For months, Sheila Bair, head of the Federal Deposit Insurance Corporation, has been saying that there's an instant solution to the mortgage meltdown that can prevent massive numbers of foreclosures. Not a perfect solution, but a solution.

Her idea? Freeze toxic loans at their original interest rates.

Writing in the New York Times, Bair says it's too costly to modify troubled loans one by one. Instead, we ought to restructure toxic loans.

The mass conversion proposed by Bair would not apply to all loans, only those where payments are current and the mortgage is for residential property. Investors and those with poor payment histories would get nothing.

If you look at the Bair proposal it's quick, simple and would put a serious dent in the foreclosure problem. But the Bair plan also has flaws. It penalizes people who financed with toxic loans and then could not make payments when interest levels re-set.

It also hurts mortgage investors, the people who buy loans. Under the Bair proposal expected interest rates would not be paid. Both investor income and the value of their mortgage notes would decline.

The Bair plan is now getting serious consideration in Washington, in large measure because there are expected to be some 2 million foreclosures this year as well as massive numbers of foreclosures and bankruptcies in 2008 and beyond.

Bair, a bank regulator, would shift the responsibility for the mortgage meltdown to investors who bought loans and leave untouched the loan officers, underwriters and lenders who made them. That doesn't seem right, and you can bet that investors won't hurry back to the mortgage marketplace if the Bair proposal is adopted.

How does this effect you? Without investors to buy loans it's going to be tough to get a mortgage. In effect, everyday borrowers and homeowners are going to pay for the Bair solution with higher rates, fewer sales and lower property values -- and that doesn't seem right either.

Published: December 5, 2007

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