Combine top-down and bottom-up approaches to deal with the credit crunch

Posted by Shyam Moondra

The reason the $700 bi bailout bill failed in the House is that it was perceived as a handout to corporations that made unwise decisions. Many people feel that we should never mix public money and the private sector; let the private sector find a solution to the problem it created. Unfortunately, the magnitude of the problem is so big that it is imperative that the federal government be part of the solution.
To make the bailout politically more palatable, perhaps we should approach this problem top-down as well as bottom-up, meaning the government should help the financial institutions to unload the mortgage-based securities (top-down) while at the same time help the homeowners (bottom-up) to halt the wave of foreclosures that is destabilizing the housing market, which, in turn, is making these mortgage-based securities less marketable. Therefore, by approaching the credit issue from both ends will speed-up the process of dissolving the worst financial crisis of modern times in an equitable and fair manner.

The federal government should take a series of steps some of which will require an action by the Congress and others could be dealt with by the regulators on their own authority:

1. Freeze all foreclosures for one year.


2. The government should form a separate entity to financially assist the homeowners, who are in foreclosure or close to it, thereby reducing the number of foreclosed houses that are put on sale. This will help stabilize the housing prices.
3. In extreme cases, where the homeowners can't be helped, this new government entity should buy the houses and sell them at a future date after the housing market has stabilized, hopefully at a profit that will partially pay for the cost of this whole program.
4. The FRB should reduce the funds rate by 0.75% immediately, which will bring down the mortgage rates. This will help increase the demand for houses and thus stabilize the prices and also reduce the number of new foreclosures especially those that involve adjustable mortgage rates.


5. The FRB should provide loans to financial institutions and corporations and small businesses that are not able to get credit even though they have good credit rating, especially if the use of those funds will help create new jobs.

Combining the bottom-up and top-down approaches is beneficial because they both are complementary, meaning by stopping the wave of foreclosures we will be able to stabilize the housing prices which will enable the government to sell the mortgage-based securities at a profit thereby eventually recovering the taxpayers' bailout money.