Finance Weblog: Policies for a mortgage crisis - Instituto de Empresa Business School

Turmoil in the US mortgage market and the possibility of higher foreclosures/delinquencies worry US policymakers. The economic effect of this housing slump on consumer’s consumption will define the end effect of the housing crisis on the economy. In order to fight it, several specific policies have been put forward, though none finally agreed upon. The measures are exceptional, and never considered before in similar situations.
The US Treasury secretary has proposed a national mortgage rescue that should be financed by the issuance of tax exempt bonds by state and local governments. The plan targets roughly 1.5 million adjustable-rate mortgages (ARMs) that are to be adjusted to higher monthly rates next year. The plan intends a freeze of rates on these loans. This plan is sponsored by a huge political will from the US government. However, this plan has important moral hazard issues and might induce irresponsible borrowing in the future. Moreover, they have to agree with the other side of the deal (mortgage servicers) and it is not clear that this political intervention will be much cheered by them.

Another recent proposal coming from the US is that presented by Bernanke. His proposal suggests increasing the maximum size of eligible Fannie Mae and Freddie Mac mortgages to 1 $ million from the current $ 417 000. Though he intends to stimulate the high-priced homes, it is probably targeting the wrong market. The sub prime market is that in need of a push.
Outside the US, we have recently seen many statements released by watchdogs on the perils and dangers of the housing sector developments. Still the usual policies are been implemented, and monetary easing is working throughout western economies. The Bank of Canada lowered rates yesterday, the Bank of England lowered rates today and the Fed is expected to ease monetary policy next week. Some suggest going far beyond monetary policy. Feldstein recently proposed in the Wall Street Journal a fiscal push in the form of fiscal rebates. But truly, this is unaffordable by the US. The last tax rebate offered by Bush ate to much of the Government finances and there is very little room on that side.
Future developments will tell whether measures taken are enough or further effort of designing policies are needed.

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