Former Federal Reserve chairman Alan Greenspan said he favors spending government money to rescue Americans who are at risk of losing their homes because they can't make mortgage payments.
Greenspan, speaking on ABC's This Week program that aired yesterday, said cash bailouts, while creating a larger budget deficit, have the advantage of helping homeowners without distorting property prices or interest rates on mortgages.
"Cash is available and we should use that in larger amounts, as is necessary, to solve the problems of the stress of this," Greenspan said. "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. If you do that, it'll drag this process out indefinitely."
Greenspan's approach differs from that of Treasury Secretary Henry Paulson, who negotiated a freeze on the interest rates of some subprime mortgages without pledging any government money to help homeowners or banks.
"Alan Greenspan has followed two propositions through his life: A smaller government is better, and a market economy operates on trust," said Vincent Reinhart, former head of the Fed's monetary affairs division and now a resident scholar at the American Enterprise Institute in Washington. "I think he was suggesting that it would be better to sacrifice the first -- spend more, than the second -- interfere with contracts."
The former chairman didn't specifically mention the Bush administration's plan, and wasn't asked about it directly.
Allan Meltzer, professor of political economy at Carnegie Mellon University in Pittsburgh, said Greenspan's proposal for a cash bailout might cost "hundreds of billions" of dollars and would reward risky behavior.
"It is not a good idea for the government to bail out people who make mistakes," said Meltzer, the author of a 2002 book on the early history of the Fed.
"The markets are beginning to come to grips with this and bailing them out is a mistake -- not a small one but a big one," Meltzer said.
Greenspan, who was Fed chairman for almost two decades until Ben Bernanke took over early last year, repeated that recession risks are rising.
"The probabilities of a recession have moved up to close to 50 percent -- whether it's above or below is really extraordinarily difficult to tell," Greenspan said.
In a Dec. 13 interview with National Public Radio, he said the economy is "getting close to stall speed." On Nov. 7, he told a conference in Sao Paolo that the chances of a recession were "less than 50-50."
US economic growth will slow to 1 percent in the fourth quarter as consumer spending cools and the housing slump enters its third year, according to a survey of 63 economists by Bloomberg News taken between Dec. 3 and Dec. 10. The world's largest economy grew at a 4.9 percent pace from July through September.
Spending, which accounts for more than two-thirds of the economy, will grow next year at the slowest pace in 17 years as higher fuel costs and falling home values limit consumers' buying power, economists predict.
US President George W. Bush announced this month that Paulson and other members of his administration had reached an agreement with the mortgage industry to help as many as 1.2 million homeowners avoid foreclosure when their adjustable-rate mortgages jump to higher rates.
Working with Paulson and the government's housing regulators, lenders and the companies who manage home loans agreed to freeze some adjustable mortgages at current rates for five years. Others will be given help refinancing or qualifying for loans backed by the Federal Housing Authority.
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