By Robert Freedman, Senior Editor, REALTOR® Magazine
The Obama administration puts the emphasis on privatization with a federal backstop as it outlines alternatives for replacing Fannie Mae and Freddie Mac. NAR wants to be sure affordable 30-year, fixed-rate and other safe mortgages remain available. It also expresses concern over a part of the report that could lead to increased fees above what would be affordable for middle-class households.
The Obama administration in its long awaited report to Congress on replacing Fannie Mae and Freddie Mac says it wants to strike a balance between a fully privatized conventional mortgage finance system and a fully nationalized system, and in that spirit outlined three alternative approaches to what should come after the two secondary mortgage market companies go away.
In its report, called “Reforming America’s Housing Finance Market” and released this morning, the administration divides the three options into degrees of privatization:
- Largely private. The only government involvement being the promotion of mortgage financing for low-income households through FHA, VA, and USDA (rural home ownership).
- Hybrid with a federal emergency role. Along with the existing roles for FHA, VA, and USDA, the privatized system would be backstopped by a federal mortgage insurance facility that ramps up to scale only in times of credit crisis.
- Hybrid with full-time federal reinsurance. The otherwise privatized system would include a standing federal catastrophic reinsurer for private guarantors of mortgage-backed securities.
The administration isn’t specific about whether it recommends one of the three approaches or a mix, but the report makes it clear that administration officials are seeking some type of hybrid approach. Full privatization, as outlined in the first option, has the virtue of moving the federal government out of the conventional housing market, but it would likely make it “more difficult for many Americans to afford the traditional pre-payable, 30-year fixed-rate mortgage,” the administration says. That’s a statement that closely parallels what NAR says in its policy position on GSE reform.
The other two options outlined in the plan come with their own risks. The federal emergency option is untested, the administration acknowledges, creating a big unknown about whether the federal facility would be able to scale up in time to avert a crisis, and the catastrophic securities reinsurer of the third option could overly increase the flow of capital to mortgages, diverting it from other productive uses.
Whatever option or variant of the options emerges, NAR’s position is that the continued availability of safe, affordable 30-year and other conventional mortgages is paramount.
The administration can be expected to provide more clarity on its position in the months ahead as Congress ramps up its hearings and the number of reform bills introduced by lawmakers multiply. What’s encouraging about the report, from an NAR perspective, is that it shows an understanding of the reasons the secondary market companies were formed. So it seems likely the administration will seek to retain those benefits (broad access to affordable capital, universally accepted underwriting standards, and so on) in the reforms. Hearings on the future of the GSEs have already begun. A subcommittee of the House Financial Services Committee held its first hearing on reform earlier this week in anticipation of the administration’s report, and more hearings are in the works in both houses of Congress.
Separate from its options for replacing the two government sponsored enterprises, the administration in its report lays out its proposal for near-term steps to shore up the mortgage market and unwind the two companies’ portfolios and gradually phase down their role in the market—with the emphasis on gradual. “These efforts must be undertaken at a deliberate pace, which takes into account the impact that these changes will have on borrowers and the housing market,” the report says. Some of the proposals, which call for raising some fees, raise NAR concerns.
Among its near-term recommendations:
- Require Fannie Mae and Freddie Mac, over a several year phase-in, to price their guarantees as if they were held to the same capital standards as private banks or financial institutions. This would help boost the companies’ reserves while curbing the market advantage over banks they leveraged in the past to expand their share in the securities market.
- Encourage the two companies to pursue additional credit-loss protection from private insurers and other capital providers, and support increasing the level of private capital ahead of their guarantees by requiring larger down payments by borrowers, perhaps at least 10 percent down.
- Allow today’s $729,750 high-cost area conventional (and FHA) loan limit to expire in October, in which case the top limit would drop to $625,500, then later adjust the limits as needed.
- Wind down the companies’ investment portfolio’s by 10 percent a year, something the companies are already doing. This process could even be accelerated in the years ahead as conditions warrant.
- For FHA, impose a 25 basis point increase in the FHA mortgage insurance premium.
All of these efforts are intended to make it more attractive for private lenders to step in because the competitive advantage of the GSE and FHA would be reduced. The higher GSE guarantee fees and higher FHA insurance premium, as well as the minimum 10-percent down requirement, would make government-backed financing more costly, providing space for private lenders to fill.
From NAR’s perspective, the administration’s effort to open up space for lenders offering non-government-backed products is necessary for a healthy mortgage market, but the use of increased fees must be limited, otherwise they risk harming middle-class households. “Any proposal for increasing fees and borrowing costs beyond actuarially sound levels will only make it harder for working, middle-class individuals to achieve home ownership, and only the wealthy will be able to achieve the American dream,” NAR President Ron Phipps says.
Should middle-income households get squeezed out of the home sale market by higher fees, the impact would be felt by the broader economy. NAR’s economists estimate that for every 1,000 home sales, 500 jobs are created for the country. So, a drop in home sales would mean a drop in new jobs.
The report also recommends changes to shore up and curb future problems with the Federal Home Loan Banks, increasing regulation of mortgage servicers, implementing changes to international banking capital standards under the BASEL III Capital Accords, and improving coordination between FHA, VA, and USDA (maybe even merging their operations).
Whatever the outcome, the process of revamping the mortgage finance system is now underway, although it can be expected to move very slowly, a process that could take a year or even two to fully play out. The next stage begins next week, when the administration releases its budget proposal for fiscal year 2012.
NAR is watching all of the pieces carefully. In testimony before Congress and elsewhere, NAR is challenging lawmakers and policymakers to maintain a federal role in our financing system to ensure the availability of safe and affordable mortgage financing in both good times and bad. That will remain the association’s message as the process unfolds in the year ahead.