Millions of Homeowners Are in Desperation Mode -- Help Them, or This Crisis Gets a Lot Worse

Now that the government has "saved" Wall Street -- at least for the moment -- hasn't the time finally come to save Main Street too?

The Treasury Department just pumped $125 billion into the country's largest financial institutions, and it promises to use another $125 billion -- more, if necessary -- to recapitalize regional and community banks. They are vital steps. This week, at long last, the credit markets thawed, at least a little, and the global recapitalization of the banking system is the reason.

But the job isn't done yet. The government now needs to tackle what R. Glenn Hubbard, the former chairman of the Council of Economic Advisers under President Bush, calls "the elephant in the room": the continuing decline of housing prices. That decline means more and more homeowners are saddled with "impaired mortgages" (to use the current lingo), meaning their homes are worth less than what they owe on them. They didn't necessarily do anything wrong; they just bought a house near the peak of an unsustainable bubble. Now they have little economic incentive to keep making mortgage payments.

Of course, millions of additional homeowners did make a big mistake: they took advantage of "liar loans" and other too-good-to-be-true deals to buy homes they couldn't afford. Many are still in those homes, hanging on for dear life. Many others have already faced foreclosure proceedings.

I've seen estimates suggesting as many as one out of every six homeowners has a troubled mortgage. This is an enormous social problem. It is also a continuing economic problem. In the year since the crisis began, the world's financial institutions have written down around $500 billion worth of mortgage-backed securities. Unless something is done to stem the rapid decline of housing values, these institutions are likely to write down an additional $1 trillion to $1.5 trillion. In other words, we ain't seen nothin' yet.

And please don't raise the specter of moral hazard, the notion that people who did dumb things need to take their lumps so they won't do it again. First of all, you would have to be an absolute idiot to repeat the folly of the housing bubble, even if you don't lose your house in the crisis. I contend that this financial crisis is going to cause an entire generation to become debt-averse, as our parents were after the Depression.

Second, there is the question of justice. For Wall Street, which made plenty of its own dumb mistakes, moral hazard went out the window the minute the government realized what a catastrophic error it made when it allowed Lehman Brothers to go bankrupt. The government is not going to let another big institution fail. Why should homeowners have to pay more for their sins than Wall Street is paying for its sins? As anger across the country rises, this is becoming a political issue as well.

Yes, there were lots of Americans who were not greedy or foolish during the housing bubble, and many resent the idea that their neighbors might get a bailout they don't deserve. They need to get over themselves. If housing prices keep falling, many millions of additional homeowners will find themselves, through no fault of their own, with underwater mortgages. Besides, foreclosures damage property values for everyone, not just those losing their homes.

Finally, and perhaps most important, the housing bubble and its aftermath form the core problem from which all other problems flow. If the government doesn't do anything about it, the economy will remain in chaos. Banks will still be afraid to write mortgages because they won't trust the value of the collateral. Giant financial institutions will continue to post multibillion-dollar write-downs. And homeowners will continue to face the stark reality that their primary asset is in jeopardy.