American Dream's Harsh New Reality

But while the government may try to help, the ultimate level of foreclosures will be largely determined by how far housing prices decline -- a complex function of market psychology and plain old supply-and-demand forces.

"My view is foreclosures and defaults will soar through '08 into '09 regardless of what policymakers do," says Mark Zandi, chief economist with Economy.com. "But policymakers can have a beneficial impact and can mitigate some of the more serious erosion in foreclosures."

Zandi predicts a total of 1.8 million foreclosures for U.S. homeowners in 2007 and 2008. As a comparison, sales of homes that were newly constructed by builders were at an annual selling rate of 870,000 units in July, according to Census Bureau figures.

That sales rate could decline even further, since more foreclosed homes on the market will mean that the nation's big homebuilders, such as D.R. Horton(DHI Quote), Pulte(PHM Quote), KB Home (KBH Quote) and Ryland (RYL Quote), will have even more trouble selling houses.

Moreover, Zandi's foreclosure projection is relatively optimistic and based on the idea that the U.S. economy will remain recession-free. If it doesn't, foreclosures could balloon even further.

Zandi's forecast assumes that the unemployment rate, currently around 4.6%, will not rise above 5% for more than one or two months over the next two years. The projection also assumes that the Federal Reserve will lower the fed funds rate 50 basis points to 4.75% by the end of the year -- something that's far from a certainty.