Best ways to fix the subprime mess

Create a new financial instrument

The Office of Thrift Supervision (OTS) proposes creating negative amortization certificates (NACs). Say a bank agrees to write down a $250,000 mortgage to $200,000, relieving a borrower of $50,000 in debt. The government will then issue the lender NACs worth $50,000. When the homeowner sells, the first $50,000 in profit goes to repay the NAC. Anything above that, the seller keeps. If the home goes for less than $250,000, the bank gets all of the profits and the NAC disappears.

The pros: Banks would be more willing to cut borrowers a break because they would get an asset for doing so. Homeowners would get part of their debt relieved, a more affordable mortgage and the reduced risk of owing money when they sell the house.

The cons: If owners knew banks had first claims on profits, they'd have less incentive to renovate or maintain their homes. NACs would be hard to value - and the last thing we need is another hard-to-understand financial instrument.

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