The Frank-Dodd housing bill, enacted and signed (with no ceremony) by a reluctant President Bush in late July, included provisions enabling people stuck with subprime loans at astronomical interest rates to get refinancing at more modest interest costs, with the loans guaranteed by FHA. But there will be a great deal of litigation on whether a holder of the loan is obligated to accept the refinancing. The Congressional Budget Office estimates that only about 400,000 homes will be refi¬nanced over the next three years thanks to the bill. Yet 2 to 3 million homeowners are expected to default on their mortgages in 2008 alone.

CBO also calculated that the banks are likely to off-load the riskiest loans onto FHA, and that 35 percent of these lower-interest-rate mortgages will eventually default, at taxpayer expense. In the end, the rescue program could do more to help banks than homeowners, according to CBO. In fairness, the whole point of the bill was to refinance the mortgages at great risk of foreclosure. The problem is that the bill, by itself, solves only a fraction of the problem.

A more expansive provision of the Democrats’ bill would have included upward of $10 billion to enable local governments and nonprofit agencies to buy foreclosed-upon houses and either return them to the rental housing supply or sell them with low-interest-rate mortgages to moderate-income buyers. The Bush administration and fiscally conservative Blue Dog Democrats in the House blocked this provision as adding to the deficit. (What are they waiting for—a full-blown depression?)

The next version of the housing and mortgage rescue program will need to be far bolder. Only presidential leadership can accomplish that. Once again, the New Deal offers a precedent.

Before the Roosevelt era, virtually all mortgages were short-term loans of five years of less, typically interest-only, with the principal due and payable at the end. If homeowners could not roll over the loan, they were out of luck. As foreclosures skyrock¬eted in the early 1930s, the New Deal invented the modern long-term, self-amortizing mortgage. The government offered to insure such mortgages so that lenders would accept them, devising the Federal National Mortgage Administration (FNMA) to create a “secondary market” to purchase mortgages from lenders, turn them into government bonds, and replenish the bank’s money so that the banker could make more loans.

As foreclosures kept rising because of the general economic conditions, Roosevelt and Congress also created the Home Owners Loan Corporation, which made low-interest direct loans at the government’s own borrowing rate. Eventually, HOLC refinanced one American home in five, saving innumerable families from foreclosure, reviving a normal market in real estate, and tempering the free fall in housing prices. Because there was no corrup¬tion and loan standards were maintained, when HOLC closed its doors in 1952, it returned a modest profit to the Treasury.

There is surely a lesson here—which could usefully be the subject of another Obama teachable moment. When people who believe in government operate it competently, the public sector can often outperform the private, particularly when the purpose is partly social. Under the New Deal schema of financial regulation, which suffered its first serious assaults only in the late 1970s, there were no major banking scandals or losses. FNMA performed beautifully, and mortgage credit was plentiful. The rate of homeownership rose from 44 percent in 1940 to 64 percent by the mid-1960s. Only after FNMA was privatized as Fannie Mae, and its executives began paying themselves multimillion-dollar salaries and taking exotic financial risks, did the institution get into big trouble.

The July 2008 housing legislation, though useful, will prove far too weak to halt the epidemic of foreclosures and the collapse in real estate values. Before this housing collapse is over, government will need something like a Home Owners Loan Corporation with the power to refinance mortgages when the private market fails. The agency should have a separate window to underwrite efforts by local government to get foreclosed houses reoccupied so that they don’t drag down entire neighborhoods. This strategy could be part of a long-overdue need to subsidize affordable housing. This or something like it will need to be enacted in Obama’s first hundred days. As congressmen and senators hear from constituents about collapsing housing values, dwindling real estate tax receipts, and devastated homebuilding firms, this bill should be among Obama’s easier legislative challenges.

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