Paulson closes wallet

Treasury Secretary Henry M. Paulson told unhappy congressional Democrats on Tuesday that, barring a new catastrophe, the Bush administration intended to stand pat on its existing effort to stabilize financial markets -- and leave the next stage of economic recovery to the new administration.

Having committed about half of the existing $700-billion rescue fund to ease Wall Street’s credit crunch, Paulson said he had no plans to spend the rest, even on the root cause of the crisis -- soaring mortgage foreclosures.

“The prudent course, at this time, is to conserve the remaining funds available from the [rescue program], providing flexibility for this and the next administration,” Paulson told frustrated lawmakers during a contentious hearing before the House Financial Services Committee.

During Paulson’s testimony, committee members, at times raising their voices, complained that the administration was willing to spend money on big banks and insurers but not on ordinary Americans.

“I hope that you understand the pain and the suffering of so many homeowners in this country that are losing their homes,” said Rep. Nydia M. Velazquez (D-N.Y.).

“It’s just not enough to say to the banks, ‘Here is the money and by the way, I trust you.’ Because they are not lending!”

Calls grew Tuesday for a substantial economic stimulus package to be enacted once Barack Obama becomes president. A group of chief executives said such spending should total at least $300 billion and focus on infrastructure projects.

During the House hearing, panel Chairman Barney Frank (D-Mass.), although acknowledging that Paulson had shown results in the financial crisis, berated him for not using his existing legal authority to stem the tide of foreclosures.

“When the program was passed, very explicit language was included to provide for mortgage foreclosure diminution as one of the purposes,” Frank said, waving excerpts from the bill passed Oct. 3. “The bill couldn’t have been clearer.”

Frank and Velazquez expressed support for a plan by Federal Deposit Insurance Corp. Chairwoman Sheila C. Bair to speed refinancings of troubled mortgages.

“We need to prevent unnecessary foreclosures, and we need to modify loans at a much faster pace,” Bair, a Republican, told the committee. “We all know there is no single solution or magic bullet, but as foreclosures escalate, we’re clearly falling behind the curve.”

Paulson backed Bair’s central idea to lower mortgage payments to about a third of a borrower’s income as long as that income is verified and other criteria are met. But he voiced concern about a provision under which the government would absorb half of any losses from a future default.

“We continue to look at good proposals and are dedicated to implementing those that protect the taxpayer and work well,” he said.

He contended that recapitalizing banks would do more to help the economy than direct aid to homeowners would.

“More capital enables banks to take losses as they write down or sell troubled assets,” Paulson said. “And stronger capitalization is also essential to increasing lending, which, although difficult to achieve during times like this, is essential to economic recovery.”

Bair, who has criticized the administration response as inadequate, said the foreclosure situation was too dire for such a cautious approach.

“The stakes are too high and the time is too short to rely exclusively on voluntary efforts,” Bair said. “We need a national solution for a national problem. We need a fast-track federal program that has the potential to reach all homeowners, regardless of who owns their mortgages.”

Bair contended that the estimated $24-billion cost of her proposal would be more than offset by added spending by all homeowners because their properties would not lose as much value.

“If this program can keep home prices from falling by just 3 percentage points less than would otherwise be the case, over half a trillion dollars would remain in homeowners’ pockets,” she said.

“Even a conservative estimate of the wealth effect this could have on consumer spending would exceed $40 billion. That would be a big stimulus for the economy.”

Paulson gave his most detailed explanation of the rescue program so far, explaining that the government switched gears in midstream -- abandoning a plan to buy troubled securities and adopting one to inject capital into the banking system -- because the economy deteriorated so quickly as the legislation was being written.

“We have not, in our lifetime, dealt with a financial crisis of this severity and unpredictability,” he said.

Many economists are predicting the most severe recession in decades. With energy prices tumbling in recent months, the specter of inflation -- which haunted policymakers into the summer -- has faded completely.

The Labor Department reported Tuesday that the producer price index, heavily influenced by prices of commodities such as fuel, sank a record 2.8% last month.

“The benefit of a major recession is that any worries about inflation tend to disappear, and that is becoming the case,” said Joel Naroff, president of Naroff Economic Advisors in Holland, Pa. “Over the next few months we should see a lot more data showing how inflation is coming down.”

The call for a stimulus package of more than $300 billion was made by a group of CEOs attending a conference sponsored by the Wall Street Journal. The legislation should target investment in infrastructure, such as roads and bridges, as well as alternative energy, the executives said.

In a speech to the conference Monday, former Treasury Secretary Lawrence H. Summers cited a report by Goldman, Sachs & Co. that suggests the stimulus should be $500 billion to $700 billion. Summers is widely considered a top candidate to be Obama’s Treasury secretary.

Democrats last week dropped plans to offer in the current Congress a stimulus plan of as much as $150 billion, citing Republican opposition.

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The Associated Press was used in compiling this report.

maura.reynolds@latimes.com