Home Politics Mnuchin Adopts Good Starting Points on Fannie Mae Reform

Mnuchin Adopts Good Starting Points on Fannie Mae Reform

When you purchase through our sponsored links, we may earn a commission. By using this website you agree to our T&Cs.

From the Wall Street Journal’s CEO Council annual forum, a two day event where the world’s most ambitious leaders connect, came a tweet from the WSJ Capital Journal account which amplified remarks from Treasury Secretary Steven Mnuchin:- “We do want to preserve the 30-year mortgage.. and we don’t want to put taxpayers at risk. Those are the two starting points on GSE reform.”

Those are good starting points. With no risk of presumptuousness, this indicates the Trump Administration is very unlikely to propose completely doing away with the government-sponsored enterprises, Fannie Mae and Freddie Mac. In addition, GSE reform will almost certainly include the restoration of adequate capital reserves. That is the only way to protect taxpayers from having to make up for possible shortfalls at the GSEs or bailing them out in the next broader market crisis.

It has been nearly one year since then Treasury Secretary-designate Mnuchin told Fox Business Network, “We’ve got to get Fannie and Freddie out of government ownership.” It makes no sense that these are owned by the government and have been controlled by the government for as long as they have.” Mnuchin was most likely signaling that ending Fannie and Freddie’s captivity in a government-run conservatorship was necessary. Only a wild logical leap would allow one to conclude he was announcing a dramatic departure from 80 years of federal housing finance policy.

It is widely acknowledged that the existence of Fannie and Freddie during these many years has helped make the 30-year-fixed-rate mortgage a popular and successful finance product. The very idea of the “American Dream” is inextricably linked to a stable secondary mortgage market sustained through countercyclical liquidity, which the GSEs played a major role in creating and sustaining.  Only a handful of countries offer such a pathway to homeownership.  The United States has long embraced the idea that homeownership promotes the accumulation of wealth that can be passed on to future generations and helps build strong communities. Working Americans would justifiably feel betrayed if the Trump Administration and Congress put home ownership out of reach for millions of people.

Nearly three years ago, when it looked as though Washington policymakers were zeroing in on ways to dismantle Fannie and Freddie, bank analyst Dick Bove, told The Street that taking two of the biggest buyers of 30-year mortgages out of the equation would almost certainly limit housing finance options for working Americans. He said banks are eager to offer loans but mostly for much shorter durations — between five and 10 years. The story noted that lending experts predicted dismantling Fannie and Freddie would mean higher finance costs, “driving the American Dream even further out of reach of lower- and middle-class consumers.”

Earlier this year, a research note published by Kroll Bond Rating Agency, in response to Mnuchin’s comments from last November, explained how Fannie and Freddie help mortgage lending. First, the superior credit standing of the U.S. government helps support the sale of securities secured by one in four family home loans and then also act as guarantor for these mortgage securities, taking the first-loss credit risk on the underlying loans. “By guaranteeing the credit risk, the GSEs make it easier for the bond market to deal with the long and variable duration risk of a 30-year mortgage,” KBRA said. In addition, the implicit governmental guarantee of the GSEs’ mortgage backed securities enables a “to be announced” (TBA), market to help with the efficient management of interest rate risk. In short, without the GSEs the TBA market would cease to exist and homebuyers would pay the price through higher interest rates.

“Today, commercial banks account for just half of the $10 trillion US mortgage market while non-banks account for the rest of the annual production of new loans,” the analysis said. “With no forward TBA market to hedge interest rate risk, non-banks would be marginalized and only commercial banks could hold 1-4 family mortgages, either for portfolio or sale. Banks would see a substantial increase in cost.”

Even critics of a government role in home finance policy have been hard pressed to prove that home finance would be as accessible without Fannie and Freddie.  The 2011 book, “Guaranteed to Fail: Fannie Mae, Freddie Mac, and the Debacle of Mortgage Finance” was highly critical of the financial risk taking and political agendas that put Fannie and Freddie in peril leading up to the 2008 financial crisis and envisioned a GSE-free mortgage marketplace. However, the authors had to acknowledge, “Without well-developed secondary markets for mortgages, it is hard to sustain this mortgage product…To the extent that U.S. households have come to know and love this product, any GSE reform should consider the importance of maintaining a strong securitization market so as to preserve the availability of a long-term fixed-rate mortgage product.” If GSEs had to be preserved, they recommended the “boring public utility model” that has gained some traction in recent years.

The second element of the tweet – protection for taxpayers – can be achieved in part by locking in reforms that have been implemented in recent years to shrink the GSEs’ portfolios, create a larger role for private sector players, and tighten up lending and securitization standards. Additional reforms will be needed. Regardless, the only way to truly protect taxpayers is to make sure there are adequate capital buffers at Fannie and Freddie. With the Net Worth Sweep whittling the GSEs’ capital to zero over the next five weeks, the day of reckoning Federal Housing Finance Administration Director Mel Watt has long warned about could arrive sooner than later. At that point, it might become clearer how Washington plans to serve aspiring homebuyers and taxpayers in the years to come.

Our Editorial Standards

At ValueWalk, we’re committed to providing accurate, research-backed information. Our editors go above and beyond to ensure our content is trustworthy and transparent.

Dividends

The Top Vanguard ETFs for Dividends

With concerns over market choppiness, investors can find good values in these excellent dividend ETFs. Dividend stocks and exchange-traded funds, or ETFs, are more popular investments when markets are volatile,...

Want Financial Guidance Sent Straight to You?

  • Pop your email in the box, and you'll receive bi-weekly emails from ValueWalk.
  • We never send spam — only the latest financial news and guides to help you take charge of your financial future.