WASHINGTON (Reuters) - Little is being done in Congress or the Bush administration to repair a collapse of trust in private securitized debt markets that is threatening sectors beyond its origin in the subprime mortgage crisis.

Student loans are being hit as are the auction-rate bond markets used widely by municipal governments to help finance vital everyday projects such as roads, schools and parks.

Capital freezing up in these markets and possibly others could cause long-term damage to the financial system and the economy, some economists and lawmakers say.

While Congress and the White House focus on short-term steps to shield Americans from rising foreclosures and crack down on mortgage brokers, no major legislation is on offer to deal explicitly with the dysfunction spreading though the capital markets.

"There's been a lot of talk about it, but we don't have a legislative package together at this point," Sen. Byron Dorgan, a North Dakota Democrat, said in an interview.

Committee Chairman Christopher Dodd, speaking on the Senate floor last week, expressed concern about local governments' finances being hurt by auction-rate market failures.

Warning that some student loan programs were shutting down due to lack of capital, the Connecticut Democrat pointed to "a crisis of confidence that has serious consequences."

Like many in Congress, however, Dodd said the first priority must be to stem the home foreclosure wave that has already engulfed tens of thousands of Americans and could affect millions more over the next two years.

As urgent as the foreclosure crisis is, some economists say it is equally important for lawmakers to take a hard look at how to fix the broken secondary market for mortgages and other debt.

CREDIT MARKET SHUT DOWN

"People need access to mortgages to buy homes and our credit markets have shut down," said Lawrence Lindsey, a former senior economic adviser to President George W. Bush.

Unless global investors' trust in securitized debt can be restored and steady flows of investor capital replenished to finance new mortgages and other loans, the mortgage industry's future and home values are in long-term jeopardy, he said.

Lindsey, now head of a private economic advisory firm, told a Senate Finance Committee hearing last week: "None of the plans now being suggested, either by the current president or by those (hoping) to be his successor have this as the focus ... The real solution to the housing problem is to find a new and sustainable housing finance system."

The secondary debt market has exploded in size and complexity over the past decade, with Wall Street churning out an alphabet soup of new products such as asset-backed securities (ABS) and collateralized debt obligations (CDOs).

Profits derived from the basic process of securitization -- transforming ordinary debt into finely tuned investment vehicles -- was highly profitable until the past year or two. Now the same banks that assured Washington for years that everything was under control are losing billions of dollars.

"Some of this is of their own doing," Dorgan said. "Those markets created such sophisticated instruments and securitized things that many people don't even understand them."

Many of the institutional investors who bought securitized debt did not understand them, as is now clear. They trusted the judgment of others, such as credit rating agencies and bond insurers. But much of that trust was misplaced and now demand for many securitized debt instruments is soft, said Lindsey.

SEAL OF APPROVAL

In the vacuum left behind by diminished faith in credit raters' opinions, Lindsey suggested forming a "Federal Board of Certification" to give a seal of approval to private securitized debt, offering investors the same confidence they still have in much of the government-chartered debt markets dominated by Fannie Mae and Freddie Mac.

The board would be formed from a variety of federal regulators with banking oversight, including the Federal Reserve and the Treasury Department, Lindsey suggested.

"This does not involve a federal guarantee ... All the certification board would do is assure investors," he said. "I can think of no single action by the government that could do more to restore confidence in the mortgage lending process."

Lindsey's concern about restoring credibility along the securitization chain of loan originators, securitizers and investors is shared by Dodd and Democratic Rep. Barney Frank.

Frank, chairman of the House Financial Services Committee, has pushed a bill through the House to give home loan borrowers more rights to sue securitizing institutions, an idea known as assignee liability.

Late last year, Dodd tentatively proposed a similar and tougher Senate measure. But the Senate has been slower to act, while Wall Street and mortgage bankers have been lobbying to block any form of widened assignee liability.

In an interview, Michigan Democratic Sen. Debbie Stabenow called Lindsey's testimony "interesting."

Like Dodd, she stressed addressing the foreclosures issue first. "We'll start there. But I think it's now spreading out into all kinds of other areas -- student loans, small business loans," said Stabenow, a finance committee member.

"There's a lot of discussion going on as to what extent we should get involved. But I hear across the board ... that the issue is lack of stability and lack of trust in the markets as a whole. We're trying to figure out what's appropriate."

(Reporting by Kevin Drawbaugh)

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