Geithner steps into US housing battle in bid to boost economy

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The outcome of an escalating battle at the heart of the US government could have major implications for millions of Americans suffering from negative equity in their homes, and even for the nation's housing market as a whole.

The Treasury Secretary, Tim Geithner, has stepped up the public pressure on a housing regulator who is blocking a plan to allow homeowners to write off a large chunk of their outstanding mortgage. But the regulator, the Federal Housing Finance Agency's acting director, Edward DeMarco, has condemned the plan as a backdoor bailout of the nation's biggest banks, and is refusing to allow the policy shift.

The battle is over whether Fannie Mae and Freddie Mac, the mortgage finance giants that had to be nationalised during the credit crisis, should add mortgage principal reduction to the menu of options available to borrowers who fall behind on their payments and risk foreclosure. Mr DeMarco's role is to minimise the cost to the taxpayer of Fannie and Freddie, which have already sucked up $151bn in government funding to cover losses. The two companies own or guarantee the majority of mortgages in the US.

With the ailing housing market still a drag on the US economy, Mr Geithner has alighted on mortgage principal reduction as a means of getting the market moving again. Homeowners in negative equity are more likely to walk away from their homes, and a glut of foreclosed homes is pushing down prices.

"There are some cases where principal reduction is not just good for the homeowner, not just good for the community, but it's good for the taxpayer too," Mr Geithner told a congressional panel.

The Treasury has said it would pay a maximum of 63 cents for each dollar of loan forgiveness, and the banks agreed to co-operate as part of their settlement of mortgage fraud allegations last month.

Mr DeMarco fears that news of principal forgiveness for delinquent borrowers would encourage otherwise financially healthy borrowers to default. Principal forgiveness would be a backdoor bailout of the banks, he has argued, because it makes homeowners better able to pay off second mortgages they took out on their property.