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Reinventing the Wheel on Fannie and Freddie Won’t Mean a Smooth Ride

As the Senate Banking Committee prepares to take up the fate of Fannie Mae and Freddie Mac, professionals who truly understand home finance say they do not want lawmakers to jettison the Fannie and Freddie model.

A new poll conducted and reported on today by Inside Mortgage Finance and IMF News has nearly 60 percent of mortgage professionals saying they want to keep the government sponsored enterprises with their current functions and operations intact, and forgo drastic change. Conversely, a mere 18 percent of respondents voiced opposition to keeping the GSEs in their current form.  

Sens. Bob Corker, R-TN, and Mark Warner, D-VA, should take note.  Bloomberg reports today that the two are again working on a way to break up the GSEs. Their latest idea is reportedly to separate the GSEs’ single family home activities from those connected to apartment building finance and affordable housing.  Warner told a meeting of mortgage bankers last week that the goal is to bring more competition into the mortgage lending market.

While housing finance reform is still needed,  Corker’s and Warner’s continued insistence that dismantling the GSEs is the appropriate path forward remains a theory that elicits serious, fundamental questions: Is there a big enough pool of capital in the private marketplace to supplant Fannie and Freddie’s function? Will interest rate hikes make homeownership impossible for more and more Americans as private-sector players supplant Fannie and Freddie in mortgage securitization? Will taxpayers be vulnerable to another bailout if Fannie and Freddie are weakened and not required to maintain adequate levels of reserve capital?

To that end, during Thursday’s Senate Banking hearing, Mortgage Bankers Association President Dave Stevens can be expected to tout a proposal the MBA laid out at the beginning of the year. The MBA has migrated to an acknowledgement that Fannie and Freddie are useful and need capital buffers but its GSE reform plan still proposes ideas that could create more risk and uncertainty.

For example, it envisions the creation of a new kind of mortgage backed security (MBS) backed by a well-defined pool of mortgages but which would receive an explicit government guarantee. This new MBS would be funded by insurance premiums, thereby theoretically encouraging the flow of global capital adequate to preserve liquidity during times of stress.

That innovation might sound appealing but Senators eager to tear down Fannie and Freddie should keep in mind that big banks were rushed into the securitization business only to abandon it as soon as the housing market began showing signs of trouble. In other words, where Fannie and Freddie were created to perform a counter-cyclical role in housing finance, the banks exacerbated a downward cycle heading into the 2008 crisis. Accordingly, Senators should ask tough questions about the level of government backing for the MBS in the MBA plan. What would trigger taxpayer support and would that support be unlimited? The MBA’s plan lacks analytical detail on this matter.

GSE reform needs to be completed. With Fannie and Freddie more streamlined and profitable, the nine-year-old temporary conservatorship and the illegal Net Worth Sweep must end. No doubt, Administration officials and Members of Congress want to get this huge leftover from the Obama years off their plates. And respondents to the poll clearly grasp that disruptive experimentation and additional years of fruitless legislative wrangling will not help lenders, borrowers, or taxpayers. (This will certainly not help shareholders).

GSE reform might be as simple as enabling the GSEs to perform their narrow mission of providing countercyclical liquidity in the home lending market but with more guidelines to protect taxpayers and average Americans. Will this happen? The poll indicated 23 percent of respondents said they don’t expect to see any type of GSE reform in their lifetime. Congress seems determined to prove them right.