actually had a probability distribution of potential outcomes and we had a full measure of the tale risk we would probably calculate the costs of the subsidy. in act, almost by definition, at the margin where people who are borrowing money would be indifferent as to whether they would be getting either one or the other. and i will tell you, however one does this catastrophic insurance calculation, the numbers that come out really implicitly only refer to, quote, normal times. and so it is a degree of subsidization and i think you have to ask yourself, is it worth while or not? and this is where the issue comes in from your point of view you would say it is worth while. from my point of view i would say i would agree with you if i agree with the underlying premise of how often we have these crises.

but that's the type of discretion we need to have, just not parading out a whole series of different ideas unconnected to anything in particular. >> there's another question coming but can i just sneak in, you mentioned the 13-3 is gone and that the t.a.r.p. was helpful. though t.a.r.p. was very hard to get, took lot of political effort to get congress to pass it do you think with 13-3 gone we still have enough tools to deal with these rare but very severe crises? >> i don't think that if you have a committee of diverse people that you could get 13-3 acted in a timely manner. i mean, don kohn is sitting there. don probably could tell you that it wasn't self-evident to everybody that that was the desirable thing to do and the

reason why that happens is that we all have this very unusual psychological problem. we believe we can forecast. and we can't. and in a financial crisis, by definition, is a dramatic decline in asset prices virtually overnight, and if that were anticipated by the great majority of the people, it would be the way. and indeed, i don't know how many crises we never even were aware are in the process of brewing which got arbitraged away before we knew it. the only one i would say we were clearly aware of was my recollection that the trigger of the crisis that was going to occur after say 2005 whenever it happened was going to be a collapse in the dollar because of our current account balce being out of whack. everybody agreed with it.

so what happened? the dollar basically moved down very sharply over a number of years and arbitraged the crisis. and the only thing that had nothing to do of any significance with the crisis was the american balance of the dollar. so i think that there is this just general implication that we can have committees which can somehow anticipate events. good luck. it will not work that way. i sat in meetings for years and years and years and it is remarkable what amnesia overcomes you after the fact. you forget how little you knew, and i just question how successful we will be in setting up some of these things. >> dwight? >> i'm one of the researchers

that have actually looked at the question of what might be the level of u.s. mortgage rates in a priva, nongovernment market. the key evidence we have is of course most of western europe has mortgage markets with very little government intervention with a wide range of fixed rate and variable rate mortgages and the evidence is that by and large their mortgage rates, the spreads of their mortgage rates to their treasury rates are lower than ours. and of course the immediate question is what are they doing that makes it work? and i think there's two answers. first, a lot o the options that are free in ou mortgage such as the prepayment option, are actually priced there, and that's wheorth 50 basis points immediately you've knocked off 50 basis points if you make the borrower make a decision whether they want a free prepayment option or not. >> used to be able to do that. >> advocate going back to that. and then of course a lot of those countries have recourse, which means that in a sense the borrower has a much more difficult process of default and

the bankrupt laws do not allow bankruptcy to b an alternative to the recourse. so i think the question -- i think if we move to a safer rtgage market and a safer instrument, we actually would probably end up with lower mortgage rates. the question in a way is, is is political system up to creating of mortgages and allowing the consumer the ability to make a choice among them and pick the one they actually feel is best. >> well, there is double entry bookkeeping. if you find that some structures which help one group disadvantage another and vice versa. and the whole purpose of getting market prices is this is supposed to be a nonpolitical, anonmouse way of making choices among democratic societies. i, you know, i'm usually arguing

on your side but there is another question here. in fact,societies. i, you know, i'm usually arguing on your side but there is another question here. in fact,among democratic societ. i, you know, i'm ually arguing on your side but tre is another question here. in fact, a quasi-implicit guarantee in europe that banks will not be allowed to fail. when you've got that it is almost the equivalent of fannie and freddie not being allowed to fail. >> w had this argument earlier. i'm glad you're on my side. >> it's made a much easier job wh the underlying mortgages are very safe. in other words their mortgages are like double-a securities so it's a much less of an onerous task on the banks and the regulators to have them than if you have a system where the underlying mortgages are bs. >> they've been having covered bonds for generations. but they don't have nfdics. for those of you not aware of

