On Sept. 7, 2008, as a substantial breakdown in the American housing market left Fannie Mae and Freddie Mac (the Government-Sponsored Enterprises, or GSEs) in financial trouble, the Federal Housing Finance Agency moved to place the GSEs into conservatorship. Today, more than a decade later, the financial crisis is long over, but the GSEs remain in conservatorship.
The GSEs of today are not the GSEs of 2005. They have undergone significant reforms and play a key role in the secondary mortgage market, which is crucial to providing capital for homeownership. The GSEs buy mortgages, package them into securities, and sell them to investors with a guarantee of timely payment, but their role in the market is much more. Fannie and Freddie set, monitor and enforce standards subject to their regulator for origination, credit, servicing and prepayment for the $5 trillion conventional mortgage market. They also provide the large infrastructure and scale required in the investment markets for interest rate and credit risk, facilitating more competition than would exist without them.
Because of their public mission, the GSEs are tasked with providing affordable mortgage funding to all creditworthy borrowers. Furthermore, during the financial collapse, private capital withdrew from the mortgage market. Without the federal government’s support of the GSEs, borrowers would have faced a private market where mortgage rates were nearly 5 percentage points higher. Simply put, the Great Recession would likely have become a Great Depression.
A Model for the Future
At an event in Washington on Feb. 7, the National Association of REALTORS®(NAR), in collaboration with Susan Wachter, the Albert Sussman Professor of Real Estate Finance at The Wharton School of the University of Pennsylvania, and Richard Cooperstein, head of Risk Management at Andrew Davison and Company, proposed a new system that would leverage reforms made since the crisis with a durable model that protects taxpayers and supports the public mission.
To achieve these goals, the GSEs would be replaced by government-chartered, private utilities that are subject to strong regulation and appropriate capital standards. The new entities will be tasked with a mission to provide stable mortgage funding to all creditworthy borrowers in all markets and in all economic conditions, while retaining a responsibility to underserved borrowers and markets.
To maintain efficiencies and provide capital, the utilities will have stockholders who receive a regulated return that varies based on the quality of their infrastructure investments. The utilities will curate the market for private capital that sits ahead of taxpayers, shifting between debt and equity sources. Thus, private capital would manage the entities’ costs and take losses ahead of taxpayers, while their board would be empowered to advance their mission ahead of profits.
To balance profit-seeking motivations, the utilities would be supervised by a strong regulator, regularly report to Congress on the state of their business and ability to meet their mission, and would be restricted from lobbying on their own behalf. What’s more, they would be required to publish data on various aspects of their business and counterparties. Transparency and an effective regulator will curb risk-taking and inefficiencies.
This vision of a reformed secondary market for housing finance first recognizes the critical role the GSEs play in housing finance—the same need that led to their initial creation. The proposal codifies a structure that is effective, resilient and fair, balancing the tension of private operating companies with the public mission while supporting the availability of long-term, fixed-rate mortgage products (i.e., 30-year fixed-rate mortgage). It builds on what works today and creates a system that will serve Middle America and the nation for decades to come.
For more on NAR’s vision for housing finance reform, please visit www.nar.realtor/fannie-mae-freddie-mac-gses.