But plan might cost billions of dollars, says an academic.

(NEW YORK) Former Federal Reserve chairman Alan Greenspan favours spending government money to rescue Americans who are at risk of losing their homes because they can’t make mortgage payments.

Mr Greenspan: Cash bailouts, while creating a larger budget deficit, have the advantage of helping homeowners without distorting property prices or interest rates on mortgages

Mr Greenspan, speaking on ABC’s This Week programme on Sunday, said cash bailouts, while creating a larger budget deficit, have the advantage of helping homeowners without distorting property prices or interest rates on mortgages.

‘Cash is available and we should use that in larger amounts, as is necessary, to solve the problems of the stress of this,’ Mr Greenspan said.

‘It’s far less damaging to the economy to create a short-term fiscal problem, which we would, than to try to fix the prices of homes or interest rates. If you do that, it’ll drag this process out indefinitely.’

Mr Greenspan’s approach differs from that of Treasury Secretary Henry Paulson, who negotiated a freeze on the interest rates of some sub-prime mortgages without pledging any government money to help homeowners or banks.

‘Alan Greenspan has followed two propositions through his life: A smaller government is better, and a market economy operates on trust,’ said Vincent Reinhart, former head of the Fed’s monetary affairs division and now a resident scholar at the American Enterprise Institute in Washington. ‘I think he was suggesting that it would be better to sacrifice the first - spend more - than the second - interfere with contracts.’ The former chairman didn’t specifically mention the Bush administration’s plan, and wasn’t asked about it directly.

Allan Meltzer, professor of political economy at Carnegie Mellon University in Pittsburgh, said Mr Greenspan’s proposal for a cash bailout might cost ‘hundreds of billions’ of dollars and would reward risky behaviour.

‘It is not a good idea for the government to bail out people who make mistakes,’ said Mr Meltzer, the author of a 2002 book on the early history of the Fed. ‘The markets are beginning to come to grips with this and bailing them out is a mistake, not a small one but a big one.’

Mr Greenspan, who was Fed chairman for almost two decades until Ben S Bernanke took over early last year, repeated that recession risks are rising.

‘The probabilities of a recession have moved up to close to 50 per cent - whether it’s above or below is really extraordinarily difficult to tell,’ Mr Greenspan said. — Bloomberg

Source: Business Times