Five banks announced last Thursday that they are taking part in a Federal Reserve Bank of Boston-organized partnership to offer $125 million in loans to help subprime borrowers. Discussing the new program are: (from left) Citizens Financial Group Chairman Lawrence K. Fish, Sovereign Bank New England North Market CEO Patrick J. Sullivan, TD Banknorth Massachusetts President Mark C. Crandall, Webster Bank Regional President Robert D. Twomey and Bank of America Massachusetts State President Robert E. Gallery.

The Federal Reserve Bank of Boston’s deep research into the subprime lending crisis, a priority for the agency’s new chief Eric Rosengren, seems to be a key driver behind a flurry of new policy initiatives flowing from the national Federal Reserve system.

Last week alone, the Fed held two unusual money auctions to increase loan liquidity at banks and proposed new lending regulations. It also has continued cutting its benchmark federal funds rate despite inflation concerns. And locally, the Boston Fed last week formed a partnership with five banks to assist borrowers with high-cost loans.

The Federal Reserve auctions sent $40 billion to banks nationwide at a 4.65 percent interest rate – slightly lower than the current 4.75 percent discount rate at which the Fed loans money to banks – in an attempt to infuse cash into tightened credit markets.

The Fed Board of Governors also has proposed changes to the 1968 Truth in Lending Act (TILA) designed “to protect consumers from unfair or deceptive home mortgage lending and advertising practices.”

Meanwhile, the Boston Fed, one of 12 separate regions making up the Federal Reserve system, has formed a partnership with five of Massachusetts’ largest regional banks to fund up to $125 million in refinance mortgages for Bay State borrowers facing delinquency or foreclosure due to existing high interest rates or pending rate resets on their adjustable loans.

Boston Fed officials are reluctant to say to what extent their probe into the woes of the mortgage and housing markets have influenced Federal Reserve policy at a national level, but the recent initiatives come hard on the heels of months of intensive research culminating in report issued earlier this month.

Fed economists in Boston recently found that 20 percent of subprime borrowers nationally – and 26 percent in New England – have credit scores, loan-to-value ratios and documented incomes that should qualify them for more affordable prime-rate loans, Rosengren said at a Dec. 20 press conference in Boston announcing the formation of the borrower rescue fund.

Giving those borrowers access to more affordable loans, via $25 million apiece contributed by Citizens Bank, TD Banknorth, Bank of America, Sovereign Bank and Webster Bank “won’t be the whole answer,” he said, “but it’s certainly a start.”

A similar program, initiated last October by the city of Boston, so far has helped borrowers refinance $3 million in “bad loans,” according to Mayor Thomas Menino, who was at the press conference along with Gov. Deval Patrick.

Rosengren offered another answer he evidently believed would help the stimulate lending and borrowing that has slowed in the wake of a mortgage-delinquency inspired credit crunch, which has caused investors to shy away from mortgage-backed securities and lenders to tighten credit standards. Rosengren cast the lone vote in favor of a half-point cut to the federal funds rate at the Dec. 11 Federal Open Market Committee.

The rest of his colleagues prevailed, lowering the key target rate by a quarter point to 4.25 percent.

But stock market prices fell following that decision, indicating the market expected the deeper cut advocated by Rosengren, and likely prompting the Fed to auction off the $40 billion, through its Term Auction Facility, the following week, suggested Robert Segal, chief investment officer at J. William Mantz Investment Advisors in Danvers.

“[The auction] was pretty much an answer to the market’s distress over the funds rate,” Segal said. The federal funds rate is the rate banks charge each other for overnight borrowing.

‘Common Theme’

Rosengren has declined to comment on his interest rate vote, but Segal and others said it and the other recent Fed actions are clearly the product of housing and mortgage market troubles, and likely informed by the Boston Fed’s new research on subprime mortgage and foreclosure problems. The report, “Subprime Outcomes: Risky Mortgages, Homeownership Experiences, and Foreclosures,” was released in early December.