the problem, what we have on covered bonds in the united states is the sequence of where claims fall in a bankruptcy proceeding and the fdic insists it not only be on the top but on top of the top and that's not going to work in this conte. >> you talked about the recovery of housing. your main part of your speech was about what's happened to housing. you said the economy is recovering impressively. where do you think the growth is coming from? your discussions about housing suggested that that's going to be a slow road. now, investment tends too well if everythin else does well, business equipment and software is doing okay. but that need other things t keep growing in order to grow. nonresidential construction is still fairly weak, so where is this impressive groh going to come from?

i agree with you by the way but i'm a little nervous about where we'rgoing to get this growth from, exports or consumption? >> well, martin and i have discussed this previously so i'll just repeat it, but -- >> i wanted to give the world your --. >> my view is that one of the consequences of the extraordinarily long period of virtually no contractions in the american economy from the early 1980s forward, very little, and indeed it was interspersed with 1987, stock market crash, which historically would almost always have brought economic activity down because the wealth effect was dramatic at that time. and then we had the dot com boom. we had a soft landing in the process. and the consequence of that is

that all the vast proportion of capital investment was for a longer lived market expanding type investments longer lived market expanding type investmen longer lived market expanding type investments and the result was a dramatic change in capital stock and activity but it did create i should say an unexploited backlog of cost saving investments. when the economy went into the sink, all of a sudden you had this large amount of potential, very, fairly safe investments, and the result of that was that we have had, up until very recently, an extraordinary rise in cost saving investments, which largely of course boosted

labor productivity but also shows up as significant gains in energy productivity and materials productivity and the result was without any increase of significance in sales, margins opened up wholly because of the productivity changes. this created a surge in profitability which unde ordinary circumstances would have created a major increase in investmentin long-lived assets. but if you take a look at the ratio of fixed capital investment, illiquid capital investment, as a share of cash flow, you find very quickly that what you are looking at is the willingness on the part of corporate management to convert liquid cash flow into illiquid

fixed investment. their propensity to do that is a very important measure of their sense of confidence or lack thereof and data show that what has happened in this particular period is looking at the lowest ratio of fixed capital investment to cash flow up until, i should say maybe 6 to 9 months ago, the lowest since 1940. now, i want to just parenthetically say i'm not talking about liquid markets. quid markets are very different. baa corporate ten-year note, for example, is highly liquid and therefore has an effective maturity of five minutes.

you you're looking at effective, short-term itruments which often happen depending where the maturity is, highly volatile interest rate risk and credit risk, but not liquidity risk. this is the reason i might say parenthetically that a nonfinancial corporation keeps capital at 50% of its assets or as a financial institution like commercial banks it's 10. and what i'm raising here is the fact that something very significantly dampening is occurring on the american economy, which is suppressing it. i'm just finishing up an article, which will be published by the council on foreign relations on this. i did an op-ed piece for "the financial times" a while back in which i tried to explain this. but i think this explains

something very unusual. it's the reason why the -- best way of putting this -- it's either price earnings ratio or, more importantly, equity premiums are at the highest level in a half century. and that means that with a surge in profitability in the context of a very high degree of risk premium, stock markets have been going up very gradually against the pressures of extraordinarily high equity premiums. what this means is that we have a very significant backlog in which we have been getting a major wealth effect, which has been spilling all over the place. remember, what energized the financial markets from their lows in the early months of 2009

was a dramatic rise in equity prices, which essentially created for the banks a big increase in the market value of equity and it is the market value of equity which determines what level and risk type liabilities you can sell. and with the market value of equities doubling in the banking system, all of a sudden they dn't quite open up for lending but the issue of solvency disappeared. and this is true as it spills over into the nonfinancial sector and to make -- and to end this answer on a more positive note -- what it's now -- in the process of what we are seeing is aact of the wealth effect in

