Wednesday, October 10, 2007

Banks can help in times of distress

Banks must step up and provide loans during times of financial market distress and also help homeowners who find themselves behind in their payments of unfavorable mortgages, said Eric Rosengren, the new president of the Boston Federal Reserve Bank.

There might even be some profit opportunities for banks if they can move into the market for subprime mortgages, Rosengren said. Many of the independent brokers who created the market for subprime mortgages have gone out of business in recent months.

"While the subprime market that was the epicenter of the problem is likely to continue to have difficulties, I am hopeful that financial institutions will play an important role in providing financing for many of the borrowers facing higher rates as their mortgages reset," Rosengren said in his first speech after assuming his new post in July.

"The most critical issue is that financing that supports responsible subprime lending continues," Rosengren said.

Subprime is the industry shorthand for mortgages that are not the highest quality. Many lower middle class families were able to buy homes with such loans, but the sector also includes mortgages for higher-priced homes.

Instead, the central issue was a lack of liquidity, as relatively low-risk financial assets traded between large financial institutions experienced the most difficulty.

Bank balance sheets expanded in August and September as securitization of subprime mortgages and other asset-backed commercial paper declined.

Rosengren said that "conservatively underwritten securitizations and asset-backed commercial paper will find acceptance by investors" but said this will take some time.

In his remarks, Rosengren did not dwell on the economic impact of the recent financial turmoil.
He said that the effect of the problems in housing on consumption has been muted to date.
But he said if housing prices fall further or if the price declines spread across the country, this "would increase the risk of a more adverse impact on consumption."

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