Washington Mutual (NYSE: WM) went and got itself a tin cup. Federal regulators want it to raise more money so that it can lend more money. The mortgage bank is making the rounds of private equity firms and sovereign funds looking for that elusive few billion dollars.

According to The Wall Street Journal "Regulators are publicly urging even healthy banks to replenish their coffers so that they can keep lending and expanding their businesses if the U.S. economy continues to weaken."

For once, the government is doing something which makes sense to drive the economy. New money will not only allow some banks to save themselves from insolvency. It will encourage them to lend money into the economy.

Washington Mutual has an especially significant role as one of the largest mortgage lenders. With news that Citigroup (C) will sharply cut its activity in the mortgage markets, the places for consumers to get home loans is dropping.

One of the most critical keys to improving the economy is getting home-buyers back into the market to suck up some of the huge inventory which is driving housing values lower. Banks which refuse to make loans or charge high interest rates to make larger spreads on the mortgages because they have cheap capital from the Fed are exacerbating the most damaging trend in the US economy.

If people won’t buy homes, prices fall and foreclosures rise. Rising foreclosure lead to more bank write-offs. More write-offs lead to a more cautious lending environment.

If the government can push Washington Mutual and its peers to raise more money, the vicious cycle might be broken.

Douglas A. McIntyre

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