consumer markets. in the last four or five months, these markets are beginning to look very ch like the used to prior to the crisis. personal consumption expenditures, last quarter was up 4.4%. annual rate as i recall in real terms. the monthly running data say that the first quarter of 2011 are really quite strong. and this is mainly consumption. and it is mainly the fact that part of t whole collapse in the home market and stock market induced a dramatic rise in the savings rate as one would expect. and i think we're now working in the other direction. so i think this thing is just building and if we somehow could get beyond this very heavy

overhang in the residential markets, it would be very helpfu but remember,ith 400,000 single family completions, and no vibrant multi-family construction, we're getting nothing out of home construction and the nonresidential constrtion part of capital investment has been flat to date. all of the increase that has occurred has been in short-lived assets. in fat, one of the calculations and i think i mentioned this to you the other day -- >> yep, yep. >> -- that if you take, reconstruct the gross domestic product by age of the type of elements within the gdp, what you find is that if you look at the gdp of only those assets which are 20 years of

prospective life or less, since i guess the last three years the gdp has been growing one percentage point more than the official numbers. if you translate into the total gdp, we didn't have the collapse in these longer lived assets, mainly construction, we would have had a gdp going up enough to have pushed the unemployment rate, if you just, you know, do something which i hate to do, leave everything as though it were, you get under 8% unemployment rate. just merely by the growth rate using the same productivity levels and all the various other elements. it turns out that the equivalent of that accumulated 1% over three years translates into well over a percentage point in the unemploynt rate. and so you can -- this is a very unusual situation and i think there are so many things going

against it, that it's very hard not to start to pick up because we are beginning to see a degree of lesser activism,hich i think has been a major contributor for the suppression of the level of illiquid risks. and the numbers are just gradually now beginning to soften and look somewhat better and ordinarily i don't listen to businessmen when they're complaining because it's usually why they can get a subsidy. but when they tell you that they are very much at sea as to what the future is going to look like, if that is true, what is happening to the degree of illiquid risk in the economy precisely what you would expect if that were their view.

so without taking what they're sayingt face value, they are behaving as though they really believed that. >> other questions. one at the back there. >> hi. i'm with the pew economic mobility project. running through the discussion so far has been this undercurrent about how attempting to help the disadvantaged creates in its own way a lot of problems for broader macro economic policy. in his recent book there is this idea i wanted your thoughts on, which is that t united states has a relatively thin social safety net and that in turn puts pressure on fiscal policy but also monetary policy to stimulate the economy more

aggressively perhaps than might be best, which he argues in this case led to the housing bubble. in your view is there any merit to this idea that broader safety nets or the thinness of them does actually translate into impact on monetary policy? >> i doubt it very much. let me justsay with respect to the argument about easy fed monitoring policy, i'll refer you back to the paper i just wrote for the brookings annal, and i addressed that subject. while i acknowledge the possibility it could have been, the data showed that it was not. and the fact is, what we're looking at, is the real world. were we dealing with something in which monetary policy was a major contributor to the bubble?

and i would say you look at the evidence as to what was going on in these markets and the evidence is you can't find it. now i will grant you that there's a tendency for somebody sitting in the middle of the federal reserve to come up with that conclusion, but i do have a wife who tells me, you ow, be careful. the question is, the data have to stand on their own. if i am wrong in that, i wish somebody would take a look at the brookings panel paper that i wrote which relates to that issue. if they can find a hole in my t-values or biases in my regressions, i will change my mind. i'm waiting for somebody to do that and i'm prepared to change my mind. but no one has tried it yet. i don't know if they'll succeed, but have fun. >> there is a slightly nuanced

version of that, though, which is not around monetary policy, per se, but that is all these incentives for housing which we either kept or strengthened were a way for -- to provide additional wealth to middle or low and middle class families that weren't getting much increase in their labor income. so i think that's part of the argument as well, that this was a policy conspiracy of let's buy off these folks. they're not getting any money. so let's generate a housing bubble. i don't actually believe that but that's, i think, part of the story. >> if that were the -- i mean, one of the rare advantages of sitting at the head of the federal rerve system is you are right where all those conspiracies are supposed to

happen. 18/2 years, i don't think that i recall a single instance of that sort of thing going on. you know, ilways used to argue that when the congress would say you guys do everything in secret and so conspiratorial, and they were pressing us to open up our minutes and this and so i finally invited down a couple of senior staff people from the coress to sit in and listen to the actual oral transcript of a meeting. they went away. i never heard from them again. one of them actually said as they were going out the door, you know, you ought to play this for high school students and they would see the way our government functions.

