Editor: David Reiss
Brooklyn Law School

February 28, 2018

A Fix Already in Place for Housing Finance?

By David Reiss

photo byy George Becker

Executives at Pimco, the world’s largest bond fund manager, have posted U.S. Housing Finance Reform: Why Fix What Isn’t Broken? I think their analysis is interesting, but seriously flawed:

The topic of housing finance reform has come in and out of focus on Capitol Hill since Fannie Mae and Freddie Mac (the government-sponsored enterprises, or GSEs) were taken into conservatorship back in 2008. As one of the largest participants in the mortgage-backed securities (MBS) market, and given our fiduciary role as a steward of other people’s assets, we at PIMCO are devoted to a liquid and stable mortgage market. Not surprisingly, we have taken a keen interest in the various reform proposals introduced over the past several years.

Housing finance reform need not be revolutionary

While we have refrained from commenting on specific plans, we believe housing finance reform must be comprehensive, above all else. And while we agree with a focus on shrinking the government’s role in housing finance, we believe similar attention must be paid to a responsible and thoughtful rebuilding of the private mortgage market – the alternative to the government balance sheet.

When it comes to the GSEs, we think policymakers should take a “do no harm” approach to reform that contains several key elements:

  • An explicit government guarantee for both future and legacy MBS
  • A continuation of the national mortgage rate (e.g., a borrower in Spartanburg, SC, can access a similar mortgage rate to a borrower in San Francisco, CA)
  • A guarantee fee that is counter-cyclical (versus a pro-cyclical, floating fee)
  • A continuation of the GSEs’ current credit risk transfer (CRT) program
  • Loan limits transitioned thoughtfully to be based on income levels, not housing prices

So far, so good. But they continue,

What you do not hear PIMCO calling for is a wholesale change or even an end to the status quo for Fannie Mae and Freddie Mac. Indeed, from our perspective as a large market participant, the delivery of mortgage credit has never been so efficient or so fair, nor has the market for MBS ever been so deep, liquid and stable as it has been during the years that Fannie and Freddie have been under conservatorship. What’s more, the Federal Housing Finance Agency (FHFA)’s heightened oversight has put an end to the pernicious activities that gave rise to the GSEs’ conservatorship – namely, buying subprime private-label securities collateralized by poor-credit-quality loans and putting them on their balance sheets – thereby mitigating the threat they pose to taxpayers.

The authors call for the formal “folding” in of Fannie and Freddie into the U.S. government. This would result in the Ginnie-fication of Fannie and Freddie, converting them to a government instrumentality that would be subject to the whims of the congressional budgetary process. That has not worked out so well for Ginnie Mae which has suffered from antediluvian technology and operational challenges for much of its history. Fannie and Freddie have historically been far more innovative and responsive to changes in market conditions than Ginnie. We should expect to lose those characteristics if the two companies were nationalized.

There is certainly an argument for keeping part of Fannie and Freddie’s existing operations within the federal government. But keeping the whole thing there will cause a new set of problems that we will likely bemoan a few years down the line. This proposal may appear to be a bright idea on first glance, but if you look at it the cracks show right away.

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