Greenspan urges 'disaster relief' for US homeowners

The US government should hand cash to struggling mortgage borrowers in a "disaster relief" effort to prevent a wave of repossessions, the former Federal Reserve chairman Alan Greenspan has suggested.

A government bail-out would be better than the Bush administration's current plan to freeze interest rates for struggling homeowners, the retired chairman said in a television interview addressing the credit crisis.

His comments came as his successor, Ben Bernanke, watched for the results of the Fed's latest attempts to kick-start the credit markets. The Fed auctioned $20bn (9.9bn) of new loans yesterday, which it hopes banks will lend on to other businesses. It promised to reveal the level of demand tomorrow.

Mr Greenspan warned that government intervention to fix interest rates for homeowners could be a damaging interference in the free market, but that some sort of assistance was clearly needed.

"It's important to recognise that there are a very large number of people who are in very major stress and having great difficulty in paying off their mortgages," he told ABC's This Week programme. "Cash is available, and we should use that in larger amounts, as necessary, to solve the problems of the stress of this.

"It's far less damaging to the economy to create a short-term fiscal problem, which we would, than to try to fix the prices of homes or interest rates."

President George Bush this month unveiled a voluntary agreement with the mortgage industry to freeze interest rates for borrowers whose low fixed-rate deals are due to expire and who face a big jump in monthly repayments. Such a plan, Mr Greenspan said, would only drag the crisis out. Better that the government give money to borrowers quickly and directly, either through the tax system or in direct cash grants akin to those given to disaster victims.

Mr Greenspan also raised the spectre of "stagflation" the re-emergence of inflation at a time of a stagnant economy. He said a period of "remarkable disinflation" is ending and "we are beginning to get not stagflation but the early symptoms of it."

Mr Bernanke has cut US interest rates by a full percentage point over three months to mitigate the effects of the credit crunch, which has made debt financing harder and more expensive for all sorts of businesses. However, he has warned that inflation remains a concern, and is trying to focus future remedial action on the credit markets themselves.

Yesterday's $20bn auction of 28-day loans by the Fed was the first under a plan co-ordinated with other central banks, including the European Central Bank and the Bank of England, which is running an auction of its own today. In total, the central banks are auctioning more than $100bn in loans which they hope will restore liquidity to the debt markets. Financial institutions have been hoarding cash in case of financial obligations associated with the accounting year-end on 31 December. Money market interest rates were little changed ahead of the auction.