now that is as far away as you can get without naming names some of the conspiratorial views of what goes on in governnt. it's not that bad. >> question here and then i think we'll -- >> nyu. i just want to pick up on that fact about stagnating incomes for all but the highest parts of the distribution and come back to this issue of housing prices. because you talked a lot about factors that may be contributing to an excess supply but we didn't talk a lot about what people are going to be willing to pay for housing going forward giving the stagnation of income, increases of medical costs, energy costs that housing is not going -- at least in the short run going to be viewed as a great investment. how much will people be willing to pay for housing? how will that affect the evolutioof housing prices until we get to some new floor? >> yeah. this gets down to the critical question of what proportionat

propensity of buying homes during the boom period was attributable to the expectation and in fact the need to get a capital gain? the data do show some significant part of it i there. what you have to essentialldo i guess is try to separate that factor out and you've got a normal mket or as close as we can get to it. i've actually not seen that done. i'm sure that people in this room have done that. but i tnk it's important to realize the extent to which housing is a very critical investment vehicle for a very substantial proportion of the population. it's their sole major source of increased wealth and decreased wealth. and we should be able to ferret out from all the various surveys that we have where the dividing

line is between adding to the owner occupancy capital stock as a function of price expectations and not merely the desire to live in your own home. >> alan, thank you so much for talking. that was just terrific. [ applause ] >> we have a few minutes where people can take a little >> we will reconvene at 1:30. [captions copyright national cable satellite corp. 2011] [captioning performed by national captioning institute]

>> now treasury secretary unveils the future of the home mortgage company fannie mae and freddie mac. speaking at a forum hosted by the brookings institution he talks about the future of fanny and freddie the next five to seven years and reducing the government's role in the housing market in the future. the administration proposes a 10% down payment on home purchases among other proposals. this is about 30 minutes. >> tim geithner has been one of

the key players with ben bernanke, larry summers and henry paulson in stemming the tide of the financial crisis and turning the economy around. he also has been the architect of the financial reform proposals that became the dodd-frank bill and one of the pieces not included was what to do about the g.s.e.'s. today treasury has released a white paper crying their plans on that issue and we are just very delighted that you chose to come here to brookings to talk about it. let me ask you first of all if you would give us a sort of brief description of what the plan is and how it is going to be implemented. >> thank you, martin. nice to be here. you have good timing for the conference and i'm good you have g me a chance -- given me a chance to come p. we got a lot of things wrong in the housing market of the united states and it is a complex system and

reform requires a careful strategy that includes a number of different elements. reform requires a careful strategy, includes a number of different elements. let me just lay out the basic pillars, basic foundations what we think is a credible reform plan. the first of course is that we need to wind down fannie and freddie and substantially reduce the government's foot print in the housing market. and that's a process that has to happen gradually because they are now the dominant source of housing finance and we want to be careful that that process happened in a way that doesn't interfere with or impede the process of repair in the housing market that still has a long way to go. for the private market to take on a greater share of the burden in providing housing finance. we have to have in place outlined and understood a new set of rules of the game for all

the pieces of the mortgage market. and that means clarity on the capital banks have to hold against mortgage risk. it means stronger underwriting standards so that homeowners have to hold more equity in their homes. it means better protection for consumers, comprehensive oversight of servicers and all others involved in the basic chain of housing finance. it means better incentives for securitization, clarification on risk retention. comprehensive reforms in dodd/frank have to be put out to the market and -- to give investors and banks time to adjust, to understand what will be the new economics of making mortgages in this country. the third pieces to define a substantial but more targeted role for the government in supporting affordability both for people who want to own a home and people who want to

