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NEW YORK (AP) — As bad news about the financial system piles up, trust — the pillar of investing — is being buried.

The most recent fears are tied to the potential failure of bond insurers, the companies that back the funding for hospitals, schools and other public works. A meltdown there could deliver another devastating blow to battered banks and force higher taxes on homeowners.

That has made it difficult for the Federal Reserve — even with its aggressive rate cuts recently — to restore confidence and squash the volatility and uncertainty.

"The biggest issue is people just don't really know how big this is," Davin Gibbins, chief investment officer at Aris Corp., said of the losses banks could face. "People don't know the size of the problem, and markets hate uncertainty."

"People are afraid to make business decisions," said Donald Light, a senior analyst at Celent.

The risk that bond insurers could lose their top-notch credit ratings comes after world stock and credit markets have already been shaken by billions of dollars in losses tied to subprime mortgages, or loans given to customers with poor credit history.

The Fed has made two rate cuts totaling 1.25 percentage points in the past two weeks in an effort to spur new investments through lower interest rates. But some investors are hesitant to make any investments, regardless of price.

That uncertainty has created wild swings in the market as every bit of information is analyzed.

"One of the greatest crises our economy faces is a lack of confidence in credit evaluation," said Sen. Charles Schumer, D-N.Y. "The fact that this has spread beyond mortgages and infected the bond insurance industry is a huge concern."

Stocks fell sharply in early trading Thursday as investors fretted over a $2.3 billion loss at bond insurer MBIA Inc. and the prospect of new downgrades in the industry. By the end of the day they were higher, taking heart from a pledge from MBIA's chief executive that the company could retain its credit rating and raise fresh capital.

Over the past few months, ratings agencies have downgraded or threatened to cut bond insurers' financial strength ratings, saying the companies — which make payments on bonds when the issuer is unable to do so — do not have enough extra cash to cover a potential spike in claims.

A downgrade from the crucial "AAA" rating would likely end the insurer's ability to book new business.

Standard & Poor's placed MBIA on a negative credit watch late Thursday and downgraded Financial Guaranty Insurance Co. Fitch Ratings had previously downgraded other bond insurers — Ambac Financial Group Inc. and Security Capital Assurance Ltd. — as well as FGIC.

The downgrades have led to a series of problems for municipalities who rely on the insurance.

If an insurer's rating falls, bonds backed by the insurer fall as well. The lower the rating, the higher the cost.

"Clearly the cost for insurance is going up," said Richard Tortora, president of Capital Markets Advisors, which provides bond advisory services for municipalities in the Northeast.

There was about $2.6 trillion in municipal bonds outstanding as of Sept. 30, the latest figures reported by the Securities Industry and Financial Markets Association. More than half of municipal bonds carry insurance, Tortora said.

Any increased price on that insurance is "passed on to the taxpayer," Tortora said.

Exactly how much larger of a burden taxpayers will shoulder depends on the underlying credit rating of the municipality.

"The prices for lesser-grade borrowers has widened rather significantly," said Tim Long, a managing director and investment banker focused on public finance with Robert W. Baird & Co.

While cheaper bond insurance helps municipalities, rising insurance costs are unlikely to stop them from issuing a bond, Long said. The municipalities also have been helped by the rate cuts, Tortora said.

The Fed moves have helped to offset the higher insurance prices, so municipalities have been able to avoid higher costs from the insurance uncertainties. But if the Fed is unable to keep up, the cost to governments will rise.

The distress gripping bond insurers has caught the attention of lawmakers in Washington, who have been consumed for months in politically charged debate over possible remedies for the mortgage market crisis. A key House Democrat, Rep. Paul Kanjorski of Pennsylvania, is seeking information from regulators and has raised the issue of whether tighter regulation of the bond insurance industry may be needed.

Robert Steel, the Treasury Department's undersecretary for domestic finance, said the potential financial and economic impact of the bond insurance distress "is on our mind."

"The good news is that the state regulators are engaged and seem to be working with ... the different companies," Steel told a Senate hearing Thursday. He said Treasury was monitoring the situation.

Sen. Christopher Dodd, D-Conn., chairman of the Senate Banking Committee, said he is monitoring developments and is seeking guidance from Treasury and other regulators as to what actions, if any, Congress should take.

New York Gov. Eliot Spitzer said Thursday that a plan by the state's insurance regulator to bail out struggling bond insurers was making good progress — though no specifics about the plan have been disclosed.

Financial institutions, which already wrote down about $150 billion of subprime-related exposure last year, could be seeing billions more in losses from bond insurers.

Citigroup Inc., Merrill Lynch & Co., UBS AG and other banks may post another $70 billion in write-downs should bond insurers lose their top credit ratings, according to Oppenheimer & Co. analyst Meredith Whitney.

