Treasury Secretary Henry Paulson and the nation's big financial institutions are working out a voluntary plan to temporarily freeze interest rates on mortgages to subprime borrowers, according to several reports this morning.

The effort is aimed at slowing the growing wave of foreclosures while helping to stabilize the markets in investments tied to subprime mortgages that have been whipsawed as a result.

While the markets and the economy have already suffered from the implosion in subprime, the worst may be yet to come. That's because the boom in housing peaked in 2005. Many subprime mortgages then came with low introductory interest rates that reset after two or three years. That time is now approaching.

Many subprime borrowers are finding that they cannot keep up with the extra hundreds of dollars or more per month in payments on their mortgages once the rate shoots up to 10 or 11 percent.

In August, David Leonhardt noted in the New York Times that interest rates on some $1 trillion worth of mortgages will reset for the first time in 2007 or 2008.

 
As a result, there is "likely to be a shocking number of people who lose their homes," he wrote.

American Banker reports that the plan being discussed among Bush administration officials and the financial institutions involves extending the introductory interest rates for five years on nondelinquent subprime hybrid adjustable-rate mortgages. Financial institutions have been pressing for a three-year time frame, American Banker says.

On Thursday, Paulson met with the heads of the Federal Deposit Insurance Corp., the Office of Thrift Supervision, the Office of the Comptroller of the Currency, and a Federal Reserve Board governor, as well as executives from Washington Mutual, Countrywide Financial, Wells Fargo, and J.P. Morgan Chase, according to American Banker.

The Wall Street Journal says that the alliance is called the Hope Now Alliance, a name that has unfortunate echoes of the Ford administration.

The effort by the Treasury is an unusual intervention in the workings of the market, particularly by a Treasury secretary who has advocated a hands-off approach in the past.

Still, the Bush administration has been criticized for not responding to the housing crisis, and the slump threatens to tip the economy into a recession.

"One of the roles of the Treasury is to say, 'Come on, let's get together and see what we can do,'" Wayne Abernathy, executive director of financial-institutions policy at the American Bankers Association in Washington and a former Treasury assistant secretary, told Bloomberg News. "You're likely to come up with something that will both work in the marketplace and honor the sanctity of the contracts involved."

But achieving that will be extremely complicated. It is safe to assume that most of the subprime mortgages that would be involved have already been securitized. Investors have taken a bet on those securities' expected rate of return, and other investors have bet against them.

"There are legal and practical concerns to loan modifications," Kurt Pfotenhauer, the Mortgage Bankers Association's senior vice president of government affairs, told American Banker. "There's an incredible basis for lawsuits. And how do you do business if you break a contract?"

More details may come on Monday, when Paulson is scheduled to address a housing conference.