rent, and the paper lays out a series of basic he will else of a reform rule for the government, cons trade on the fha in helping support those basic objectives. finally of course is the end game and taking advantage of a lot of work that many of you have done. we provide a brief overview of the full spectrum of options out there for future reform and try to narrow the field to a more credible set of ultimate reform options. and the three we lay out in the paper just to summarize them briefly are an approach that's limited to the role that the fha provides, a proposal that it would compliment the fha's role with an emergency backstop mechanism that would only be deployed in crisis. and a third option is an fha alongside a redesigned and much more limited but standing guarantee or insurance mechanism that would be available for a

broader class of homeowners. those all have very different implications for the nature of the government's support, for the vulnerability of the market in future housing crises, future recessions. we think it's helpful for the broad set of stakeholders in the country and on the hill to spend some time trying to fully understand the implications, the relative merits, disadvantages of those mix of options. we do take the view that it be untenable for the country to adopt a model where the government plays no role. and we also think it would not make sense for the country for the government to be in a position in an ongoing basis of guaranteeing 80%, 90% of the mortgage market, which many people have suggested. so we start this process of legislation with a white paper, which i think is a good way to do it. there will be a long process of hearings on the hill. when we get a little further in

that process, then congress should be in a position to legislate and we will at that point provide our views more directly on what mix of those final options makes sense. but again we're going to make sure -- there are a lot of good ideas out there. we tried to draw on those in this paper and will continue to work closely with all the stakeholders in the process so we take advantage of the best ideas for reform out there. of course, we need to proceed carefully and gradually not just because it's complicated. as you know we're still living with the traumatic damage, scars caused by this recession. you still see those in housing most powerfully. >> now, in the plan, you retain an important role for the government in helping affordable housing, helping people either rental housing or ownership housing. there are a set of people -- we have a range of papers for this conference that cover this spectrum. but there is a view that the effort to provide affordable

housing is what brought down the housing market. that was do-gooders that thought they should get everyone into a home and we ended up through cra and through these affordable house somethi houseing goals that that brought down the global market. could you comment on this and the role you think it may or may not have played in the crisis in. >> i think it's absolutely case the u.s. government provided too much support for housing. too strong incentives for investment housing. and we just took that too far. and alongside that basic set of mistakes in the incentives we created, we allowed our financial system to take on too much leverage. we allowed a huge amount of basic mortgage business to shift where there was no regulation and oversight. we allowed the market to build up really terrible incentives around underwriting

securitization. we allowed underwriting centers to erode dramatically. and those things are -- i think they were avoidable mistakes. and, again, it's important to recognize that this was not just about what fannie and freddie ultimately did to follow the market down. it was about a much more comprehensive set of failures in the basic design of oversight and incentives in the system. and so absolutely the government did too much. and what it did, it did quite poorly. as you know, a lot of the basic subsidies and incentives the government provided were not really targeted to people who were at the lower side of income across the united states. so our general view is there's a very important role for the government not just in providing access to affordable house something but in getting the incentives better, oversight better, constraints jubd wriin underwriting better.

that's a critical part of this reform plan. >> now, sort of in the other direction a little bit, there is a view point -- well, two parts to it. let me take this part which is inevitably there's going to be a huge mortgage market. we're going to have -- we have $10 trillion. who knows it will be bigger in the future. at some future time, maybe 20 years from now, from might be another housing crash like this one. okay. so that risk then, who is going to bear that risk? is that going to put our financial system under stress, even if we have no fannie and freddie? and is there a role for the government to provide emergency assistance when you get that kind of crash of the housing market? or are there -- i think there are things you're trying to build in which would make such a crash less damaging. >> all financial crises have at

their center, most of it this real estate bust and bank mistakes. and we're not unique in that context. to make sure the system is more stable in the future, more resilient against the risk of future recessions or house price booms and busts, you need to have a system where again banks hold more capital against risk. people have more equity in their homes. and the government is not creating incentives that magnify the chance you have these huge imbalances -- overinvestment in housing over time. now, i think it's worth noting -- at least my view is even if you get that stuff substantially better -- and we will. i'm sure -- i'm very confident we can do that. we're still going to have resetir recessions in the future. you want to be sure you don't leave the country vulnerable

that a shock that causes a recession turns into a crisis of these dimensions. that requires there be some capacity for the government to step in and protect the economy from the collateral damage that can come from that sort of crushing de-leveraging, big withdrawal of private capital that happens in crises. but of course doing that is terribly difficult. governments don't do that well. people think guarantees are cool and interesting, but they're very hard to do in a way that doesn't create the risk that political forces end up making them too generous, too cheap and undermining incentives to get a better balance of risk-taking. in thinking about the future -- and this is why we laid out the options we did -- is it's very important for people to think through the design questions. so, again, we don't end up recreating some of the same risks that got us in this mess.