“The common theme of those policies is the housing market, subprime lending and the liquidity crisis that is happening right now,” Segal said.

Jim Campen, executive director of Boston-based Americans for Fairness in Lending and the author of an annual research report on mortgage lending patterns in greater Boston, said it’s probable that Rosengren was influenced by his own bank’s research, which also showed that falling home prices are a primary driver behind the national foreclosure wave currently affecting nearly 1 million U.S. households.

“A lot of people think the economy needs more stimulation,” he said – which is something a bigger interest rate cut would have accomplished, by encouraging borrowing and spending.

“The financial markets clearly thought that,” Campen said. “I thought Rosengren’s dissenting vote was appropriate.”

The Federal Reserve is known more for assisting banks than consumers so its recent actions, including Rosengren’s vote, came as a pleasant surprise to consumer advocates, Campen said.

The Fed Board of Governors’ Dec. 18 announcement of proposed new lending regulations affecting TILA was “long overdue,” Campen said. “If it had been in place in 2003, we wouldn’t be having this crisis today.”

The regulations, which are subject to public comment for the next 90 days, will require lenders originating higher-priced mortgages to verify a borrower’s ability to repay adjustable-rate loans even after the rate resets, and require that they verify the borrower’s income and assets with third-party documents. The measure also would institute new requirements about the use of yield spread premiums as a means of broker compensation.

‘Trigger’ Point

Paul Willen, a Boston Fed economist and a lead author of the recent research report, which used loan data from 1987 to the present supplied by Banker & Tradesman’s parent company The Warren Group, said its “bottom line” findings were that “the trigger for the big rise in foreclosures was falling house prices.”

In other words, borrowers may have had risky loans, but as long as home prices rose, they could refinance and get out of them, he and co-author Kris Gerardi have explained.

Willen said that despite that finding, it’s clear that “the subprime market seems to have created a class of borrowers who are much more sensitive to home prices than others.”

“We need to do things to make sure people are less vulnerable,” he said. The recently released lending guidelines are geared toward implementing such safeguards, he said.

Interest rates on subprime adjustable-rate mortgages often are tied to the LIBOR (London Interbank Offered Rate), which normally tracks the federal funds rate closely.

Willen recently traveled to a conference in Denver to present his study’s findings. He said the New York, San Francisco and St. Louis Federal Reserve banks, and the Federal Reserve Board in Washington, D.C., also have been producing significant and interesting housing research in recent months.

The Boston Fed’s research began during the tenure of former Federal Reserve President Cathy Minehan, who left the bank in July. Minehan asked Willen and his colleagues to look into “who is defaulting on mortgages,” he said.

While not everyone agrees with the finding that housing price drops are the trigger factor behind the recent foreclosure wave – Campen, for example, contends that the very fact that a number of mortgage loans were made to people who shouldn’t have had them drove up demand, and in turn, home prices – there’s more consensus that government and private action must be taken to help borrowers caught in the morass.

“I think every little thing they do will help,” said Segal, including rescue loan programs, easier terms for borrowers on Federal Housing Administration-backed loans and the recently-proposed changes to TILA.

But in Segal’s opinion, the best fix for the short term would be continued cuts in interest rates, which would help troubled borrowers refinance into more sustainable mortgages and likely would ease the current credit crunch.

Economists have predicted rates will continue to go down, he said, citing a recent Bloomberg News survey.

“Inflation is a danger, but the Fed cannot risk a recession [that might result from continued deterioration of the housing market],” Segal said.

The Federal Reserve has said that inflation remains a risk, and further rate cuts might push inflation higher. However, in recent statements, Fed Chairman Ben Bernanke has cited the housing market slowdown as an area of critical concern that could lead to recession.

The Boston Fed intends to keep a close eye on housing, mortgage and foreclosure trends.

“It’s something we’ll continue to do,” Rosengren told Banker & Tradesman on Thursday. “It has a huge impact on the economy.”