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Opinion: The growing consensus on averting foreclosures

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For someone who doesn’t seem to get much traction within her own administration, Sheila Bair at the FDIC seems to be having more influence than anyone else in Washington over how to respond to the subprime meltdown and the resulting wave of foreclosures.

Bair started calling last year for lenders to rework potentially troubled mortgages en masse by converting adjustable rate loans into fixed-rate ones. The administration instead promoted the Hope Now Alliance, a voluntary effort by lenders to adjust troubled mortgages on a case-by-case basis. The result: far more homes went into foreclosure each month than loans were modified (according to Hope Now, only recently has the pace of modifications caught up to the pace of defaults). Worse, it took lenders months to start offering meaningful adjustments in interest rates and monthly payments, rather than simply tacking unpaid interest and penalties onto the back end of loans.

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This year, Bair set the tone again when the FDIC took over IndyMac Bank and its portfolio of poorly underwritten (and rapidly defaulting) mortgages. It declared a moratorium on foreclosures as it examined the portfolio, determining which mortgages met or could meet a standard level of affordability -- a 38% debt-to-income ratio (that is, monthly payments no greater than 38% of the borrower’s monthly pay) -- given certain types of loan modifications, including steep but temporary reductions in interest, longer payback periods and delayed repayment of a portion of the loan balance. About two-thirds of the at-risk borrowers qualified for help, although the agency initially had trouble reaching many of those borrowers. If this kind of plan were implemented widely, the FDIC said last week, about 1.5 million homeowners could be saved from default.

Bair’s approach has been embraced by California lawmakers who’ve been active on the foreclosure issue, notably Assemblyman Ted Lieu (D-Torrance) and Assembly Speaker Karen Bass (D-Los Angeles), as well as Gov. Arnold Schwarzenegger. The main difference between the governor and lawmakers is the length of the moratoria they propose -- the Democrats want 120 days, Schwarzenegger proposed 90. That’s a minor detail when compared to their agreement on the need to pressure lenders to make more sweeping and aggressive moves to avert foreclosures. Lieu’s bill has hit a snag in Sacramento, yet the ideas he and the governor espouse reflect an emerging consensus on how to handle the foreclosure crisis. Sparked by Bair -- outside of Washington, at least -- it reflects how deftly she’s handled the moral hazard issue. The FDIC’s approach doesn’t save lenders or borrowers from the pain of having made bad choices -- none of the borrower’s debt would be forgiven (a costly move that has little support among banks), nor would lenders or investors recoup the face value of the loans. But it would help lenders recover more than they would if they repossessed the home, while giving borrowers time to find a less calamatous way out of their troubles.

Photo by Chip Somodevilla/Getty Images

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