If it seemed to you that Bank of America's bailout of Countrywide was a solo heroic gesture, think again. This is the reignition of the mortgage landgrab that began after the failure of the savings and loans in the late 1980s, and allowed federal banks to step in and take over.

One reason S & Ls failed was because they could only make fixed rate loans, by federal law, so they often found themselves earning less interest on their loans than they were paying out in their deposits. But the reason why the failure of the S & Ls became a national issue is that they were state-regulated organizations that were federally insured which kept money pumping into losing propositions. The Federal Reserve then created a money crunch that resulted in one of the highest runups of interest rates in history, with mortgage interest rates hitting highs of 18 percent before it was over. Finally, the industry was deregulated, but by then, the damage had been done, and trillions of dollars in home values were lost.

Now, we have the same problem, but for a different reason. Adjustable rates have risen and weak borrowers are unable to repay their loans at higher reset interest rates.

Here's a sensible explanation of what likely happened and why.

As news that the subprime defaults were worse than anticipated, and that the default contagion had spread to some Alt-A loans (loans to borrowers with good credit but light documentation), the nation began to panic. Worse, buyers of securities panicked and stopped purchasing subprime mortgage-backed securities. Those were seen as a risky but sound investment while mortgage interest rates hovered at record lows (who would default on a 4 percent loan?) but investors didn't think ahead. Rising inflation from milk to gasoline to clothing caused the Federal Reserve to step in and raise short-term interest rates -- the rates at which banks borrow from each other. And when borrowing rates rise, they eventually impact mortgage rates if the market believes that inflation is a serious enough problem.

So the hybrid and teaser loans began to reset at substantially higher rates than they were originated, costing borrowers hundreds of dollars more per month for the same home.

But selling off the loans is how banks get money to loan out again, and for a while, the game was make the money on the upfront fees and then dump the loan. No one wants to carry a mortgage to full term -- there's not enough money in it. Think about what banks get for unsecured loans -- credit cards -- and you begin to get the picture. Another way of looking at it is that they have to be incentified to make mortgage loans.

But to make loans, banks have to have money flowing. There are two rates at which banks can borrow money. With the discount rate, banks can borrow directly from the Federal Reserve (the nation's bank.) That discount rate was lowered last week from 6.25 to 5.75 percent. The other rate is the federal funds rate -- the "target" or suggested retail rate on money banks loan each other.

When the default contagion dried up securities buyers, banks like Countrywide felt their money stream dry up. The bank borrowed approximately $11.5 billion from other banks (but we don't know which ones) at the federal funds rate on August 16th. Countrywide's stockholders also deserted the company causing the shares to drop by half their value this year.

Suddenly, Bank of America shows up with $2 billion more. One article explained the deal as "nonvoting, convertible preferred stock yielding 7.25 percent annually." Or the shares can be converted into common shares at $18 per share, under certain restrictions. If Bank of America converted those shares, the bank would own about 16 to 17 percent of Countrywide and be the largest single shareholder.

An estimated one out of seven mortgage loans in the country are originated by Countrywide, so the deal not only saves the nation's largest mortgage banker and almost 15 percent of home buyers from an extended credit freeze, it makes the nation's largest bank the largest shareholder in the largest mortgage bank.

Published: August 24, 2007

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Blanche is a renowned author of five real estate books. Her newest, Bubbles, Booms and Busts: Make Money In Any Real Estate Market, McGraw-Hill, was rave-reviewed by The New York Times. She was also selected from hundreds of real estate experts to contribute to Donald Trump's book, Trump: The Best Real Estate Advice I Ever Received: 100 Top Experts Share Their Strategies, Rutledge Hill Press, and is featured on page 68. Order Now Review - Honors In 2006, Blanche was selected among scores of candidates to author two consumer real estate guidebooks for the National Association of Realtors: The NAR Guide to Home Buying, and The NAR Guide to Home Selling, Wiley & Sons. She is currently planning two new books for the NAR and its members.       Known for her keen insight into real estate industry issues and for her ability to make complex subjects easy to understand, Blanche is a sought-after keynote and continuing education speaker. Real estate organizations from MLSs, to brokerages, to franchisors, to associations hire her to provide up-to-the-minute analysis of real estate industry news and advice on how to improve revenues. Her passionate delivery, peppered with stinging wit, is a huge hit with audiences and fans. Don Klein, CEO Greater Nashville Association of Realtors, Blanche Evans, Richard Courtney, president 2007, GRAR "The GNAR membership meeting last week featured Blanche Evans as the keynote speaker. Her comments and insights resonated extremely well with those in attendance and we have had many requests for copies of her PowerPoint Presentation. She was a terrific part of the membership meeting and convention program!" - Don Klein, CEO Greater Nashville Association of Realtors Coverage from WSMV, Nashville - 8-14-2007 That Interview Guy - Get Inside The Head Of Today's Generation 2007 AE Institute Session - To purchase 2006 AE Institute Session - Parts 1 2 3 4 5 6 7 8 9 HouseValues Mastermind call - Parts 1 2 Blanche's fireside chat with Jeremy Conaway, HAR - Click here. For more articles by Blanche, click here.