Homeowners Are Too 'Big' to Fail

Why should homeowners suffer while banks get relief from the mortgage mess they created?
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Where did all those billions go? And why are homeowners the only ones to really suffer -- aside from two CEOs who lost their jobs but walked away with $160 million and $40 million, respectively, while their companies simply "wrote off" more than $8 billion each?

Ordinary Americans want to know why the big companies that financed their homes and repackaged the debt into securities can simply take writedowns, and watch the value of their shares drop temporarily, while so many people are losing their homes.

Most of all, they want to know why the

Federal Reserve

is rallying to help the banks, while leaving individuals to suffer the consequences. After all, it was former Fed chairman Alan Greenspan who once urged homebuyers to take advantage of adjustable-rate mortgages.

The latest plan from Greenspan's successor, Ben Bernanke, is to allow

Fannie Mae

and

Freddie Mac

to guarantee "jumbo" loans (those bigger than $417,000) so the lenders can keep on lending.

Meanwhile, a bill introduced in Congress that would actually provide some relief to homeowners has provoked the wrath of the banks. It would allow bankruptcy judge to adjust or "restructure" the balance owed on a home in foreclosure. If the borrower owed $300,000 on a home now worth only $250,000, the judge could mark the $50,000 shortfall as "unsecured debt," making it harder for the bank to recover that portion of the loan.

The industry is adamantly opposed to this proposal. It would violate the covenants on the securities they created out of those subprime mortgages, exposing them to bigger writedowns. And it would make mortgages more expensive for any future borrowers, because the banks would have to price in the risk that mortgage loans could be restructured through bankruptcy.

Why didn't the banks think of that in the first place? If they had examined the risks of those individual loans and priced them appropriately, instead of offering low-priced deals to hook home buyers, maybe there wouldn't be so many people in trouble now.

Now the banks are busy restructuring the off-balance-sheet structured investment vehicles, or SIVs, (mortgage packages) that hold the bad loans, while homeowners are told that their mortgages can't be restructured because they have been "securitized," or repackaged as collateral for bonds. Or homeowners are told they must pay a steep prepayment penalty to refinance,

if

they still have enough equity in their homes now that prices have dropped.

And those who waited too long are told that now that they are behind in payments on the mortgages they didn't understand, and that they can't refinance because their credit is bad.

Too Big to Fail? Too Small to Rescue?

The concept of "too big to fail" has been with us for a while. Americans have accepted that the Fed will bail out those who make really

big

mistakes that could impact the entire economy. (Think Long Term Capital Management.) The airline industry got a chance to "restructure" through bankruptcy and is still flying. Even Donald Trump could "restructure" through bankruptcy and today hosts seminars on how to create a fortune.

Are ordinary Americans missing out on something? Why can't the millions of homeowners facing foreclosure simply "write it off" and continue to live in their houses?

This discrepancy threatens the basis of our free enterprise system. There's a growing feeling that the deck is stacked against middle America -- when it comes to taxes, when it comes to investments, when it comes to the dream of home ownership and when it comes to blame.

While that impression may be wrong, it is becoming so pervasive that it will impact the 2008 elections. Politicians who play to those suspicions and are elected on that platform will have a mandate to attack the wealthy and Wall Street. The result is likely to be higher taxes, exactly what the economy doesn't need right now. And the Street will have only itself to blame.

Maybe it's time to decide that ordinary homeowners are "too big to fail," just like the banks. And that's The Savage Truth.

Terry Savage is an expert on personal finance and also appears as a commentator on national television on issues related to investing and the financial markets. Savage's personal finance column in the Chicago Sun-Times is nationally syndicated, and she released her fourth book,

The Savage Number: How Much Money Do You Need?

in June 2005. Savage was the first woman trader on the Chicago Board Options Exchange and is a registered investment adviser for stocks and futures. A Phi Beta Kappa graduate of the University of Michigan, Savage currently serves as a director of the Chicago Mercantile Exchange Corp. She also has served on the boards of McDonald's and Pennzoil.