Federal Reserve Chairman Ben Bernanke, in a letter to Joint Economic Committee Chairman Chuck Schumer (D-N.Y.), today (August 29) stated that the Fed's Open Market Committee, which controls interest rates through its overnight funds rate, was "closely monitoring developments in financial markets" and "is prepared to act as needed to mitigate the adverse effects on the economy arising from the disruptions in financial markets."

The disclosure of the letter led Wall Street to nearly erase the losses of yesterday, when the market fell 280 points on concern over those very markets as well as the nationwide housing slump. The Dow Jones Industrial Average closed up 247.44, or 1.9%, as traders read into the letter that the Fed may cut interest rates at its upcoming September meeting. The builder group rebounded from yesterday's lows, with the Standard & Poor's home builders index fund up 3.58% TO $25.31.

In the letter, Bernanke wrote, "I share your concern about the potential impact of scheduled payment resets on homeowners with variable-rate subprime mortgages. Over the next several years, many such homeowners will face significantly higher monthly payments and, consequently, an increased risk of losing their homes to forced sale or foreclosure."

However, he stopped short of endorsing any of several proposals now floating around Congress that would provide direct aid to homeowners at risk of foreclosure or to allow the government-sponsored enterprises, Fannie Mae and Freddie Mac, to increase existing caps on lending. "It might be worth considering at this juncture whether the private and public sectors, separately or in collaboration, could help the situation by developing a broader range of mortgage products which are appropriate for low-and moderate-income borrowers, including those seeking to refinance," Bernanke wrote.

He continued, "Such products could be designed to avoid or mitigate the risk of payment shock and to be more transparent with respect to their terms.They might also contain features to improve affordability, such as variable maturities or shared-appreciation provisions for example. One public agency with considerable experience in providing home financing for low-and moderate-income borrowers is the Federal Housing Administration (FHA). The Congress might wish to consider FHA reforms that allow the agency more flexibility to design new products and to collaborate with the private sector in facilitating the refinancing of creditworthy subprime borrowers facing large resets."

Regarding the GSEs, he wrote, "The current caps on GSE portfolios­which were imposed for safety and soundness reasons-need not be lifted to allow them to accommodate new borrowers. Currently, the GSE portfolios include substantial holdings of GSE-guaranteed mortgage products, which are easily placed in the private secondary market even under current conditions. Thus, the GSEs could readily sell these securities to make space for new mortgages if they wished to do so. Policymakers may also want to encourage the GSEs to increase their mortgage securitization efforts, which are not constrained by their portfolio caps."