>> could you say a word about the role of securitization in this? historically or at least the last 20, 30 years or so, the u.s. has been a large capital importer. i think probably you and i would like it better if we had a smaller trade deficit and less of a capital import. >> was at the peak -- >> i'm sorry. >> americans are saving more. that's a good thing. >> definitely. but we are somewhat reliant on the inflows of capital and securitization therefore tends to play an important role if that inflow is going to support the housing market at all. we got into a lot of trouble with securitization. nontransparent cdos. you talk about that in the paper. could you say a bit more about do you think we should revive securitization, how do we survive securitization and stop it from getting into trouble the

way it did in this crisis. >> my view is we should preserve a financial system that -- in which banks are a substantial source of credit but not the only source of credit and complicated by a capital market including securitization market that can complement the classic role of banks. we are somewhat unique in that design of a financial system. and making sure that works over time requires the type of reforms i laid out to make sure the incentives are better and securitization market and the design of capital requirements and things like that are more evenly applied and better calibrated to take into consideration the risks of the extreme crisis in the future. but i think those are achievable reforms. i think it's pretty clear what we got wrong in the basic securitization market. and there's i think a lot of consensus on changes that would

make a big difference. and i would not support trying to create a system where banks are the overwhelmingly dominant source of credit. i think that would leave economies more vulnerable to the inevitable problems that comes with banking -- familiar problems to many in this room about banking. but, again, just to go back to one thing. there are a lot of mistakes in how we designed the housing market. but at its core, this crisis was caused by a whole range of people -- lenders, homeowners, investors, policymakers -- not imagining the possibility of a severe recession that would include a very sharp draw on housing prices. central to any reform system you make sure the capital regime, the oversight regime, credit rating processes build in more

care and caution about the risks of this severe event in the future. >> in the paper, you talk about wanting to move to a 10% down payment regime. so two questions. is 10% enough? some people say we need 20%, which a lot of countries have. and the second is, how do we deal with the sort of second moshtd i sha mortgage issue. people say get at 10% but the primary mortgage holder doesn't know there's a second mortgage on top of that. so talk a little bit about what i think is right. we need to get the loan-to-value ratios in the right place. how did you have set 10%? how rough going to enforce something like that. >> fundamental again is the basic proposition that homeowners have to hold more equity in their homes and build in a greater cushion in their homes and we want underwriting standards and whatever role the government is playing to make sure they reinforce that basic

process. what the report says is we think that -- think about fannie and freddie for the initial stage of this transition. there should be a combined limit ltb -- combined limit at 90%. again, i think there's an overwhelming case for moving over time where homeowners hold more equity in their homes. there are costs to doing that. there's like hundreds of stories of businesses started in this country financed by people being able to borrow against the value of their equity at inception, not just on their credit card but against their home. and we're going to have to figure out how to make sure we don't go too far in the other direction, because again ultimately what's the critical test of a financial system? you really want to make sure that it has the possibility of channeling the savings of americans and investors around

the world to finance innovation, including -- and a lot of innovation comes at that initial level -- in the garage classically or somewhere else. i think we have to be careful we don't push the balance too far. >> there's a -- we've mentioned already a little bit about rental housing. but part of what you are saying in this white paper is that maybe we went too far on the home ownership and maybe we need to make sure that people who want to rent or it's better for them to rent have the opportunity to rent. so what is the plan to improve access to rental housing? >> that's something my colleagues at hud are going to be principally responsible for shaping and i'll leave it to them. we make suggestions in the paper but again the fundamental point is too much of the assistance the government has provided to individuals went to homeowners. and there is a fundamental unfairness in that. and so we think we should alter

