Fed weighs in on principal reductions

Federal Reserve Chairman Ben Bernanke has said that the principal reduction of mortgages could greatly aid the recovery of the housing market, but only if the measure was correctly structured.

Federal Reserve Chairman Ben Bernanke has said that the principal reduction of mortgages could greatly aid the recovery of the housing market, but only if the measure was correctly structured.

According to Bernanke, principal reduction has the potential to help underwater homeowners stay out of delinquency by reducing their monthly home loan payments. However, the chairman refused to take a definitive stance on the proposed reductions and loan modifications. 

"I have spoken about this in the past and it certainly has some advantages," said Bernanke. "A lot depends on how it's structured and what the alternatives are that you're considering."

A white paper was recently released by the Fed that outlined refinancing, principal reductions and mortgage finance with the intent of revealing to the public just how such measures would impact average homeowners as well as government-sponsored enterprises. The report was intended to weight the pros and cons of principal reductions rather than argue for or against its usage. 

Bernanke claimed in the report that there is currently a split among a number financial regulators in the Federal Reserve on what effects the reductions would have on the mortgage industry and overall economy. He also stated that there were some negative aspects to the measures in that they may not be entirely cost-effective.

"There is not one single program that is going to get everyone out of negative equity," he said. "What will be the most cost-effective way to help the most people as possible." 

Meanwhile, members of Congress are also currently split on their stance on principal reductions. Many lawmakers are opposed to the government further expanding it's involvement with the recovery of the housing market, while other legislators argue that greater measures must be taken to help households make mortgage payments that outweigh the actual value of their homes.

However, an additional report released by the Federal Housing Finance Agency claimed that principal forbearance would be much more effective than principal reductions. This measure would reduce monthly mortgage payments for distressed homeowners, rather than reduce the entire value of the loan altogether.

By implementing principal reductions, the FHFA claims that it would be damaging to taxpayers since it could cause an estimated $100 billion in losses for Fannie Mae and Freddie Mac. Since the mortgage giants are already indebted to the Department of the Treasury in wake of their government bailout, FHFA acting director Edward DeMarco said principal reductions would not be effective enough to offset the negatives.



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