A Rescue for Borrowers
TREASURY Secretary Henry M. Paulson Jr. doesn't lack credentials to cope with the subprime mortgage crisis. As a former chief executive of Goldman Sachs, Mr. Paulson has the financial know-how and the Wall Street connections to navigate the storm. His old firm is one of the wise few on the Street that did not bet heavily on securitized subprime debt. Yet until now, Mr. Paulson's performance has been only modestly successful. His signature initiative was to organize a group of banks to buy distressed mortgage-backed securities in order to avert the collapse of the commercial paper market. At last check, that scheme was still not up and running, hampered by technical issues and the markets' concerns that big subprime players might be using it as a means of sloughing off their own necessary losses.
Mr. Paulson's latest proposal is more promising. As President Bush will announce today, the Treasury Department has negotiated a broad debt-relief plan with lenders, mortgage servicers and holders of mortgage-backed securities. The idea is to give the most financially capable subprime borrowers a second chance. Instead of letting adjustable-rate mortgages "reset" over the next year, thus socking borrowers with huge monthly payment increases and, probably, foreclosure, interest rates would be frozen at the initial "teaser" rate for five years. Wall Street wags have already dubbed the concept "teaser-freezer." The deal would apply to homeowners who got adjustable-rate mortgages between Jan 1, 2005 and July 31 of this year and who are facing a sharp jump in their rates before July 31, 2010 -- as many as 1.2 million subprime borrowers who are current on their payments but facing unaffordable resets.
This is not a total bailout: Homeowners would still have to make monthly payments; lenders and bondholders would take a hit. But losses to both sides would be less than if everyone had to go through the wrenching process of massive foreclosure -- which would also harm the property values of everyone who lives near the belly-up properties. It's possible to quibble the concept to death: It offers no relief for some 400,000 borrowers who are already behind on their mortgages; it also gives no reward to those who have managed to scrape together the cash to pay loans that have already been reset, or those prudent souls who steered clear of subprime mortgages despite the blandishments of the mortgage industry. Holders of securitized mortgage debt have legal rights to certain income streams; some might sue rather than give anything up. The litigiously inclined, though, should be aware that they're better off dealing with the Bush administration than the Democratic Congress, which is working on a proposal to let bankruptcy judges modify distressed homeowners' mortgages.
It's silly to protest that the administration's proposal amounts to government meddling in the marketplace, as some did as the first details emerged yesterday. The federal government already intervenes massively in housing through its implied guarantee to Fannie Mae and Freddie Mac, as well as through a host of other programs. The country as a whole would be worse off if all the players in the mortgage game insisted on every last nickel they might be legally entitled to. The administration plan, as outlined, looks like a path of enlightened self-interest. A successful outcome would show that, in times of financial crisis, the government's most important power can be its power to persuade.