Bernanke: Foreclosure woes require action

Price declines have become one of the biggest contributors to high default rates, Fed chief says. Stopping foreclosures is in 'everybody's interest.'

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By Les Christie staff writer

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NEW YORK ( -- The wave of foreclosures sweeping the nation is driven in part by a nearly unprecedented decline in home prices and require a concerted government and private-sector response, Ben Bernanke, chairman of the Federal Reserve, said Monday.

"Realistic public- and private-sector policies must take into account the fact that traditional foreclosure avoidance strategies may not always work well in the current environment," Bernanke said in a speech before the Columbia School of Business.

Bernanke's comments come as concern about the housing crisis and debate about how to help homeowners in trouble is growing.

Foreclosure filings of all kinds - delinquency notices, auctions sale notices and bank repossessions - were up 112% during the first three months of 2008 compared with the same period a year ago. Community advocates and policy makers are worried that the problem will worsen as the interest rates on as many as 1.8 million mortgages reset this year.

"High rates of delinquency and foreclosure can have substantial spillover effects on the housing market, the financial markets, and the broader economy," concluded Bernanke. "Doing what we can to avoid preventable foreclosures is not just in the interest of lenders and borrowers. It's in everybody's interest."

In explaining the forces behind the problem, Bernanke cited the "increasing role" of declines in home values. He unveiled a series of "heat maps" that showed delinquency rates, job losses and home price changes.

Unemployment statistics, according to Bernanke, do not explain the increased delinquencies of many areas, including California, Florida and parts of Colorado, where foreclosure filings have increased even when unemployment generally have fallen.

More revealing was the close correlation between declining home prices and high delinquency rates. On the home price decline map, states like California and Florida were drenched in red, indicating the worst losses. On the map revealing the highest foreclosure rates, the same states were also covered in red.

Piggy-back problems

Bernanke pointed to the use of so-called piggy-back loans in helping drive foreclosures. These loans, which required low down payments or none at all, were used with increasing frequency during the bubble years to enable borrowers to purchase homes in high-priced states.

Because of price drops, many of the borrowers are now "upside-down," meaning they owe more than their homes are worth. Many of the owners had counted on the idea that their home values would continue to soar, increasing their home equity, which they could then tap to pay their bills. Now, they can't afford to pay off their mortgages and they have no assets to rely on.

In the past, said Bernanke, lenders and companies that service loans were "used to dealing with mortgage delinquencies related to life events such as unemployment or illness. . . . A widespread decline in home prices, by contrast, is a relatively novel phenomenon, and lenders and servicers will have to develop new and flexible strategies to deal with this issue."

In some cases, such as when the value of a home has fallen below the mortgage balance, a writedown of principal may be the best solution, according to Bernanke, although, he added, to be effective they must be targeted to cases facing the highest risks of foreclosure.

What Washington can do

Bernanke outlined the steps that the Federal Reserve was taking to try to minimize the impact and scope of the foreclosure crisis.

The response includes working with community groups trying to acquire and restore vacant properties; encouraging lenders and mortgage servicers to work with at-risk borrowers; and developing new lending standards to prevent some of the abusive lending practices of the past from continuing.

The Fed, according to Bernanke, has worked closely with the Hope Now alliance - an industry foreclosure-relief effort spurred on by the Bush administration - to support help for troubled borrowers, develop protocols to standardize loss-mitigation approaches and improve reporting standards.

Bernanke also threw his support behind the expanded use of the Federal Housing Administration (FHA) and government-sponsored enterprises such as Fannie Mae (FNM, Fortune 500) and Freddie Mac (FRE, Fortune 500) to address problems in mortgage markets.

Opening up the lending markets has already helped thousands of at-risk borrowers to refinance into lower cost loans and save their homes, Bernanke said.

But with more than 156,000 families who lost their homes during the first three months of the year and with as many as 1.8 million adjustable rate mortgages scheduled to reset to higher rates this year, there's still much work that needs to be done, he said. To top of page

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