The Fed is probably going to stop cutting interest rates, the prices of food and fuel will continue to rise and look for the federal government to craft a bailout of the banks and financial institutions holding a lot of bad mortgages.

That's the prediction of James Gaines, research economist at Texas A&M University's Real Estate Center.

"The Fed's biggest problem is solvency in the financial markets," Gaines said today to journalists gathered in Dallas for a meeting of the National Association of Real Estate Editors.

There's no doubt the nation is in the midst of a severe housing downturn, Gaines said, but this one is different from previous downturns. Those were caused by high interest rates coupled with a slow economy.

This one was caused by lax home-loan standards, which caused frenzied demand for housing as borrowers with shaky financials joined everyone else in buying homes. Now those with adjustable-rate subprime loans are defaulting at high enough rates to shake the mortgage industry and Wall Street to its core.

Although subprime ARMs accounted for just 7 percent of all home loans, they account for 42 percent of all foreclosures, Gaines said. He thinks the worst won't be over until the first quarter of next year; by then the majority of them will have hit the point where their interest rates reset.

In the next year to 18 months, Gaines expects to see a rewrite of most mortgage rules, a rewrite of how Fannie Mae and Freddie Mac (the two major sources of mortgage funds) do loans, and a rewrite of federal bankruptcy rules. Higher inflation and income taxes are also in the cards, he said.
--Elizabeth Rhodes from Dallas