the balance where the government is going to provide a subsidy in a way that redresses that basic unfairness. >> you have laid out some options. could you just clair prify what the options you want congress to consider? >> i want to start with one observation. if you look across countries, people do this in different ways. and in a sort of simple way you could say there was our model where you had a variety of quite broad-based and very poorly designed guarantees by the government, explicit/implicit. alongside a private market. and you have at the other extreme in lots of countries a system where banks really hold an overwhelming share of mortgage risk. and people tend to think about this about a guarantee or not a guarantee. that's not the way to think

about it. in an alternative model where banks hold all the risk, the governments provide a guarantee but doing it through the classic broad support for the banking system. they don't charge for it. it's not explicit and it's -- it has a lot of other risks to how you think about financial stability in this context. some people say you can manage risk in banks more carefully, more easily. we understand the risks there better, which may be the case, although as you saw it's not as easy as people think. so the choice is not really between rough going to provide a guarantee or not. it's in designing it so that where it is, it's explicit. the taxpayers aren't too exposed. you're not creating bad risk ta. and that's sort of i think a helpful context. the three broad options we lay out are what we call the fha only model where the government's role is limited to

a guarantied mortgage that would only be available to people up to the median income. second option we allow as a complement to that is an emergency backstop framework that we deployed only in the context of a crisis. a good example of this is a suite of facilities that the federal reserve. it's nice to see don cohen here, put in place in the fall of '0 and early '09 to provide a backstop for markets. in the context, the way that would work, you would set up this mechanism whereby the market would be more willing to provide financing to mortgages because there would be a backstop in place temporarily, and if you get the pricing in that right, as things improve, demand for the backstop will recede and you can wind down the facilities as the fed did so deftly in the crisis. a third option, there are a lot of proposals in this arena, in this neighborhood, is a

fundamentally redesigned, much more limited guaranty or reinsurance mechanisms where there would be a lot of private capital ahead of the government, and the markets would be charged a fee for that guaranty. it would be explicit by the government, but the taxpayers would be behind a lot of private capital, and if the government mispriced the guaranty and was exposed to loss, that would be recouped in the form of a fee on the broader market over time. it has some similarities to the fdic regime, deposit insurance regime, although et cetera much more complex in this context. that's the credible set of options, but you can't think of them in isolation. it's possible, of course, that what we'll do in the end is decide on a mix of those options. again, you have to think about them in terms of what risks do they pose to the taxpayer, how difficult is it going to be designed the guaranty in a way

that doesn't get the insennives wrong and leave the taxpayer too exposed. what kind of protections do you want to build in for the country in the next crisis, and whether that can be provided through an emergency backstop mechanism or requires the government taking even at normal times some of the extreme risk of credit and mortgages off the burden of the private market. but that's a mix. we're in the, i would say -- a lot of ideas and those dimensions. again, just to magnify the challenge, for this to be done -- well, you have to take it away from politics. you can't take anything away from politics, but we have to take monetary policy away from politics. hugely important fundamental reform in central banking. it would be nice to take fiscal policy away from politics,

that's not foreseeable. if you're going to do this, you're going to get into this mechanism of designing a guaranty, the people charged with doing it will be more independent from political affection, enthusiasm, influence than our system proved to be before. >> you're sort of talking about a pretty staged out wind down for fannie and freddie, it would be over several years. i personally think that's inevitable, you've got to do that. i think someone could look at that and say, you know, on both sides of the aisle, people complain about fannie and freddie. at the end of the day, they want those mortgages because they're so important to their constituents and you're going to put it off for three years, five years, six years. actually this is never going to happen. what would be your answer to that? >> well, i think it's a good question. of course, any framework, let's think about fiscal policy.

