Big federal bailout of U.S. housing gaining momentum

By Patrick Rucker - Analysis

WASHINGTON (Reuters) - The expression "We're from the government, we're here to help" may come back in vogue as global markets continue to feel the impact of the U.S. housing market slump.

The fallout from the housing market claimed the 85 year old U.S. investment bank Bear Stearns & Co and its 14,000 employees as its latest victims on Sunday, and is threatening to rock markets even more, and drag the faltering U.S. economy into a recession.

The consequences of rising U.S. subprime mortgage defaults rates and falling U.S. house prices, combined with mark-to-market accounting, has become so severe that the Federal Reserve has resorted to financial tools last used in the Great Depression to staunch the crisis of confidence in financial markets that has seen liquidity evaporate..

While President George W. Bush has championed market solutions for the growing crisis, a number of Congressional lawmakers are calling for a robust government bailout to save the housing market, homeowners, and financial markets. Neither side has a lot of time or a lot of room to maneuver, as the ill effects of the crumbling housing market spread further into the economy.

Last week, two Democratic lawmakers outlined a plan that would have the U.S. federal government offer a backstop for some failing loans. President Bush, however, has steadfastly opposed using taxpayer money to stabilize the housing market.

The Federal Reserve's emergency discount rate cut over the weekend and the sale of Bear Stearns to JPMorgan Chase that was brokered by the Fed spurred many to look to Congress for a big solution.

"I think they're far more open to the idea today about doing something," Christopher Dodd, a Democratic Senator and Chairman of the Senate Banking Committee, said in a conference call to reporters on Monday referring to the administration's position. "I think they are far more amenable to it than they were 48 hours ago."

Connecticut's Senator Dodd said that Bear Stearn's failure put pressure on U.S. Treasury Secretary Henry Paulson and the Bush administration to create a federal backstop for the housing market. Dodd supports a plan conceived by his counterpart in the House of Representatives that would have the government take failing mortgages off the hands of investors.

"There is no question but that there will be a federal bail-out of subprime mortgage loans this year," Linda Lord, the top lobbyist for Swiss bank UBS wrote in a memo last week.

A proposal from Representative Barney Frank, chairman of the House Financial Services Committee, would see the Federal Housing Administration underwrite loans once the lender wrote off some of the loan amount.

An aide to Frank said the lawmaker expects they need no more than $20 billion in capital to jump-start the FHA program. A federal stimulus package, already passed by Congress, that includes a one-time tax rebate will cost $152 billion.

Importantly, the plan could win support of budget hawks wary of new government spending.

"Some of the government programs that are being floated, like Barney Frank's proposal, are aimed at attempting to stabilize things," said Scott Kirby, sector leader for structured products at RiverSource Investments in Minneapolis, Minnesota. "We seem to find ourselves in a vicious cycle of forced liquidations due to mark-downs on securities, trying to somehow get away from that back to fundamentals on securities."

"The FHA thing is a really a kind of creative solution," Korby added. "It's done in a way that investors certainly feel some pain, they're going to experience some losses, however not as much as if you had continued auction-type sales of homes in this process."

Representative Dennis Moore, who helps lead a wing of fiscally-conservative Democrats known as Blue Dogs, said the Frank plan has merit.