Let the lenders eat cake?

Federal Reserve Chairman Ben Bernanke has been careful not to say if he favors a cut in the federal funds rate when the Fed's Open Market Committee meets Sept. 18. It's a committee, and its members are supposed to cast their votes objectively, based on the latest economic data and not public pronouncements made in the days leading up to the meeting.

But when you hear what Bernanke had to say today at an economic symposium in Jackson Hole, Wyo., you might hesitate to place a bet on his support for such a move. After acknowledging the problems that the disruption of the mortgage lending industry has caused to housing markets, the Fed chair embarked on a history of the industry dating back to 1890.

It's well worth reading, but if you don't have time, the upshot is this: because most mortgage loans these days are securitized and sold to Wall Street investors -- rather than held in the portfolios of banks and other institutions -- the Fed's actions to influence short-term rates just aren't as crucial as they used to be.

With "a much-reduced role for deposits as a source of housing finance, the availability of mortgage credit today is generally less dependent on conditions in short-term money markets, where the central bank operates most directly," Bernanke said.

Not only that, but there's also less correlation between the housing cycle and the business cycle, Bernanke said -- meaning that a downturn in housing isn't automatically cause for alarm. The "sharp slowdown in housing has been accompanied, at least thus far, by relatively good performance in other sectors," the Fed chair pointed out.

Bernanke said plenty of other stuff that's been interpreted as an indication that he'll support a cut in the federal funds rate. Stocks are having a nice rally today on his speech, and also President Bush's new plan to help some subprime borrowers refinance out of risky ARM loans.

But neither Bernanke or his boss seem at all concerned about what happens to the investors who financed subprime loans, as long as there's no broader impact on the economy.

At a press conference announcing a plan to let the FHA insure refinance loans for delinquent borrowers, Bush said the government's role should be limited. A federal bailout of lenders, he said, "would only encourage a recurrence of the problem. It's not the government's job to bail out speculators, or those who made the decision to buy a home they knew they could never afford."

Here's how the press conference ended:

"Q: Sir, what about the hedge funds and banks that are overexposed on the sub-prime market? That's a bigger problem. Have you got a plan?

THE PRESIDENT: Thank you."

In concluding his speech, Bernanke said pretty much what he's been saying all along -- let the market take care of things.

"In recent months we have seen a reassessment of the problems of maintaining adequate monitoring and incentives in the lending process, with investors insisting on tighter underwriting standards and some large lenders pulling back from the use of brokers and other agents," Bernanke said. "We will not return to the days in which all mortgage lending was portfolio lending, but clearly the originate-to-distribute model will be modified -- is already being modified --  to provide stronger protection for investors and better incentives for originators to underwrite prudently."

While Bernanke might be right in the long run, there's also the chance that leaving the federal funds rate alone on Sept. 18 will unnerve investors, delaying the return of some semblance of normalcy to the mortgage lending industry.

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