Note to Wallison: FDR is Dead But GSE Reforms Are Alive and Well
- January 25, 2018
Peter Wallison’s ideological disdain for Fannie Mae and Freddie Mac is pure and therefore largely impenetrable to facts. The American Enterprise Institute scholar remains convinced that big government liberals bear almost sole responsibility for the 2008 financial crisis and, in a Wall Street Journal op-ed this week, he warns the Trump Treasury Department is all too ready to repeat liberals’ past mistakes.
Now, there is plenty of room for debate about the wisdom of 80 years of federal housing finance policy. Liberals will always believe the Roosevelt Administration did the right thing by chartering entities that would provide counter-cyclical liquidity in the mortgage market. Otherwise, a future economic downtown could snowball into another Depression. Conservatives like Wallison will always believe that statist prescriptions to economic questions are inevitably doomed to failure and almost always make matters worse.
On the other hand, there is some consensus that the desire to expand home ownership via government policy, however well-intentioned, did contribute to the explosion of sub-prime mortgages in the 1990s. There is also common ground in recognizing that distorting Fannie and Freddie’s original mission to induce them to buy and securitize these loans played a role in the 2008 financial crisis. Likewise, there is agreement that a regulatory structure that was a step behind the “innovation” and simple greed in the financial services sector compounded government missteps.
The Financial Crisis Inquiry Commission, established as the dust was still settling in 2009, more or less acknowledged these factors. When the FCIC delivered its report almost exactly seven years ago, there were dissents among the 10 commissioners. But only one commissioner saw fit to launch a 99-page assault on Fannie and Freddie. That was Peter Wallison. Suffice it say, he really dislikes government intervention in the marketplace.
Wallison, therefore, should be pleased that today’s Fannie and Freddie are leaner and more prudent entities than they were on the eve of the crisis. What’s more, proposals the Treasury Department and the Federal Housing Finance Agency are said to be considering would not only keep it that way but also engineer a much larger role for private capital. There is no stampede afoot to double down on previous mistakes.
First, the Housing and Economic Recovery Act of 2008 was enacted to prevent the feared collapse of Fannie and Freddie. HERA placed Fannie and Freddie into conservatorship under the authority of FHFA, imposed new disciplines on the GSEs, and eventually shored them up with $187.5 billion in public funds.
It turns out the GSEs were not in danger of imminent collapse as feared. They have since paid taxpayers back the $187.5 billion plus over $90 billion more, courtesy the third amendment to conservatorship terms implemented in 2012, termed the Net Worth Sweep. That is a nearly 150 percent return on investment for taxpayers. It is worth noting that Citigroup, AIG, and Bank of America received a total of $157.8 billion in taxpayer funds under the Toxic Asset Relief Program (TARP). The return on investment for this government intervention was far more modest. Ten years later, as Wells Fargo digs out from defrauding its customers, Wallison and others say less government regulation of the financial industry is needed.
Second, Fannie and Freddie have not been protected in an incubator by their loving conservator, FHFA Director Mel Watt. Under his watch, the GSEs have dramatically trimmed their portfolios, transferred risk to the private sector, and adopted tougher lending and securitization standards. Watt, while appointed during the Obama Administration, heads an independent agency. Far from being a partisan cheerleader for returning to business as usual, Watt has been flinty-eyed steward of needed reforms. He has also been out ahead of other public officials in warning that the Net Worth Sweep, in the absence of comprehensive reform by Congress and Treasury, has depleted the GSEs’ reserve capital, thus exposing taxpayers to additional bailouts.
In contrast, Wallison cheered on Obama Administration officials when they were conceiving and implementing the Net Worth Sweep in 2012. Among the communications the government has been forced by a federal judge to disclose in the course of shareholder lawsuits was an email from Jim Parrott, then a top White House housing policy advisor, to Wallison explaining that the Sweep was designed to prevent the GSEs from paying down the principle on loans they received from Treasury and ensuring more money in the government’s revenue stream.
This kind of government overreach is an anathema to conservatives: Rogue bureaucrats circumventing the law which mandated FHFA conserve the GSEs’ assets, restore their solvency, and return the reformed enterprises to private shareholders. The Sweep created a slush fund for unauthorized spending and is a major reason why the GSEs remain wards of the state ten years later. Wallison might have thought the Sweep would hasten their demise. Just the opposite happened.
Third, Wallison’s fears that FHFA and Treasury are in lock-step marching back to the 1930s are unfounded. It would be a leap to assume FHFA and Treasury endorse new federal mandates to originate and securitize bad loans simply because Watt and Treasury Secretary Steven Mnuchin see a place for affordable housing goals or duty-to-serve requirements. In addition, while Craig Phillips, an aide to Mnuchin, expressed general agreement on the policy changes Watt sketched out, there are numerous and complex issues that have yet to be resolved. Both Watt and Mnuchin want Congress to address these issues.
Congress, of course, has been unsuccessful in meeting this challenge to date. Current efforts by Sen. Bob Corker are bumping up the kinds of questions that serious proponents of GSE reform should be asking. The creation of private sector “guarantors,” as the Mortgage Bankers Association’s proposal calls them, or shareholder-owned “secondary market entities” (SME) as Watt suggested, should please conservatives: More competition and smaller role for reconstituted GSEs. But first it makes sense to ask questions about how long it will take for such entities to be able to meet stringent capital requirements and operate with up-to-date regulatory guidelines. If the mortgage backed securities are to have an explicit government guarantee, conservatives should insist on such oversight, in service to taxpayers. In other words, serious reform proposals would restrain government, not the market.
After ten years, it is evident that having no role for government would be as ill-advised as creating a new unwieldy role for government in housing finance. Instead of putting the corpse of FDR on trial as Wallison seems intent on doing, policymakers should avoid past mistakes – and there were many – and wrap up the work of creating a post-crisis housing finance system that protects taxpayers, keeps homeownership accessible for qualified buyers, and honors obligations to shareholders.