hat are the possible solutions for untangling the GSEs from the federal
government? One would be to get rid of the GSEs
entirely and let banks find a way to securitize the
mortgages they originate. Another would be to dissolve Fannie and Freddie and replace them with a
group of private entities that would securitize mortgages much in the manner as the GSEs do currently.
The federal government could leave them as is,
under control of the U.S. Treasury Department, with
taxpayers either benefiting from the profits or covering the losses. Another option would be to privatize the GSEs with explicit backing from Treasury. Or,
the GSEs could be privatized with no explicit backing from Treasury. Another option would be to keep
them under Treasury, but wind them down slowly
by steadily decreasing the size of their portfolio of
The GSEs bankroll around 45 percent of all residential mortgages. It serves mortgage originators
well to understand the pros and cons of each potential path forward when it comes to GSE reform.
End, replace or status quo
Let’s take a look at ending the GSEs entirely. This
appeals to those who believe that the government
and taxpayers should not be involved in the homebuying process. It works for jumbo mortgages.
Having more than two entities securitize conforming mortgages might lead to more competition
and lower rates.
The downside is that banks may not step up to
securitize loans. These institutions might decide
that the reward (profit) is not worth the risk, both
financially and reputationally. Some banks have
suffered substantial reputational damage from
making mortgages. Additionally, having each bank
do its own thing creates a number of places where
things could go wrong.
What about replacing the GSEs
with a larger set of private entities?
This enables the securitization of mortgages.
Having more entities do this could create price
competition and benefit borrowers.
This solution has its own problems. In order to
attract investors and ensure an attractive price for
these securities, they would have to be guaranteed
by a government-sponsored entity such as Ginnie
Mae. Each of these private entities also would have
to be capitalized separately and regulated. Replacing the existing GSEs with several private entities,
then, creates multiple possible points of failure, and
the securities they issue would still be guaranteed
Then there is the argument for leaving the situation as it is. This is working and uses the reliable
infrastructure and guidelines created over many
years. Having two entities provides a measure of
choice and price competition. Investors who buy
their paper do so with confidence because it is guaranteed by Treasury.
Being controlled by Treasury, however, means
that the GSEs are subject to political whims. Part of
the reason Freddie and Fannie were put in conservatorship to begin with was because they made too
many bad loans. It was the Department of Housing
and Urban Development (HUD) that mandated the
GSEs loosen their lending guidelines, however.
When politics trumps fiscal responsibility, disaster
can ensue. This also is counter to what FHFA nominee Calabria says the administration wants to do.
To back or not
Another option would be to privatize the GSEs
with explicit backing from Treasury. Before 2008,
Freddie and Fannie were owned and controlled by
stockholders. They were private entities, but had
public aspects. They were regulated by HUD. They
had guaranteed credit lines from Treasury, and their
paper, while not having an explicit guarantee from
the federal government, was assumed to be backed
by Treasury. (That was an assumption that proved
to be correct in the wake of the financial crisis some
10 years ago.)
By 2007, Fannie and Freddie were required by
HUD to show that 55 percent of their mortgage
purchases involved loans to borrowers with low to
moderate incomes. Moreover, 38 percent of all purchases had to be from underserved areas, usually
inner cities, and 25 percent had to involve purchases
of loans that had been made to low-income and very
After the crash, Freddie and Fannie lost $187
billion, which was covered by Treasury. After they
were put into conservatorship, the GSEs worked to
get their house in order and also raised their guarantee fees. Treasury has since recouped the entire
$187 billion in losses — and nearly $100 billion
more. In essence, everyone who has gotten a loan
since 2011 is paying in the form of an increased
interest rate or upfront points for the GSE losses
and is now making money for Treasury.
Privatizing the GSEs would necessitate a legal
settlement with the prior shareholders of Fannie
and Freddie who feel that they are due some of
the profits being paid to Treasury. This is a legal
issue not a mortgage issue.
This approach — privatizing the GSEs with an
explicit government backing — would essentially
put things back to the way they were before
September 2008. This gets rid of the awkward
conservatorship relationship between the GSEs
and Treasury. At present, the GSEs are cash cows
for Treasury. In a sense, they are socialist entities
in an otherwise capitalist economy.
Another option would be to privatize the GSEs
with no explicit backing from Treasury. Under this
approach, taxpayers are not legally on the hook
for any losses. If losses were substantial, however,
Treasury would likely have to step in anyway.
Dick Lepre is senior loan adviser for RPM Mortgage of Alamo, California, a
division of LendUS. He has been in the mortgage business since 1992 and
has been writing a weekly e-mail newsletter on macroeconomics, mortgages and housing
since 1995. Lepre (NMLS #302379) is from New York City, but he has lived in the San Francisco
Bay Area since 1968. He has a degree in physics from Notre Dame. Follow him on Twitter
@dicklepre. Reach him at (415) 244-9383 or email@example.com.
LendUS, LLC — NMLS No. 1938. Licensed by the Department of Business Oversight under
the CA Residential Mortgage Lending Act. Equal Housing Opportunity.
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