The Great Debate

How increased mortgage interest relief can save the economy

(James L. Melcher is the president of Balestra Capital, a New York-based hedge fund. He co-authored this article with Joan McCullough, macro-economic strategist at East Shore Partners. Jim MelcherThey are writing in a personal capacity and the opinions expressed are their own.)

Treasury Secretary Henry Paulson and Federal Reserve Chairman Ben Bernanke have been behind the curve in dealing with the breakdown in the banking system and financial markets. All of their initiatives have had only limited impact as they persist in treating the symptoms and not the cause. We are in the early stages of a severe global recession. It is critically important to take more aggressive steps.

The most vexing variable in this entire crisis has been the value of underlying collateral. Any remedy, therefore, is ineffective unless we acknowledge first that the fate of the collateral lies in the hands of the borrowers. Thus, it is imperative that triage measures be taken without delay to ensure the survival of the mortgagors.

Recent government decisions assume that the banking system and financial markets are the center of the universe. Thus all efforts are focused squarely on these areas to the gross disadvantage of our citizenry. Paulson and Bernanke have clearly opted to address the current crisis by pouring ever-increasing amounts of money into the banks with a view towards boosting lending activity. With other financial entities, such as AIG, they have enacted similar liquidity enhancements in a gambit to forestall the forced dumping of illiquid securities, which they believe would threaten the entire global financial system. A functioning banking system is required; but so far official efforts have failed to seize an opportunity to shore up both the mortgagees and the mortgagors.

Personal income tax relief offers a solution that would benefit both targets. The tax-deductible allowance on all home mortgage interest on principal residences should be meaningfully expanded beyond the amount of the interest for a period of at least three years, with the greatest multiple awarded to households in the lowest tax brackets. For a family in the 20 percent bracket, a deduction of four times its mortgage interest would effectively cut their mortgage interest cost by 80 percent. This tax incentive would serve to keep families in their homes from a pure financial-relief viewpoint. It would also entice prospective buyers to buy a home without further delay.

Welcome to the Great Debate

When we first began talking about a new section that would encourage Reuters.com readers to debate the issues of the day, the credit crisis had yet to explode into the global threat that it is today. Less than four months later, the public appetite for debate and new ideas has never been greater. Barack Obama was speaking for many across the political spectrum when he said the crisis “calls for the best ideas, the brightest minds, the most innovative solutions from every corner of this country,” although few would expect the search for ideas to stop at the U.S. border.

The debate around those ideas would have once been limited largely to the corridors of power, the newspaper editorial writers and the occasional letter to the editor. But this crisis is taking place at a time when every idea is challenged in the public forum of the Internet. The economic proposals discussed at the Nov. 15 meeting of world leaders in Washington will be instantly dissected, debated and reworked, and the consensus of that global conversation will feed back in some form to the policy makers.

With our global reach and expertise in finance and politics, Reuters is uniquely placed to host that debate. On this page, you will find Reuters columnists and other interesting voices from outside our newsroom discussing the credit crisis and other issues that concern our readers, such as politics, corporate ethics, technology and religion. You’ll also find selected entries from our blogs and pointers to the news stories of the day. We invite you to advance the debate by posting insightful comments, adhering to the house rules listed below. The pithiest and most insightful will be highlighted on the Great Debate home page.

Distortion is the new normal for markets

James Saft(James Saft is a Reuters columnist. The opinions expressed are his own.)

LONDON (Reuters) – The evaporation of borrowed money has fundamentally changed the way markets function, and what look like crazy anomalies may end up being closer to the new reality.

Across financial markets, especially in fixed income, strange things are happening. Take two examples:

The U.S. government takes Fannie Mae and Freddie Mac into conservatorship, essentially guaranteeing their debts. Investors first narrow the premium they demand to lend to the two mortgage giants, then stage a strike and send these premiums to all-time highs.

A crisis of solvency?

John Kemp(John Kemp is a Reuters columnist. The opinions expressed are his own)

LONDON (Reuters) – Despite Fed assurances that the worst of the crisis has passed, and the banking system has been successfully “saved”, credit conditions are actually getting much worse, not better, for even mid-grade corporate borrowers.

Credit spreads have continued to flare out in recent sessions. Spreads for seasoned Baa-rated corporate issuers over U.S. Treasuries have widened from 337 basis points on Sep. 10 to 486 on Oct. 10 and 560 on Oct. 22.

Some of this may reflect an increased liquidity premium for the most desirable on-the-run U.S. Treasuries in the current environment — and a similar illiquidity discount for mid-grade corporate paper that may not be easy to value or trade at present.

Capitalism is not dead

diana-furchtgott-roth1Diana Furchtgott-Roth, former chief economist at the U.S. Department of Labor, is a senior fellow at the Hudson Institute. The opinions expressed here are her own.

The past month’s turmoil in U.S. and global financial markets has spawned several articles tolling a death knell for capitalism. Some said that the crisis is proof that capitalism never worked, others opined that the solutions to the problems will end capitalism.

To paraphrase Mark Twain, reports of capitalism’s death are greatly exaggerated. Although Washington is using non-market solutions in an attempt to unfreeze the credit markets, they have not succeeded, and are unlikely to be permanent. The next administration, Republican or Democratic, might take over more of the economy. But if one country in our global economy proceeds down an unsuccessful socialist road, others will demonstrate the effectiveness of capitalist measures—just as America led the way with tax cuts in the 1980s.