 37 percent of the funds, triggering the freeze.
The problem remains unresolved. The executive director of the State Board of Administration, Coleman Stipanovich, resigned under pressure and the state hired BlackRock, a Wall Street investment management firm, to segregate the SIVs into a separate fund and limit withdrawals from the remaining funds while officials scramble to find some solution.
Local governments in a number of countries have reported losing substantial funds through similar investments. Commenting on these developments, an article in the Financial Times noted, That localities in places as far apart as Florida and Norway have been burnt by the housing-related credit squeeze in the U.S. is a reminder of the potential for contagion. More importantly, it shows how the problems are still spreading slowly through the financial system. With new bombs continuing to go off in unlikely places, it looks increasingly clear that the credit crisis still has a way to runand plenty more opportunity to inflict damage on the real economy.
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