Federal bailout: Where will rest of $700 billion in funding go?

WASHINGTON -- With the economy falling into what could be the deepest recession in decades, the government is struggling to find a coherent way to quickly help homeowners and businesses — and the clash of politics and economics is hitting a fever pitch.

The administration is still working on the best way to deploy the remaining money in the $700 billion financial rescue plan passed last month. Treasury Secretary Henry Paulson said Wednesday that the government will no longer buy troubled assets from bank balance sheets, the original intent of the legislation, and will mainly focus on injecting money into the financial sector.

Congress and the administration are debating several approaches, including a new round of economic stimulus and an all-encompassing approach to help people who are facing foreclosure stay in their homes. Wednesday, the dispute about help for automakers intensified as Paulson suggested Treasury would not be open to directly aiding the industry through the $700 billion program, while lawmakers said they would force the government to step in.

Such issues are being complicated by the fact that the administration has just a little more than two months left. President-elect Barack Obama has made it clear that he favors supporting the auto industry and more economic stimulus, while the Bush administration has been leery of further government involvement.

All this is leading to more politics at a time financial markets need more, not less, clarity.

"It seems the dominos are falling rapidly and in more than one direction," Charles Crane of Scotsman Capital says.

Paulson, however, said the government was forced to change its approach because of the rapid deterioration in the economy. "My focus has been how to get the maximum bang for the buck," he told USA TODAY, noting the government couldn't snap its fingers and make everything all better. "There's only so much government can do."

Investors had no shortage of reasons to sell stocks, but the flagging confidence in the government's actions to fix the economy was a big one Wednesday, says Peter Cardillo of Avalon Partners.

The Dow Jones industrial average fell 411.30 points, or 4.7%, to 8282.66, stringing together three-straight days of losses and declines in five of the last six sessions. Roughly $1 trillion in shareholder wealth has been destroyed in the last three trading days, according to the DJ Wilshire 5000.

"The fear is out there that the government doesn't have a handle" on a solution, says Cardillo, who added that he disagrees and thinks the measures will eventually kick in.

Fight could be brewing

Paulson, who met Monday with two members of Obama's economic transition team, said in an interview Wednesday that he would not propose anything new before the next administration takes office unless he feels it is absolutely necessary for the economy. "We're not going to go to big lengths to do things that could be done later," he said.

Paulson also said he still expects that $700 billion will be enough. But with Treasury's commitment earlier this week to buy $40 billion in stock of ailing insurance giant AIG, $290 billion of the $350 billion first installment is already spoken for. Either the Bush administration or the Obama administration will have to survive a congressional vote on the second $350 billion funding installment.

Such a request will likely set up a fight, with lawmakers trying to steer the use of the money.

"It's conceivable use of the remaining funds could come with more congressional strings attached," Goldman Sachs said in a note to clients.

A number of lawmakers, such as Sen. Charles Schumer, D-N.Y., have complained banks are hoarding money they're getting from the Treasury, rather than lending. In a statement timed to coincide with Paulson's announcement, the Federal Reserve, the Federal Deposit Insurance Corp., the Office of the Comptroller of the Currency and the Office of Thrift Supervision on Wednesday pressed banks to expand lending.

Stimulus plan debated

Another economic debate could hit Capitol Hill next week. The House and Senate may debate stimulus legislation that could provide aid to the staggering auto industry, funds for infrastructure improvements to boost jobs and an extension of unemployment benefits to laid-off workers.

"We need a stimulus," Schumer said in a conference call with reporters. "It's the ideological opposition of the administration" that's blocking action. He said there is still a chance Congress could pass a bill during the lame duck session but that odds are "smaller than I'd like."

Automakers are lining up for aid.

Paulson on Wednesday said the intent of the $700 billion package was to aid the financial industry, suggesting he opposed aid to automakers from the pot of money. But House Financial Services Committee Chairman Barney Frank, D-Mass., is drafting legislation that would allocate $25 billion from the $700 billion package to aid automakers.

Sen. Barbara Mikulski, D-Md., says she will propose an amendment next week that would allow consumers to deduct the interest on auto loans, as a way to boost auto sales.

"We will send a message to Paulson to include the auto industry in the $700 billion," Mikulski, speaking at a Chevrolet dealership in Bethesda, Md., said. "So far, he's said no. We'll say yes."

New vehicle sales in the USA last month were at an annual rate of 10.6 million, the worst since right after World War II, adjusted for population growth. Financial reports show that GM, Ford and Chrysler all could run out of cash in the first half of next year.

What about homeowners?

Also left unanswered is how — or even if — the government will create a wholesale approach to help homeowners facing foreclosure hold onto their homes.

Paulson said the government is considering a number of plans, including a model used by FDIC Chairman Sheila Bair to modify the loans owed by customers of failed IndyMac Bank, one of the nation's largest subprime lenders, which the FDIC took over this year.

Paulson expressed concern that Bair's plan and others to make wide-scale mortgage modifications would "require substantial government subsidies."

The foreclosure numbers continue to rise. Foreclosure filings, which include default notices, auction sale notices and bank repossessions, were up 5% in October from the previous month. At 279,561, the number of filings is up 25% from October 2007, according to RealtyTrac.

Meanwhile, the Department of Housing and Urban Development said it's moving forward with controversial rules aimed at helping borrowers avoid the kinds of risky mortgages that exacerbated the subprime mortgage crisis.

HUD officials said the rule change will lower the average borrowers' closing costs by $700.

The rules will require lenders to provide a standard, three-page good-faith estimate, outlining the terms of the loans and approximate costs. While lenders have been required to provide a good-faith estimate for years, a standard document will make it easier for consumers to shop around, HUD Secretary Steve Preston said.

The rules will also require lenders to provide more information about the way mortgage brokers are compensated. Mortgage brokers say the requirement is unfair, because HUD isn't requiring direct lenders — such as banks — to disclose how they're compensated.

HUD is giving lenders and mortgage brokers until Jan. 1, 2010, to adopt the new good-faith estimate. That gives opponents plenty of time to lobby the new administration and Congress to overturn the rule change.

Contributing: Sandra Block, Matt Krantz, James R. Healey, Sharon Silke Carty, Anna Bahney, Richard Wolf, Kathy Kiely, John Waggoner.