any framework where you're promising future virtue is -- will suffer from credibility issues, but this is really the only way you can do it. what we're proposing, we laid out the first stage of more economic pricing, more sensible set of initial reforms to get the economics better, and what we're suggesting is the fhfa which has the legal authority over this for fannie and freddie and the fha lay out to the market an indicative transitional path for comment, in a sense, for feedback. they can lay that out. the market can figure out what that path is. we have to revisit over time, because we won't have perfect knowledge about how long this process of repair will be or where the pricing should end up. that will help reinforce the momentum, the change and make it harder for people ultimately to step back from that transition. now, again, we have some important things working in our direction apart from the general recognition that this system is

untenable, that is that they don't want the taxpayer exposed to loss in the future. they recognize the model we have is fundamentally unacceptable, and the option of doing nothing, leaving ourselves only with the legislative authority that exists in what's called harrah, would put us in a position where we risk recreating a lot of the flaws we created in the system. we did financial reform when the crisis was still burning in the united states. we did that in part because we thought that you want to act when there's still a substantial amount of political will. and i would say the same thing in housing. you don't want the process of reform to wait until things are fundamentally better and the memory has receded. it will take a long time for the memory of this to recede. although we're starting with this white paper, we don't want legislation to be too far

deferred. we can do this initial transition thing without legislation, but ultimately, we're going to have to explain to the market what the end game is going to be. we can't wait too long to lay that out. >> fannie and freddie will remain as government held utilities in this transition peter. >> they will. they have to. >> let me take a question or two from the audience. karen? >> thanks. karen dinen from brookings. your paper lays out several alternative proposals. we're going to see more alternatives laid out over the course of today's conference. all told, it seems like we might be a ways away from locking in on a plan. i was wondering if i could build on your last response. do you think this lack of a plan is hindering the mortgage market recovery, hindering mortgage origination and securitization while at the same time increasing the government's exposure to risk? >> i think the three things that are still in the way of broader

recovery are, one, the economics of what the government is doing now, because what the government does now in mortgages is more attractive than what the market is willing to do, you're right. that's why we want to begin the process of changing the pricing and the ltvs conforming limits to help facilitate that transition. the second thing is lack of clarity about what the rules are going to be over the rest of the private market for mortgages. the act requires a complicated set of rule writing across the board. we're the responsible agencies are starting to lay that out. but until that is in place, people can see them, those final rules people can see, it is going to be harder for banks to decide how much capital they want to put against this and for investors to decide what role they want to play in this. that's a necessary precondition. the third is realistically, just a little bit of time. again, we're three years into the process of adjustment of the

housing markets. we probably have three more years left, and, you know, we're still pretty close to a deeply damaging financial panic, so we need a little -- we need to have a little more time for that uncertainty about the future to be reduced a bit. i think those things require a little bit of time. i think we lay out at least notionally, a three stage plan, the three steps in walking about the government's role, comes alongside putting in place the broad rules of the game over the private market, and then, i say -- we say two to three years because we feel the housing market still needs two to three years to recover. the second stage which is going to accelerate that process of transition. ultimately, we have to choose this framework. i think our suggestion is that congress try to legislate the next two years, even though you

don't have to lock in that successor regime until probably five to seven years from now. the way we describe this, we're going to drive west. we're driving -- everybody wants to go west. we know where we want to go. somewhere around salt lake city, we'll make a choice about ultimate options. >> questions? yes. alice? do you have a microphone? >> your paper basically supports the role of the government in affordable housing, both rental and home ownership and suggests that we do it on budget. we appropriate a balance for this rather than try to hide it somewhere. that all seems to be good, but in a moment of great budget posteri posterity, when everything is going to be facing cuts, won't

it be sort of a hard sell to set up new kinds of programs that are oriented toward affordable housing? >> i do think it will. but as you know better than anybody, you know our long term fiscal sustainability problem is fundamentally about long term entitlements, particularly the cost of health care. i think there is -- we, as a nation, can absolutely afford to make and commit to a set of targeted assistance for low, moderate income americans. i think the challenge again is to do that in a way where it's more targeted and more transpare transparent. i think that's something we can afford. as you know better than anybody, we're not going to serve our

long term fiscal problems by just by spending less in what we call nondefense discretionary spending. we're going to spend less in those areas, but we're still going to have to make sure we can sustain the capacity and we can afford it to make sure we're making investments in things that are critical to our capacity to grow in the future and to make sure we're providing broad opportunity to americans across the income spectrum. i think it's affordable. the politics of all this stuff will get much harder. >> thank you very much. secretary geithner. >> next, your calls on washington journal. then a hearing on abortion fund ing. and then a hearing on medicare

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