WASHINGTON–Rep. Jim Himes, a former investment banker and non-profit housing advocate, probably doesn’t need a primer in mortgage finance issues or a lesson in the political firepower of the finance industry.
But he’s getting a little of both anyway, as Congress dives into a high-stakes debate over how heavy the government’s hand should be in the mortgage market.
The mortgage brokers have bent his ear. So have the Realtors, the small bankers, and advocates for poor communities. “I’m hearing from a lot of people,” said Himes, a 4th District Democrat.
They’re coming to talk to him about the fate of two of the most reviled institutions in Washington–Fannie Mae and Freddie Mac. Those so-called “government-sponsored enterprises,” or GSEs, played a major role in the housing meltdown, and the ensuing economic crisis, that is still gripping the nation.
So far the taxpayers have bailed out these two quasi-government agencies, to the tune of more than $130 billion. Now, Congress is trying to decide how to scale back the federal government’s role in the home-lending market. And Himes, as a member of the Financial Services Committee and an affordable housing expert, is hoping to play a major role in the debate.
The implications will run wide and deep for struggling homeowners, low-income renters, and high-flying Wall Street financiers alike.
Himes notes that, if not done right, an overhaul of Fannie Mae and Freddie Mac could essentially kill the 30-year fixed-rate mortgage, a tool used by millions of Americans to purchase their homes. In its place they would be left with shorter-term, variable-rate loans. Also at risk could be much-needed loans for apartment properties, at a time when the demand for rental units is on the rise because of the foreclosure crisis.
The White House kicked off the debate last month, with a proposal to “wind down” Fannie Mae and Freddie Mac and dramatically scale back the federal government’s role in housing finance.
“Going forward, the government’s primary role should be limited to robust oversight and consumer protection,” with targeted assistance to low-income renters and homeowners, the Obama Administration’s proposal states.
Fannie Mae was created in the 1930s, in the midst of the Great Depression, with the mission of assuring liquidity and affordability in the housing market–thus promoting home ownership and stabilizing that era’s shaky mortgage market. And it, along with its sister outfit, Freddie Mac, were wildly successful–until recently anyway.
The two institutions do not make direct loans to homeowners, but operate in the secondary mortgage market. They buy pools of mortgages made by other lenders, helping to ensure adequate cash flow and low interest rates. The two GSEs issue debt securities, which are attractive to investors because of a government-backed guarantee.
But like other lenders, Fannie Mae and Freddie Mac are for-profit institutions. And during the housing bubble, they made risky bets on sub-prime mortgages, leaving taxpayers foot the bill.
“They made a very substantial contribution to inflating the bubble and a very substantial contribution to the damage of the subsequent bust and collapse” of the housing market, said Alex Pollack, the former CEO of the Federal Home Loan Bank of Chicago and now a mortgage expert at the American Enterprise Institute, a conservative Washington think-tank.
He and others say it’s time to shutter the two institutions and get the government out of the mortgage business. If that means the demise of the 30-year fixed-rate loan, so be it, Pollack said, adding that he’s currently writing an article entitled, “The Dark Side of the 30-Year Fixed-Rate Mortgage.”
“It’s a wonderful mortgage to have when house prices are going up and interest rates are going up,” he said, because homeowners can capture that inflationary value without a penalty. But the opposite is true right now: Housing prices have plummeted, interest rates are low and many people are stuck with little equity in their deflating home’s value, and limited options for refinancing.
More broadly, he says, a big government role in this arena skews the marketplace. “The existence of the [government] guarantee itself induces excesses in lending and borrowing. So the thing you are supposed to be protecting against–an overzealous unsound expansion of credit–you actually help bring into being,” he said.
And government regulators never get the price of that guarantee right when selling to investors, which means taxpayers will continue to be on the hook, Pollack said: “The argument is always ‘We’ll have a fair price and we’ll replicate a market outcome,’ but it’s always under-priced because it’s a political price.”
Himes said there’s no question that Fannie Mae and Freddie Mac engaged in “terribly risky” behavior over the last decade and need to be reined in.
“They went haywire over 10 years. But do we condemn them to death? Or do we examine what caused them to go haywire?” asked Himes, who led the New York City branch of Enterprise Community Partners, an affordable housing group, and served as a commissioner on the Greenwich Housing Authority. “I spent enough time in the housing industry to know that eliminating them altogether would be enormously disruptive to the housing market.”
To be sure, Fannie and Freddie are currently acting as a vital backstop to chaos in the market. As the availability of private capital has tightened during the current crisis, the government is guaranteeing more than nine of every 10 new mortgages.
And for previous generations, Fannie and Freddie “were instrumental in helping to create an American middle class,” Himes noted. “In the 90s, they went crazy in a way that we should avoid them ever doing again. But some pretty critical functions would be impossible if they ceased to exist.”
The Obama Administration has put several options on the table as lawmakers take up this issue.
One proposal is similar to the vision embraced by Pollack and other conservatives, where Fannie and Freddie are closed down, albeit slowly and carefully during a transitional period. They would not be replaced by anything, although some current lending programs, through the Federal Housing Administration and other agencies, would continue to be available to narrow band of low-income borrowers.
Another option is more appealing to Democrats like Himes. It would allow private-sector companies, such as Goldman Sachs or Bank of America, to set up subsidiaries that issue securities-backed pools of mortgages. They could buy a government guarantee for those mortgages, if they met “stringent” capital and underwriting standards.
Himes said this would “create a new entity more like the GSEs of our grandparents’ generation,” and most importantly, it would preserve the 30-year fixed-rate mortgage and keep cash flowing for rehabbing rental properties.
Himes said that, along with other interim steps such as requiring at least a 10 percent down payment for any government-backed loan, are key to any overhaul. He said he also would like to see any legislation include a significant component of debt counseling for new homeowners, which he said can make a dramatic difference in preventing mortgage defaults.
The more fundamental question, he said, is what role the government should play in promoting home ownership.
“There’s no question that at every level and in both parties, we over-incentivized and over-subsidized home ownership,” said Himes. “We created a small class of people who we called homeowners but weren’t… They had no equity. All they had was exposure to a very volatile asset that they couldn’t handle.”
The Administration’s third option, he said, would “dial back that subsidy.” But it shouldn’t be dialed back too far, he argued, because that fundamental goal of promoting home ownership is still a good one.
Whether a major overhaul that would unravel these two mortgage giants will move forward in this Congress is far from clear. The House Financial Services Committee began debate on the issue last month, and Himes said he’s optimistic that the panel’s GOP chairman can craft a bipartisan bill.
But he and others note that the forced arrayed against action are significant. Fannie and Freddie have in previous years deployed powerful lobbyists to stave off tighter oversight. Big banks and small lenders also both have a lot at stake in the fight.
“The industry people are of course very concerned that a ratcheting down of Fannie and Freddie will reduce lending activity and that it will make borrowing more expensive, so there will be fewer mortgages and fewer homes built,” said Sheila Crowley, president of the National Low Income Housing Coalition. “They want a market that’s extremely active, since action is where the money is.”
At the same time, the White House’s range of proposals has gotten a positive reception on Capitol Hill and off. The Mortgage Bankers Association, for example, has applauded the Administration’s plan for a private market backed by with government “reinsurance.”
“It’s hard to tell how far they will get during this Congress, but in our meetings we have seen an eagerness by some parties to get to ball rolling,” said John Mechem, a spokesman for the mortgage group.