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Cmte Financial Services (R)
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ICYMI: Fannie and Freddie, Make Way for Ginnie Mae

The entities that caused the last housing crisis haven't been reformed. My compromise would do so.


Washington, Sep 6 -


September 6, 2018

This is a not-so-happy anniversary in American history. Ten years ago Thursday, the federal government took over Fannie Mae and Freddie Mac , the failed government-sponsored housing enterprises that were at the center of the last financial crisis.

Leading up to the crisis, Fannie and Freddie were thinly capitalized and bought loans with as little as 3% down. They issued mortgage-backed securities encompassing roughly 50% of all first-lien mortgages and were embroiled in multiple scandals such as conflicts of interest and over-the-top lobbying. Today, propped up by taxpayers in conservatorship, they remain thinly capitalized, still securitize half of new mortgages, and are buying high-risk 3%-down loans. And—surprise!—they are once again embroiled in similar scandals. As Yogi Berra said, it’s déjà vu all over again.

Fannie and Freddie’s quiet return to much of their precrisis market dominance has created a state of systemic risk. That’s bad news for competition, innovation and taxpayers. With about $190 billion in taxpayer bailouts to date and some $5 trillion in obligations effectively guaranteed by the federal government, Congress must rein them in before they help create another housing crisis.

Unfortunately reform has proved elusive. For almost 20 years, a small group in Congress has labored in vain to replace Fannie and Freddie’s government-sanctioned monopoly and implicit guarantees. The new system we envision would be based on private capital, competition, innovation, consumer choice and market discipline. Yet prospects for such reform remain dim.

Because comprehensive market-based reform isn’t achievable now, the prudent move is to shift toward a more rational system that puts private capital first and disperses risk. That’s why, in addition to offering legislation to eliminate Fannie and Freddie, I also am putting forth a compromise approach for bipartisan consideration.

The compromise plan would permanently repeal the Fannie and Freddie charters, ending the monopoly model. In its place it proposes using Ginnie Mae, the government corporation that explicitly backs the payment of principal and interest to investors in Federal Housing Administration and other government-insured loans. The proposal would direct the corporation to guarantee qualified privately insured mortgage-backed securities.

Loan originators would have to acquire coverage from an approved “credit enhancer,” or private mortgage credit guarantor, to use the Ginnie Mae system. That would function as a private capital buffer on the loan, which could then be securitized by any of Ginnie Mae’s more than 400 approved issuers with an explicit, full government guarantee of mortgage-backed securities.

To protect taxpayers from new risks, the credit enhancer’s guarantee would be market-priced and backed by the strength of its balance sheet, which requires banklike capital. Credit enhancers also would have to use risk transfers to disperse credit risk horizontally and participate in a rainy-day fund to protect against unexpected financial downturns. Eligible loans would have a minimum borrower down payment of 5% and a maximum loan-to-value ratio of 85%, and otherwise conform to the current Qualified Mortgage rules.

While by no means risk-free, this approach offers several improvements. First, it would create no new government guarantee. The government always does a lousy job of pricing risk, so using existing structures decreases the political pressure of creating new subsidies. It also means greater investor familiarity with what a Ginnie Mae guarantee covers (the mortgage-backed security) and what it doesn’t (the issuing entity). This would increase liquidity and lower system costs.

The plan also limits existing guarantees to catastrophic losses on loans already within the system. Taxpayers will be in the last-loss position behind layers of diversified private capital including: borrower down payments, private mortgage insurance, the credit enhancer’s resources, and the new rainy-day reserve. This will dramatically reduce the number of bad loans dumped into the system.

Finally, the proposal would enhance competition and reduce the risk of institutions growing too big to fail. Abolishing government charters would allow multiple private guarantors to form as needed and to compete freely for loan originators’ business. The diverse Ginnie Mae securitizing network would eliminate today’s dual-issuer choke point. By not hard-wiring government guarantees onto all loans, the plan would promote innovation and nongovernment financing alternatives. These include greater portfolio lending and an expanded private market in mortgage-backed securities.

These changes would mark dramatic improvements over the current system. But if the political will to enact reform stalls, the Trump administration can still effect change. The president will appoint a new Federal Housing Finance Agency director in January. The director has broad unilateral powers as conservator of Fannie and Freddie to reduce their size, scope and functions dramatically. If Congress fails to act by early next year, the new director can still institute these reforms administratively—and I call on them to do so.

Comprehensive housing-finance reform remains a great public-policy challenge. This compromise offers a way out of the dangerous status quo: codify into law an explicit government guarantee for mortgage-backed securities in exchange for placing the taxpayer in a catastrophic-loss position only, diffusing the credit risk beyond Fannie and Freddie, and creating market competition. Such a grand bargain may not be the optimal policy, but it’s an achievable policy that could help avert the next housing crisis.

Mr. Hensarling, a Texas Republican, is chairman of House Financial Services Committee.

Appeared in the September 6, 2018, print edition.