Housing bailout: Helping hand or handout?

WASHINGTON -- Even as home prices jumped earlier in the decade, conservative lenders in Vermont resisted high-cost, exotic loans. Today, as a massive U.S. housing bubble bursts, the state's mortgage delinquency rate is less than 3%, while values are still stable.

In Nevada over the same period, home buyers gorged on unconventional loans, with 30% of Las Vegas borrowers taking out higher-cost subprime products in 2006. The state's delinquency rate is above 7%, home prices have plummeted, and in some areas, a majority of borrowers owe more than their homes are worth.

Should taxpayers in Vermont be asked to bail out home buyers in Nevada? The answer now taking shape in Washington appears to be, "Yes."

"That's a tough one for most people living up in Vermont to wrap their arms around," admits Ken Libby, owner of Stowe Realty in Stowe, Vt. "The majority of folks probably would say, 'Why should Congress be bailing them out?' "

With housing prices plunging in some areas, housing starts at the lowest level since 1991 and foreclosures reaching the highest level since the Great Depression, the Democratic-led Congress, with some reluctance, is crafting legislation to provide $300 billion or more in loan guarantees to help distressed borrowers refinance into lower-cost, government-insured mortgages. In return for aid, lenders would have to reduce the loan principal, and homeowners would share with the government any profit when the house is sold.

The measure, which Democrats hope to move through Congress by the end of May, is designed to stabilize the housing market and, by extension, help distressed credit markets and the overall economy. Mark Zandi, chief economist at Moody's Economy.com, who, with credit bureau Equifax, developed the state delinquency numbers, estimates 12.5 million borrowers could have no equity in their home or owe more than it's worth by early 2009. Millions will face mortgage defaults.

But while there is a growing bipartisan consensus that Washington needs to take action, there are deep divisions between lawmakers, at the White House and among the public about using tax dollars to aid individual homeowners.

Top economists at recent congressional hearings, who generally supported the emerging plan, warned lawmakers to tread carefully through myriad issues of fairness and efficiency. The overarching issue is whether intervention increases "moral hazard" — encouraging people to take undue risks in the belief they will be rescued.

On the one hand …

Then there are a host of practical issues. How do policymakers separate people who may have been hoodwinked into an unaffordable loan from those who speculated and lost? Does government policy run the risk of putting an artificial floor under home prices that are still too high, and unaffordable, in some areas? Is it fair for Congress to single out distressed borrowers who bought at the peak of the housing boom, but not help those who bought earlier?