(Agencies)
Updated: 2008-03-04 23:50

Still, Bernanke suggested such longer-term permanent solutions may work better than shorter-term and temporary ones, where the distressed homeowner could find himself in trouble again. "When the mortgage is `under water' a reduction in principal may increase the expected payoff by reducing the risk of default and foreclosure," he said.

To date, permanent home mortgage modifications that have occurred have typically involved a reduction in the interest rate, while reductions of the principal balance of the loan have been quite rare, he said.

"Measures that lead to a sustainable outcome are to be preferred to temporary palliatives, which may only put off foreclosure and perhaps increase its ultimate costs," Bernanke said.

Lenders last year were on pace to initiate roughly 1.5 million home foreclosure proceedings, up from an average of fewer than 1 million new foreclosures in the preceding two years, the Fed chief said. More than one half of the foreclosures started in 2007 were on subprime loans givens to borrowers with blemished credit histories or low incomes.

The housing collapse dragged down home values, especially clobbering these subprime borrowers. Many were left with mortgages that exceeded the value of their homes. They were further socked by low introductory rates on their adjustable mortgages resetting to higher rates, making their monthly payments difficult or impossible to afford. Problems in the credit markets have made refinancing a mortgage harder.

This year, about 1.5 million loans -- representing more than 40 percent of the outstanding stock of subprime adjustable-rate mortgages -- are scheduled to reset to higher rates, Bernanke said. The Fed estimates that the interest rate on a typical subprime ARM slated to reset in the current quarter will increase to about 9.25 percent from just above 8 percent. That would raise the monthly payment by more than 10 percent, to $1,500 on average, he said.

Declines in short-term interest rates and a Bush administration-promoted initiative involving rate freezes will "reduce the impact somewhat, but interest rate resets will nevertheless impose stress on many households," Bernanke said.

On Capitol Hill, a number of measures have been offered to help stressed homeowners.

Overhauling the Depression-era Federal Housing Administration, which insures mortgages for low- and middle-income borrowers, could help, Bernanke said. He also called for strengthened supervision of mortgage giants Fannie Mae and Freddie Mac.

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