Congress warned: Easy on loan fix

NEW YORK (CNNMoney.com) -- Make more money available for mortgages to ease the credit crunch. Give borrowers greater protection from predatory lenders. And encourage homeowners to call their bank.

Those are just a few of the proposed remedies being debated in Washington for remedying the nation's subprime mortgage crisis.

At a House Financial Services Committee hearing Thursday, Treasury Secretary Henry Paulson told lawmakers they should send troubled homeowners one simple but urgent message: "Call your lender or mortgage counselor today."

He noted that 50 percent of foreclosures occur without borrowers ever talking to their lenders, and said that he has gotten reports that lenders have tried to reach distressed borrowers to work out more affordable loan terms. "Yet those calls rarely get returned," he said.

The hearing highlights the challenges facing Congress as it gropes for solutions to the ever-worsening housing problems, which has seen foreclosure filings surge and home prices fall. Since the peak of the housing market in early 2006, national home prices have fallen 6.5 percent and are expected to fall further in the next year.

Lawmakers face political pressure to take action. But, at the same time, they are being warned by top economic officials like Paulson and Federal Reserve Chairman Ben Bernanke that some solutions could end up perpetuating risky lending practices that created the subprime mess in the first place.

Bernanke also warned lawmakers to carefully consider steps they take.

In particular, he noted that there are risks associated with one of the proposed remedies: raising the limits on the size of loans that Fannie Mae and Freddie Mac may buy. Leading lawmakers have supported the idea, and the Bush administration may go along with it under certain conditions.

"The perception, however inaccurate, that the [government-sponsored enterprises] are fully government-backed implies that investors have few incentives ... to act to constrain GSE risk-taking," Bernanke said in his written testimony. "Raising the conforming-loan limit would expand this implied guarantee ... reducing market discipline further."

Bernanke said that if Congress moved in that direction despite the risks, it should make sure the actions are enacted quickly and made temporary.

TalkBack: Is the government taking the right steps to deal with the mortgage crisis?

The two GSEs currently guarantee the purchase and trade of mortgages that don't exceed $417,000 and meet certain underwriting criteria.

That means home buyers in high-priced markets have to get so-called jumbo loans, which typically carry higher interest rates since the lenders know that a secondary market for such loans isn't guaranteed by Fannie and Freddie.

Many lawmakers have been calling for an increase in those loan limits so that the agencies can inject more liquidity in the credit-squeezed mortgage market, which seized up as a result of the subprime crisis.

Paulson also told Congress that such a change should be temporary and accompanied by enactment of GSE reform. The legislation, born from the accounting scandals that have rocked both agencies in the past few years, would make regulation of the agencies more stringent.

"Any legislation expanding their role must also correct their regulatory structure," Paulson said.

Paulson noted that the jumbo market has been a very profitable part of the mortgage market with low default rates, and as such is likely to correct itself in the next few months.

According to Doug Duncan, chief economist for the Mortgage Bankers Association, jumbo markets have recently started turning around.

"We've seen lenders come back into the jumbo market and the rates have dropped," Duncan said.

A number of proposals have been put forth to contain the current subprime contagion and to prevent another mortgage meltdown in the future.

A bill introduced by Sen. Charles Schumer (D-N.Y.), chairman of the Joint Economic Committee, would temporarily lift the portfolio caps allowed for Fannie Mae and Freddie Mac by 10 percent. Those caps apply to the amount of mortgage assets the government-sponsored agencies buy and own directly.

Half of the cap increase would be earmarked for the purchase of subprime refis with scheduled interest-rate resets between June 2005 and December 2009.

Those who oppose such a move, such as the Bush administration, Bernanke and the Office of Federal Housing Enterprise Oversight (OFHEO), which regulates both agencies, contend that such a big increase would not be prudent given the accounting problems both Freddie and Fannie have had. On Wednesday, however, OFHEO announced it would raise the portfolio cap for both agencies to $735 billion, retroactive to July 1, 2007, roughly $7 billion above current caps.

Bernanke outlined several initiatives that the Federal Reserve - which on Tuesday cut interest rates to "forestall some of the adverse effects" of the housing problems - is undertaking to address the subprime crisis, including plans to issue additional consumer protections for mortgage borrowers by the end of the year. Those protections may include greater mortgage disclosures of payments over the life of a loan and greater prohibition of deceptive advertising.

"We are committed to preventing problems from recurring, while still preserving responsible subprime lending," Bernanke told lawmakers Thursday.

For his part, Paulson noted that he favors a one-page disclosure and said it would be a "constructive step" to make standards uniform for mortgage originators in response to a question about whether he might support a national system for licensing or registering residential mortgage loan originators, which Rep. Spencer Bachus (R-Ala.) has proposed.

Another proposal targeting mortgage lenders and brokers is a predatory lending bill introduced by Senate Banking Chairman Christopher Dodd (D-Conn.), which would, among other things, hold lenders liable for appraisals and, in certain situations, for brokers' actions.