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<< Untangle continued from Page 58 “A healthy system for securitizing 30-year
fixed-rate mortgages is necessary to provide
homeowners with predictable, manageable
way they were prior to the 2008 financial crisis. The latter is the best choice.
The way ahead
The Treasury should end the conservatorship, return ownership of the GSEs
to the prior shareholders and add additional shareholders as providers of
capital. Treasury would then need to
acknowledge an explicit guarantee of
the securities issued by the GSEs.
Treasury also would have to give
back to the GSEs a portion of the profits it has collected that have exceeded
the GSEs’ losses and also create a sizable contingency fund to cover potential future losses. This could be achieved
by directing the current high guarantee
fees into a loss-reserve fund. The guarantee fees could be reduced when the
loss reserve is sufficiently capitalized.
The most important practical effect
of mortgage securitization is that it
allows for the 30-year fixed-rate mortgage. If there were no securitization
system in place, these loans would
have to be adjustable-rate mortgages
(ARM) or have balloon payments.
Before 1930, most mortgages had
balloon payments. In the early part of
the 20th century, getting a mortgage
usually required a 50 percent downpayment. The Federal Housing Administration (FHA) was created after the Great
Depression. FHA then started backing
15- and 30-year fixed-rate mortgages.
When the rate for a 30-year fixed-rate
mortgage rose to more than 20 percent
in the early 1980s, ARMs were created.
The mortgage industry exists to help
cash-strapped folks finance the purchase
of a home and become homeowners.
A healthy system for securitizing 30-year
fixed-rate mortgages is necessary to
provide homeowners with predictable,
manageable monthly payments until the
mortgage is paid off. That’s important
for the mortgage-origination business.
Restoration of the GSEs to their pre-
2008 state appears to be the best way
to achieve this. In addition, it is necessary that nothing causes the GSEs to
relax their lending standards with
respect to underwriting criteria. This
includes credit scores, debt ratios and
If there really were no backing by the
government, mortgage rates would be
higher because investors buying paper
with an explicit non-guarantee from
Treasury would want higher yields to
offset the risk. A serious backlash would
likely ensue if the government then had
to step in once again to bail out entities that did not have an explicit government guarantee — an Occupy Wall
The final approach to the GSE dilem-
ma is setting the stage for their slow
death. That would be phasing the GSEs
out by slowly decreasing the conform-
ing loan limit. That would be the same
as ending them entirely, but in slow
motion. The upside is this could give
the banking system time to find ways
to securitize mortgages on their own.
Again, the downside is the banks would
not have to do this and might simply
generate fewer mortgages.
When all is said and done, only two of
these GSE-reform options would likely
work. These are the leave-as-is option
or the option of restoring them to the