Treasury, FDIC Near Deal on Mortgage Aid
U.S. Would Guarantee Distressed Home Loans

By Peter Whoriskey, David Cho and Zachary A. Goldfarb
Washington Post Staff Writers
Thursday, October 30, 2008

Negotiators for the Treasury and Federal Deposit Insurance Corp. are nearing agreement on a plan to have the government guarantee the mortgages of millions of distressed homeowners in what would be a significant departure for the federal rescue program, which has so far directed relief exclusively to banks and other financial institutions.

The plan, which sources said could cover as many as 3 million homeowners in danger of foreclosure and cost $40 billion to $50 billion, would go well beyond previous government and private-sector initiatives. Critics say these have attracted too few lenders or offered too little aid to homeowners to stem the foreclosure crisis.

But with economic anxieties continuing to mount and political pressure growing for expanded help to homeowners, federal officials could announce a new program to cover as much as $600 billion in mortgage loans in the coming days, sources said. They spoke on condition of anonymity because the negotiations were ongoing.

Treasury officials confirmed yesterday that discussions were underway for homeowner aid but said that any figures remained fluid and that other options were under consideration, as well.

Several sources said the mortgage program still faces resistance from the White House. A spokesman for President Bush said last night that the administration was analyzing various proposals.

"We have been reviewing a number of housing proposals for some time and no decisions have been made on any of them," White House spokesman Tony Fratto said. "Any inference that we're 'nearing' a decision on any one of them is simply wrong."

The possible details of the homeowner bailout emerged yesterday, another day of extraordinary measures by U.S. and foreign governments to arrest the financial crisis.

The Federal Reserve cut interest rates for the second time in two weeks and, in a move that exposes it to the risk of lending to developing nations for the first time, said it would pump as much as $120 billion into the central banks of Mexico, Brazil, Singapore and South Korea.

The International Monetary Fund said it would offer as much as $100 billion in emergency loans to developing countries staggered by investor flight and runs on their currencies and stock markets. Earlier this week, the European Central Bank said it would join the IMF and World Bank in a $25.1 billion bailout of Hungary and China's central bank cut the interest rate it controls.

At the U.S. Treasury, a growing number of financial institutions and other companies have been lobbying to get a slice of the $700 billion federal bailout.

Some foreign banks are asking to participate in the Treasury's bank investment program because "this is a global crisis," according to a letter from the Financial Services Roundtable, a trade association for large financial firms.

The nation's two major bond insurers sent letters making suggestions on shaping the rescue plan, with one asking that the government cover a portion of their losses to prevent a "systemic implosion" of the economy.

Meanwhile, General Motors wants some of the rescue money to help it merge with Chrysler, and insurance companies have asked that they be given the same consideration that banks have received under the rescue.

"Everyone has their hand out now," said a lobbyist who represents one of the industries recently in touch with the Treasury. The lobbyist declined to comment further for fear of hurting the industry's case. "It's a lot of money, and people are hurting."

While the financial crisis is rooted in the ailing mortgage market and the wave of foreclosures sweeping the nation, none of the $700 billion rescue package approved by Congress has yet been targeted at struggling homeowners.

On the campaign trail, Sen. John McCain (R-Ariz.) has proposed a program to help distressed homeowners by having the government issue new, federally guaranteed mortgages on more affordable terms. Under his plan, the government would absorb the troubled loans at face value and take the full loss rather than having lenders be responsible for any of it.

FDIC Chairman Sheila C. Bair has been especially outspoken about helping borrowers. But yesterday, her agency said little publicly about the specifics of the plan being negotiated.

"While we have had productive conversations with Treasury about the use of credit enhancements and loan guarantees, it would premature to speculate about any final framework or parameters of a potential program," said Andrew Gray, an FDIC spokesman.

The issue has stirred political rancor. Critics of foreclosure aid doubt that a homeowner who took on an unaffordable loan is entitled to government help -- while those who have kept up with payments receive nothing.

But some members of Congress seized upon the fact that the first $350 billion of the rescue package has been allocated not for homeowners but for financial institutions.

"The key to our economic recovery is in addressing the root cause of this crisis -- the housing crisis," said Sen. Christopher J. Dodd (D-Conn.), chairman of the Senate Banking Committee. "Federal agencies and financial institutions must do more to modify the mortgages they hold in order to stop foreclosures and help families keep their homes."

Under the program being discussed, banks or other lenders would agree to reduce the monthly payments of borrowers to a level they could afford. The payments could be reduced by lowering the interest rate, cutting the amount owed or extending the repayment period. The goal would be to help homeowners avert foreclosure.

In exchange, lenders who agree to do this would get a government guarantee that they would be compensated for a portion of any losses should borrowers default on the reconfigured loans.

One of the toughest issues facing negotiators is how to define which struggling homeowners should get a bailout. If the government guarantees relatively risky loans, it is more likely to face a steeper tab. So if the gap between a household's income and what it owes on a mortgage is large, for example, the government may shy away from guaranteeing the loan.

Aware that how they define homeowner eligibility could cause a political furor, negotiators have struggled to come up with parameters that would be considered fair, a banking industry source said.

One model could be the program the FDIC created after it took over IndyMac, a bank that failed after having made billions of dollars in risky mortgage loans.

IndyMac works with any borrowers who are delinquent or in default on their loans or at risk of becoming delinquent. The goal is to change mortgage terms so borrowers must pay no more than 38 percent of their income to cover their mortgage costs, including principal, interest, taxes and insurance.

Under the IndyMac program, a homeowner is excluded if the costs of reducing the loan payments exceed the costs of simply foreclosing on the home.

The financial crisis has prompted calls from a wide range of economic interests. Financial guarantee companies, for example, insure $1.4 trillion in state and municipal bonds, as well as $900 million in corporate and other debt.

When backed by the bond insurance that these outfits offer, a company or local government can borrow money more cheaply.

But the financial crisis has strained their balance sheets, and Moody's rating service says MBIA and Ambac Financial Group, the two largest in the industry, are "on review for downgrade."

Citing the possibility of a "systemic implosion" if such companies fail, Ambac has asked that the Treasury support the industry by guaranteeing a portion of losses.

The industry's cause is being championed by New York Insurance Superintendent Eric R. Dinallo, who has spoken on its behalf in an interview on CNBC and in speeches. Without a robust bond insurance industry, he has argued, it would be even more difficult for state and local governments to raise money for capital projects.

Ambac expressed similar arguments in its letter to the Treasury.

"Support that helps to stabilize the U.S. financial guarantors will have an exponentially positive impact for several critical sectors of the U.S. economy," Ambac's letter said.

The Treasury is also facing pressure to allow foreign banks to participate in its premiere program. While the legislation authorizing the $700 billion rescue allows foreign banks to participate, the first rescue program defined by Treasury -- the so-called capital purchase program -- does not.

Under that program, the government is investing $250 billion in banks in exchange for preferred shares that initially pay 5 percent annually, giving banks a relatively cheap source of capital.

Other countries have adopted similar programs.

So why should foreign banks be allowed to participate?

"This is a global crisis," according to a letter from the Financial Services Roundtable to the Treasury. The organization represents large financial institutions, including some foreign banks such as UBS, Barclays, Union Bank of California, Citizens Bank and HSBC.

"These companies play a large role in the U.S. economy," said Scott Talbott, vice president of the organization. "They have U.S. employees, they lend to U.S. taxpayers to pay for U.S. homes."

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