Friday, September 26, 2008

Duke University: A Rescue Plan for Main Street, not Just Wall Street

By Andrew Foster
Duke University
Associate Clinical Professor of Law

Amid the headlines about huge stock market losses and collapses in the financial services sector, it can be easy to forget the human face of the problem that our nation now confronts.

As the federal government debates whether to give the U.S. Treasury Department unprecedented authority to spend up to $700 billion to bailout big banks, sophisticated investors and giant insurers, it is critical that a more strategic intervention be employed to address the housing and credit crises comprehensively and with fundamental fairness.

There is no question that a rescue plan is needed to strengthen many U.S. financial institutions and to shore up the economy. At the same time, policymakers cannot ignore the nearly five million American families who are either delinquent on their mortgages or are in foreclosure. Certainly, some of these consumers may have been irresponsible in taking on more debt than they could handle. The vast majority, however, were simply trying to buy a piece of the American Dream. Instead of building wealth and enjoying the security of homeownership, they now find themselves trapped in a nightmare of predatory debt and foreclosure.

Before Congress authorizes hundreds of billions of taxpayer dollars to save Wall Street from the crisis it created, steps need to be taken to rescue American homeowners, as well as the communities across the country being devastated by high rates of foreclosures. To achieve these goals, any final rescue plan should incorporate three basic elements that are now absent from the bill under consideration.

First, it must create mechanisms through which problem loans can be modified so that homeowners can stay in their homes. This can be achieved, in part, through federal intervention similar to the Home Owners Loan Corporation in the 1930s to help our country through a similar crisis. That corporation acquired problem mortgages directly from banks, and then modified them so that people who were in default could keep their homes. To achieve a similar goal today, the government will need to purchase whole loan pools -- not just the “slices” of loans typically incorporated into mortgage-backed securities -- so it can modify the terms of predatory mortgage loans and stave off another wave of defaults and foreclosures.

Federal bankruptcy law also must be revised so that, where appropriate, judges have limited authority to modify mortgage loans through the Chapter 13 bankruptcy process.

By taking these steps, the government can prevent an estimated additional 600,000 foreclosures. In addition to bringing needed relief to millions of Americans, this should help stop the devaluation of home prices.

Second, the plan needs to begin to re-establish effective regulation of the financial services industry. Though more will need to be done over time, two immediate steps can be taken. The Homeownership Preservation and Prevention Act of 2007, which has been before Congress for more than a year, should be immediately passed to address the pervasive problem of predatory lending. Drafted by Sen. Christopher Dodd, the legislation will help eliminate many of the abusive lending practices that led to this crisis.

Additionally, the Community Reinvestment Act (CRA), a federal law that requires commercial banks to make credit broadly available in a manner consistent with safety and soundness guidelines, should be extended to mortgage brokers, investment banks and insurance companies. This will enable government regulators to ensure that credit continues to flow to low- and moderate-income communities, but in a responsible manner.

Third, the rescue needs to be structured so as not to create a windfall for Wall Street. At a minimum, this will require that Treasury establish clear maximum prices that it will pay for the mortgage-backed securities clogging the system, that these purchases be conducted through a transparent process and that Congress maintain oversight of Treasury’s actions in this area. In no event should taxpayer funds be used to overpay for these devalued assets.

Finally, it should be beyond debate that any rescue plan must include provisions that limit the compensation of the managers of firms that receive governmental assistance.

There are no easy answers to the economic problems we now face as a country. In order to begin to address these systemic challenges fairly, however, we must ensure that any plan coming out of Washington puts as much focus on rescuing those of us living on Main Street as it does on helping those of us working on Wall Street. It is only by addressing both ends of the crisis that we have any hope of solving it.

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