What a new plan for GSE reform could mean for borrowers
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There's been a lot of talk about getting Fannie Mae and Freddie Mac out of conservatorship, although that could change now that President Joe Biden is in the White House. However, Biden's presidency does not necessarily mean that reform for the government-sponsored enterprises is entirely out of the cards.
GSE Reform Options For The Biden Administration
Here are some options the Biden administration might consider when it comes to GSE reform and what they would mean for mortgage borrowers.
Brookings Institution View
In late February, the Brookings Institution issued a report about inequalities in the housing industry and identified Fannie Mae and Freddie Mac as possible tools to fix the problem. Authors Michal Calhoun of the Center for Responsible Lending and Lewis Ranieri of Ranieri Solutions noted that the GSEs had played a significant role in the housing market.
They provide financing to lenders for almost 50% of current mortgages in the U.S. by purchasing them from lenders, packaging them, and then selling them to investors. This process makes mortgages more affordable for a broader range of Americans and more available across the U.S.
Fannie and Freddie have been in conservatorship under the purview of the Federal Housing Finance Agency for more than a decade. They were placed in conservatorship as part of a bailout, in which the federal government injected billions of dollars. In exchange, the government confiscated the dividends that had been paid to preferred shareholders, illegally, as many lawsuits argue.
Keeping Value In The Housing Industry
The government could be forced to pay those dividends back, but the Brookings Institution argues that the money should be poured back into the housing industry. Specifically, Calhoun and Ranieri target the $48 billion to $98 billion in stock interests in the GSEs, as estimated by the Congressional Budget Office. Since the value of those assets come from fees collected on GSE loans, they argue that the money should remain in the housing market to advance affordable housing.
The Brookings authors say the government should exchange its stock interests in Fannie and Freddie for a comparable commitment by them of additional measures for affordable housing. They also think the GSEs should provide a "restorative justice housing program that provides a targeted down payment and other assistance aimed at closing the racial homeownership gap."
Calhoun and Ranieri note that one of the primary purposes of Fannie Mae and Freddie Mac is to advance affordable housing. Although they have kept their affordable housing programs, the authors argue that conservatorship has restrained them. The Brookings authors note that the GSEs have been operating at limited capital at a time when the nation needed increased support of affordable housing from them.
How The Idea Could Work
They suggest that the value of the stock interests be placed in an independent affordable housing entity within the GSEs. The FHFA would oversee the entity and approve its board members, and the Treasury could waive the stock interests. The GSEs could then be required to place an equivalent amount of stock money or obligation into the housing entity.
Calhoun and Ranieri suggest that housing assistance under the program could be implemented like the process used by the Federal Home Loan Banks under their affordable housing program. The banks direct money to other entities for affordable housing programs instead of operating the programs themselves.
The Brookings authors believe the aid should be targeted at homeownership and reduce the racial homeownership gap through down payment assistance. They suggest that the programs should include a fund for black families and others "excluded from homeownership by previous discriminatory federal housing policies."
Calhoun and Ranieri argue that the U.S. faces a wide-ranging affordable housing crisis that has worsened during the COVID pandemic. They note that significant progress was made during the 1990s to increase the percentage of all families owning their homes, including families of color. However, the Great Recession erased those gains as homeownership fell to its lowest level in decades.
A Big Problem With This Idea
One thing the Brookings authors do not take into consideration is the legislation involving Fannie Mae and Freddie Mac. Holders of their preferred shares sued the federal government over their dividend payments, which they say were taken illegally. The Supreme Court has yet to rule on the issue, but it is widely expected that the justices will side with shareholders.
If that happens, it would mean the government would no longer be receiving the dividend payments this program would depend on. The Brookings authors ignore the fact that the government took personal property without compensating the owners.
It's unclear whether the government will be ordered to return some or all of the money it confiscated. A lot is hanging on the Supreme Court case, so the Biden administration would do well to hold any major decisions until the decision has been issued.
Following A Utility Structure For The GSEs
The Brookings authors also suggest something else that has been offered before. Calhoun and Ranieri believe a utility structure should be adopted for Fannie Mae and Freddie Mac. They note that when the FHFA took control of the GSEs when they entered conservatorship, it operated them as "de facto utilities."
Fannie's and Freddie's retained portfolios were reduced to necessary business purposes instead of arbitrage and shrunk to 25% of their previous level. The FHFA prohibited volume discounts that favored larger lenders. Calhoun and Ranieri note that guarantee fees were set based on robust capital levels and structured to cut costs for lower-wealth borrowers. The GSEs transferred a lot of their credit risk to third parties to reduce the chances of another taxpayer bailout.
The National Association of Realtors supports the idea of a utility structure for Fannie Mae and Freddie Mac. The idea has the GSEs operating as regulated monopolies similar to electric companies.
What This All Could Mean For Borrowers
If the Biden administration adopts the Brookings idea and the Supreme Court allows the government to keep the dividends, it would mean increased access to mortgages for the lower-income population. However, for all of this to work, the GSEs will have to secure reliable investors, which they can't do under their current conservatorship structure. The linchpin is the dividends the government has confiscated.
Fannie Mae and Freddie Mac have been providing the backing for mortgages under the radar for many years, and most homeowners don't even realize they exist. Many of those whose mortgages are owned by Fannie or Freddie don't even know.
If the Brookings Institution influences the Biden administration and convinces officials to make these changes, it would be good for lower-wealth borrowers. More people would be able to afford homes. However, much more work needs to be done before it can be determined that the plan will actually work.