Consumer debt gets bailout attention

Paulson says Treasury will broaden reach to include non-bank financial firms and seek out private capital to match U.S. funds.

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NEW YORK (CNNMoney.com) -- Treasury Secretary Henry Paulson said Wednesday that the government would broaden the reach of its $700 billion bailout plan to support non-bank financial institutions that provide consumer credit, such as credit cards and auto loans.

In this second stage of the bailout, officials also hope to attract private capital, possibly through matching investments, to give the government's injections more heft.

Paulson also said the government is no longer planning to buy troubled mortgage assets, the original goal of the plan. Therefore, it must come up with new ways to help homeowners and slow the tide of foreclosures, which it had hoped to do once it owned the troubled loans.

"Although the financial system has stabilized, both banks and non-banks may well need more capital given their troubled asset holdings, projections for continued high rates of foreclosures and stagnant U.S. and world economic conditions," Paulson said.

"Second, the important markets for securitizing credit outside of the banking system also need support," he said. "Approximately 40 percent of U.S. consumer credit is provided through securitization of credit card receivables, auto loans and student loans and similar products. This market, which is vital for lending and growth, has for all practical purposes ground to a halt."

In the five weeks since Congress approved the bailout, the Treasury Department has focused on injecting capital into banks. Nearly 50 financial firms have won full or preliminary approval to receive a total of $172 billion in equity injections. The government has yet to award another $78 billion. Most institutions have until Friday, though private banks have additional time.

Also, the government on Monday tapped into $40 billion to amend the emergency loan for American International Group (AIG, Fortune 500), the struggling insurance titan. The Treasury Department has access to another $60 billion to stabilize the financial system.

Paulson said he does not have a timeline for when the Treasury Department would need congressional approval for access to the remaining $350 billion in the rescue package. At this time, he doesn't think stabilizing the system will require more than $700 billion.

Helping consumer finance companies

Paulson also said that Treasury and the Federal Reserve might set up a program to provide funding to consumer finance companies, taking AAA asset-backed securities as collateral.

Consumer finance companies that provide funding for auto loans, student loans and credit cards are suffering. Just as investors are no longer scooping up securities backed by mortgage loans, they are also shying away from investments backed by other loans.

The securitization market is a critical source of funding for most non-bank finance companies, which don't have the luxury of customer deposits. And banks and investments banks already have the ability to trade asset-backed securities for Fed funding.

Without access to funds, consumer financing companies have had to curtail their offerings or shut down. As a result, Americans have had a harder time getting car loans, student loans and credit cards.

"Addressing the needs of the securitization sector will help get lending going again, helping consumers and supporting the U.S. economy," Paulson said.

American Express (AXP, Fortune 500) provided the most recent example of the troubles facing non-bank financial institutions. On Monday, the Federal Reserve reclassified the credit card issuer as a bank so it could more easily access government financing. It has reportedly asked for $3.5 billion under the bailout plan.

More help needed for homeowners

When the Treasury Department first announced the rescue plan in late September, it said it could help homeowners because the government could more easily modify mortgages if it owned the troubled securities.

Now that Paulson has backed away from the bailout's original goal, federal officials have to find another way to assist borrowers facing foreclosure.

"In crafting the financial rescue package, we and the Congress agreed that Treasury would use its leverage as a major purchaser of troubled mortgages to work with servicers and achieve more aggressive mortgage modification standards," he said. "Now that we are not planning to purchase illiquid mortgage assets, we must find another way to meet that commitment."

Officials Tuesday unveiled a plan to streamline mortgage modifications on loans owned or guaranteed by Freddie Mac and Fannie Mae, which touch 58% of the single-family loan market. Experts, however, said more needs to be done because the program does not cover the majority of troubled loans, which are owned by private investors.

Government officials are continuing to review modification proposals, including one put forth by Federal Deposit Insurance Corp. Chairman Sheila Bair, which would use rescue plan funds to guarantee a portion of the restructured mortgages. Paulson said the department continues to "encourage" servicers to work with delinquent homeowners to get them into affordable mortgages.

Sen. Christopher Dodd, D-Conn., however, called on Paulson to do more to help homeowners.

"While I believe that today's announcement is the appropriate course of action, it is becoming increasingly apparent that a robust and aggressive program to stem the tide of foreclosures sweeping across the nation is critical to any policy to put our economy back on track," he said. "Secretary Paulson should be as quick to realize that the foreclosure issue is critical to solving our problems as he was in realizing that equity purchases were necessary."

Wall Street firms also expressed disappointment in the shift away from buying troubled assets. One of the main problems that has arisen amid the mortgage meltdown is that firms can no longer put a price on these assets because no one wants to buy them. Had the government purchased distressed mortgage securities, it would have valued these assets.

"Until we have a functioning marketplace -- where buyers and sellers agree on prices and institutions can subsequently judge the value of the assets they hold -- uncertainty could keep many financial players on the sidelines, restricting lending capital for the larger economy," said Tim Ryan, head of the Securities Industry and Financial Markets Association. "Treasury is uniquely positioned to bring these buyers and sellers together."

Responding to calls to use bailout money to aid struggling carmakers, Paulson said the rescue plan is aimed at stabilizing financial institutions. He added that Congress could look to amend the terms of the recent $25 billion loan package for automakers.

President-elect Barack Obama, who has said he wants to review the rescue plan's implementation, is pushing the Bush administration to assist them. To top of page

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