The three banks — among those hit hardest from the subprime meltdown — are the most exposed to troubled U.S. bond insurers. Merrill Lynch has already charged off $2 billion associated with ACA Capital, which S&P lowered to junk status in December.

On top of any new losses tied to bond insurers, further losses from the subprime mortgage fallout are still likely. S&P said Wednesday that it is considering cutting the rating on more than $500 billion in mortgage-backed bonds, which could lead to further losses.

S&P estimates total mortgage-related losses at financial services firms could reach $265 billion.

The Bush Administration ratcheted up its efforts to keep financially-stressed homeowners out of foreclosure this week with a surprise move: Treasury Secretary Henry Paulson said major lenders have agreed to put a halt to foreclosures - even where they have every legal right to proceed -- in order to allow more time to modify the terms of loans, whenever feasible.

Dubbed "Project Lifeline," the new effort is designed to extend far beyond the subprime borrowers covered by the "Hope Now Alliance" launched last August, and will be open to ALL borrowers, prime and subprime, who are 90 days or more delinquent on their mortgages.

Paulson described the foreclosure intervention concept as "a pause" -- a voluntary and temporary stopping of the clock for borrowers on the brink. The lenders who have agreed to participate include Bank of America and five other major firms who together service an estimated 50 percent of all home loans in the U.S.

Additional lenders are expected to jump on board in the coming weeks. The Hope Now Alliance currently has 25 major servicers as members, representing 94 percent of the mortgage market.

The new effort is a surprise because in the past, lenders have strenuously resisted calls from Capitol Hill and consumer groups for suspensions or cancellations of foreclosure actions. The issue has become a political hot potato as well, with Democratic presidential candidates Sen. Hillary Clinton and Barack Obama both supporting halts to mass foreclosures.

According to Paulson, Project Lifeline has nothing to do with politics but everything to do with giving distressed home owners a final chance to save their properties.

By targeting people who are 90 days or more behind, the program is aimed at borrowers literally on the verge of foreclosure, who may not have been aware that their lenders were willing to modify loan terms and try to resolve their problems.

"It is our hope," said Paulson, that such home owners will "reach out immediately for help" during the period in which lenders offer them an opportunity to restructure loans and avoid foreclosure.

Critics of the Administration said the new plan doesn't go far enough fast enough, since it does not force lenders to end foreclosures outright, nor does it specify how long the suspension periods will last -- other than a minimum of 30 days.

But banking law experts in Washington said the federal government has no legal basis to intervene or block foreclosures where mortgage contracts -- signed by lenders and borrowers -- clearly provide for foreclosure as the inevitable result of extended nonpayment.

We'll monitor how well Project Lifeline is working over the coming months, and keep you up to date.

Is the property you want to buy, fix up, eventually rent out or use as a second home located in a "scarlet letter" Zip code or county?

If so, be prepared to get hit up for a bigger downpayment -- something you may not have counted on when you originally considered your purchase plan.

"Scarlet letter" refers to the growing number of local market areas now designated by major lenders and Fannie Mae as "soft" or "declining."

Under a policy that went into effect last month, mortgages on properties in any of hundreds of counties and Zip codes around the U.S. now require an extra 5 percent up front in equity investment.

For many leverage-conscious buyers and small investors, that sort of additional money out of pocket can be a deal killer -- or could send them back to the negotiating table to demand a lower price from the seller.

In late January, Countrywide Bank informed its national network of brokers that properties located in approximately 100 counties rated by Countrywide as higher-risk -- "Category 5's and 4's" on a five-level scale -- now require an extra 5 percent down up front.

Another 975 counties are rated Categories 1 through 3, and may require 5 percent bigger downpayments if a local appraiser rates the area as "declining," or if properties are taking more than six months on average to sell.

Among the areas immediately affected are dozens of prime rental and vacation areas in Florida -- Miami-Dade, Naples-Marco Island, Sarasota and Broward (Ft. Lauderdale.)

In Arizona, all the counties in the Phoenix-Scottsdale-Mesa area are rated highest risk. The same is the case for all of Las Vegas and Reno, Nevada.

Other large lenders have instituted similar systems-some using letter designations for elevated risk such as "C" and "D" -- and rating every Zip code in the U.S. One lender, giant GMAC-ResCap, even created a dedicated website allowing brokers to type in a Zip anywhere and get an immediate letter designation rating local risk, and requiring a 5 percent higher downpayment.

All of the designations were prompted by Fannie Mae, which mandated the 5 percent rule for all loan types. If you had figured on leveraging your property purchase with a 5 percent downpayment program, now you'll need to double that if the area has a high risk rating.

The upshot: Even if you're intentionally buying real estate in a soft market because prices have dropped and look attractive for the long term, you may have to pay a new penalty -- 5 percent more up front -- just to get into the game.