Playing Russian Roulette With The U.S. Housing Finance System

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Forcing Fannie Mae and Freddie Mac into another bailout is an irresponsible game of chance.

Last month, Mel Watt, director of the Federal Housing Finance Agency (FHFA), announced that the two mortgage giants, Fannie Mae and Freddie Mac, could require a federal bailout of as much as $100 billion in the event of an economic downturn.

In fact, a bailout of these two institutions is inevitable as early as next year, if not sooner. The need for an emergency draw on the U.S. Treasury Department to fund these agencies, however, will have nothing to do with the financial health of either Fannie Mae or Freddie Mac.

Both agencies are exceptionally well-managed and regulated, and are highly profitable; they reported combined earnings of nearly $10 billion in the first six months of this year. As with the most recent meltdown of the housing market, irresponsible federal housing oversight will be the cause of their failures.

During the buildup to the collapse of the housing market that began in 2007, federal financial regulators ignored the many obvious predatory features of subprime lending and allowed reckless, exploitative, and fraudulent mortgage finance-related practices to permeate the mortgage market.

The result was nearly 8 million foreclosures since 2007, collapse of home prices of more than 30% nationally, and the near implosion of the U.S. financial system.

This time around, federal policy makers have structured bailout terms for Fannie Mae and Freddie Mac that require that all earnings of the two agencies be “swept” directly into the Treasury. Simultaneously, both agencies are required to wind down their capital reserves (savings needed to cover future losses) to zero by the end of this year.

Ironically, the agencies were taken into federal conservatorship because of inadequate capital reserves.

Treating Fannie Mae and Freddie Mac as two large cash cows for federal spending leaves them financially vulnerable to failure. As late as last Thursday, U.S. Treasury Secretary, Steven Mnuchin clarified the Administration’s position to wait until next year to address the capital levels for those agencies.

Next year, economic events, as simple as sharp, yet relatively short-lived, interest rate fluctuations, could again send these two agencies, hat-in-hand, back to the Treasury for another taxpayer handout.

The FHFA has attempted to limit the impact of losses for the two agencies by requiring both institutions to develop new ways to share risks with investors. Those efforts are promising but will be inadequate to offset the inevitable need for a future bailout if Fannie Mae and Freddie Mac have no capital cushion.

The announcement of another housing bailout for Fannie Mae and Freddie Mac, which manage a combined $5 trillion book of business, could unsettle capital markets, further limit access to mortgage credit, and elicit a new round of politically-motivated attacks against these agencies from Congress.

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Using Fannie Mae and Freddie Mac earnings for federal spending leaves taxpayers exposed to their future losses.

Playing a game of chance with the nation’s housing finance system would benefit neither households nor the economy. Already, the U.S. housing market is significantly under-performing. In spite of a nearly full one-percentage point bounce in the 2nd Q, 2017, homeownership in the U.S. remains near a 50 year low.

The Urban Institute estimates that more than 6 million loan originations are missing from the mortgage markets between 2009 and 2015, due to unnecessarily rigid underwriting requirements that are driven by fears of future housing market losses.

Young adults and people of color are among those households that are finding it particularly difficult to access homeownership. The homeownership rate for Blacks, for example, is  little changed since  since of the passage of the Fair Housing Act of 1968.

Some powerful Members of Congress believe the federal government should not support the mortgage market. Many politicians have argued that losses by the two government housing agencies justify shuttering them.


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