Fannie and Freddie Light?

March 1, 2013 at 7:48 am Leave a comment

imagesCAV2T9RE I have some good news this morning.  Freddie Mac posted an $11 billion profit in 2012, its first profit since 2006.  This is the best indication I have yet seen that the housing market really has stabilized.  Now if only we could get Washington to get its act together, we could actually see some real economic growth in this country, but that’s a blog for another day.

The announcement of GSE profitability comes the same week as a bipartisan group of prominent housing experts and politicians released a report outlining their vision for a post Fannie and Freddie world.  With the CFPB coming out with its final mortgage regulations and Jeb Hensarling, the new head of the House Financial Services Committee, making housing reform a top priority, we are moving ever closer to delving into the nitty-gritty of what this world might look like.  The Commission’s report may very well provide the primary framework for when the discussion starts getting serious.

This is the conundrum.  On the one hand, Fannie and Freddie are absolutely vital to the American housing system.  They provide the primary means that most credit unions and banks have of getting their mortgages off their balance sheet, indirectly making everyone’s mortgage cheaper and spreading the risk of mortgage failures.  They do this by bundling many, if not all, of the mortgages they receive into mortgage-backed securities.  They guarantee investors against the failure of such securities by charging guarantee fees in return for purchasing the mortgages.  We all know now that there were more foreclosures than the GSEs could protect themselves from and that when the government took over the GSEs it covered the cost of guaranteeing the outstanding securities, bailing out investors and keeping the American housing market from freezing up completely, but ending any pretense that our housing market is a free market.

Under the Commission’s plan, a convenient chart of which is available on page 58 of the report, the role that Fannie and Freddie play in guaranteeing and securitizing mortgage-backed securities would be replaced by a public guarantee corporation.  The corporation would approve companies for issuing mortgage-backed securities and establish the baseline criteria that would have to be met in order for it to issue mortgage-backed securities.  Instead of mortgages being insured against default through guarantee fees, private insurers would take on the primary responsibility for insuring against the default of these securities with the government stepping in to provide catastrophic insurance against default when and if it came to that.

In theory, the system would provide many of the current benefits provided by Fannie Mae and Freddie Mac while ensuring that private entities take on more of the risk associated with securitization.  In the generic parlance of the politician who doesn’t want to say whether or not he likes an idea, the Commission’s proposal is an idea worth considering.  First, the Commission stressed that any system has to ensure that credit unions have continued access to the secondary market.  Second, the system envisioned by the Commission might provide a mechanism for credit unions to get more directly involved in the securitization process by giving them a public platform through which to issue and bundle their own securities.

Now for the risks.  By getting more private money into the system, the cost of mortgages will go up.  The question is by how much.   At the end of the day, in spite of the Commission’s recommendation that there be a single securitization platform, banks won’t be kept from creating their own securitized pools of mortgages.  We could end up with a two-tiered system where the largest banks work together to more cheaply finance mortgages while credit unions are placed at a structural cost disadvantage.  Remember, whether you love or hate Fannie Mae or Freddie Mac, by aggressively moving into the subprime market, they ensured that the largest banks had competition that simply would not have been there otherwise.  Finally, it is absolutely crucial that whatever public institution is set up to sign off on mortgage-backed securities it is insulated from policy makers.  Fannie Mae and Freddie Mac were justifiably criticized for being too sensitive to Washington’s political class.  It seems to me that this problem could be exacerbated under a government guaranteed public entity.

Enjoy your first weekend of the Sequester.  See you on Monday.

Entry filed under: Advocacy, Compliance, Economy, Regulatory. Tags: , , , .

State Pressures Banks to Release Insurance Proceeds “Doomsday Machine” Politics Hurt Credit Unions

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Authored By:

Henry Meier, Esq., General Counsel, New York Credit Union Association.

The views Henry expresses are Henry’s alone and do not necessarily reflect the views of the Association.

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