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Dr. Raynor teaches finance at the State University of New York at Delhi, and is periodically a visiting professor at Universidad Catholica Santo Toribio De Mogrovejo in Peru. He has worked on a number of projects in other areas of Latin America, and was also a visiting professor in China. He is especially interested in international trade and labor issues, and has previous private sector experience in the banking industry.

To solve the on-going mortgage and consumer debt crisis, consideration should be given to a proven system that works. Years ago, bankers and other lenders had strict underwriting guidelines for making loans. When it came to capacity or ability to pay back a loan and income, debt ratio policies were in place to protect both the lender and the borrower from excessive leverage. For consumer loans, most lenders allowed total debt as a percentage of gross income in the range of 33% to 36%. Returning to these guidelines is crucial.

We all know that traditional banking rules and responsible lending were abandoned a long time ago. For a variety of reasons, many lenders began focusing almost exclusively on the credit score, and sometimes even that was discarded. This is at the heart of the subprime mortgage problem and housing market collapse. This, in turn, is at the heart of the current recession.

On January 9, 2009, The New York Times published an article on this topic, titled "Citi Reaches Deal With Lawmakers on Home Loans," although the article did not receive the attention it deserved. The article by Carl Hulse outlined developments with Citigroup which dropped much of its opposition to bankruptcy judges adjusting mortgages for troubled homeowners. According to Mr. Hulse, "The revised bill that Citigroup endorsed would allow bankruptcy judges to adjust the principal payments or interest rates on existing loans."

These developments are significant because they put pressure on other banks to follow and they provide bankruptcy judges with the power to reconcile troubled loans one by one. Whether it is a bankruptcy judge or other type of adjuster, a return to sound lending practices is needed. An adjustor basically needs to take the old but proven standard of 36% of gross income and determine what amount of total consumer debt can be handled by the individual in trouble. If the mortgage payment associated with a standard 30 year mortgage at a prevailing interest rate is considerably higher, then adjustments may be needed to meet the 36% guideline. If the judge or adjuster has to cut the principal or rate in order to make this happen, then banks will simply have to absorb the loss.

A few considerations to keep in mind:

1. Banks will not like absorbing losses but they are the ones who abandoned sound lending practices in the first place. Because the mortgage crisis is so deep, however, more of them finally are realizing that taking a hit on rate or even principal may be more advantageous than taking a larger hit on yet another foreclosure.

2. To a large extent, banks already have returned to this standard anyway. Anyone who has applied for a loan recently knows how much more stringent the criteria are. What is needed is a program that can provide work-out solutions for the troubled loans that banks should never have made in the first place.

3. Obviously no program is going to work for a person making $7.00 an hour trying to maintain a $350,000 loan. The intent of this program is to help those at the margin where there is still hope of a successful repayment. Thus, there must be reasonable caps for adjusting loans for good-faith borrowers who are able to make payments and want to save their homes.

4. While the banking industry may claim there is increased incentive for consumer abuse, this is not a significant concern. The beauty of a strict 36% program are its simplicity and transparency. Furthermore, given the recent banking scandals, spending sprees, and excessive bonuses, the banking community should be the last ones talking about abuse.

5. Homeowners not receiving a mortgage adjustment may also be reluctant to support such a program. While a valid concern, the necessity of protecting the system from further collapse is in their best interest. The homeowner that is not in default or needing mortgage adjustments will benefit from market stabilization and the prevention of further deterioration of property values. A new tax break or rebate program could also be developed for individuals not needing mortgage adjustments in order to make circumstances fairer for everyone.

6. Some may argue this type of debt problem is best handled in bankruptcy court. Just like the major corporations and banks that did not go through bankruptcy proceedings, receiving bailout money instead, consumers who are facing a new type of economy should not have to go through bankruptcy either. Furthermore, our bankruptcy system was never designed for such large scale systemic types of debt problems that require structural changes in the economy.

7. Because of income stagnation (in real terms) over the past decade, returning to a 36% guideline is more important than ever. In fact, some may argue a lesser percentage is justified because of income level deterioration.

8. It's important to provide relief from other consumer debt so that more mortgage debt can be serviced. In his January 28, 2009 article in the Minneapolis Star Tribune, Wy Spano suggests it would be advantageous to "Pay off all federal student loans."

He goes on to say, "The amount is just a bit over $70 billion. That single act would make it possible for the hundreds of thousands of student-debtors to become active consumers, something we're trying to encourage in difficult economic times. Each month, student-loan debtors together would have hundreds of millions of dollars available that once went to loan repayments. That money could go to helping them survive a job loss, or buy a car, or pay off other debt."

Mr. Spano's proposal deserves serious consideration. Certainly these individuals could do more for economic revitalization than the Wall Street people who just received $18 billion in bonuses for bringing on much of this crisis. While the $70 billion that Mr. Spano mentions is not insignificant, considering that AIG alone received much more than that helps add perspective. Families in the U.S. are at the financial breaking point and need immediate economic relief.

We live in a new economy. Unfortunately, it is one that is deteriorating rapidly. Even when better times return, however, it is doubtful we will ever have the income needed to support the debt levels we were accustomed to. Six years ago, global equilibrium of income levels was discussed here at BNWW. In this article, I asked if salary levels globally would become more equal because of technology, communications, and other globalization forces. To a large extent, this has materialized, and we must now adjust our debt levels accordingly.

Regardless of who is to blame for our current crisis, the reality is that we need solutions that move us forward. Given a level playing field, Americans are eager to work hard, take risks, and invest in the future. However, when a mortgage holder who is trying to do the right thing is destroyed economically because of a broken regulatory system that sometimes is corrupt, it is not unreasonable to have a program that provides relief.

The same is true for an engineer, accountant, doctor or any other professional that accumulated significant student loan debt. They did this with a reasonable understanding that positions would be available that pay enough to pay the loans back. They did not expect to have stagnating or decreasing real salary levels because of job outsourcing, H-1B visas, or other globalization forces. They did not expect to have the rug pulled out from underneath them with job availability problems after investing so much in their careers. Now, even the highly educated Chinese with far less debt are having difficulty finding jobs because of the global economic downturn.

Massive adjustment programs are needed to assist the disappearing middle class which has been discussed at BNWW for years. An immediate need during this transition period is to provide a path for the new economy that will emerge. If we don't, the economic unrest and protests sweeping much of the rest of the world may soon be in our streets as well.

Unless the genie of globalization can be put back in the bottle--it can't--a serious program that addresses household debt levels must be made available. Income levels are very unlikely to return to where they were previously, and Americans are desperate for a sustainable way of life. Returning to the 36% rule provides a path for doing this.