The Obama Administration released this morning its long-awaited proposal—or proposals, as it turns out—for the future of government-sponsored mortgage finance. While emphasizing that changes will be implemented gradually to mitigate the risk to the housing market, the administration called for a substantial reduction in the government’s role in the mortgage market, beginning with the winding down of Fannie Mae and Freddie Mac, and selling off their investment portfolios in 10 years or less.
The proposal outlines three possible plans for what could take the place of the GSEs, all of which offer some degree of government involvement but at varying levels.
Speaking at a Brookings Institution conference on restructuring the mortgage market this morning, Treasury Secretary Timothy Geithner made the case for a gradual overall reduction of a federal presence with a continued role for FHA.
"It's untenable for the government to play no role" in the mortgage market, Geithner said. But it's also unreasonable, he said, to suggest that "the government continue to insure 90 percent of the market."
Under the first plan, the government’s role in supporting homeownership would be limited to focusing on creditworthy borrowers with low- to moderate-income levels, leaving the vast majority of housing finance to private lenders. While this option would dramatically reduce taxpayer exposure, the report acknowledges that the plan would have a large impact on affordability.
“In particular it may be more difficult for many Americans to afford the traditional pre-payable, 30-year fixed-rate mortgage,” the report concedes. “Additionally, smaller lenders and community banks could have a difficult time competing for business outside of the FHA segment of the market.”
The second option would keep the government’s involvement reduced and focused on low- and moderate-income buyers, but would also provide a government backstop that “would be ready to scale up to a larger share of the market as private capital withdraws in times of financial stress,” the report says.
Under the third option, the government would offer reinsurance for securities of a targeted range of mortgages. Private mortgage guarantors would guarantee the mortgage-backed securities under tight oversight requirements and with strict underwriting standards. The government would offer securities holders reinsurance “which would be paid out only if shareholders of the private mortgage guarantors have been entirely wiped out,” the Treasury explains.
The government would charge a premium for the reinsurance, which would cover future claims and losses.
While exposing taxpayers to greater risks and increasing the chance of artificially inflating home prices, this plan also offers the best hope for the availability and affordability of the 30-year fixed-rate mortgage.
After congressional debate, Geithner said, "we'll provide our views on what makes most sense." Comparing the administration's report to a map for driving west, he said a final decision will be made "somewhere around Salt Lake City.”
In putting forward three plans, the administration likely hopes to quell an uproar from the most conservative Republicans, who have previously called for the government’s complete exit from housing finance.
“The administration sees a lot of advantage in not stepping out strongly in one particular path because House Republicans will view that as an easy target,” said Michael Barr, who until recently served as assistant Treasury secretary for financial institutions, in an interview with The New York Times. “If you lay out a bunch of options, you preserve the ability to have a conversation where after a long period of time you achieve a consensus outcome.”
In addition to outlining the options for replacement of the GSEs, the administration’s white paper, titled “Reforming America’s Housing Finance Market: A Report to Congress,” also listed a series of steps to further reduce the government’s role in mortgage finance.
The steps include reducing the FHA’s maximum loan limit, first when the current limit increases expire on Oct. 1, 2011, with the possibility of further reductions in the future. They also include increasing the price of mortgage insurance at FHA as well as the price on guarantees at Fannie and Freddie.
In addition, the plan recommends gradually phasing in increased down payments on mortgages Fannie and Freddie guarantee until at least a 10% down payment is required. And it proposes support for more affordable rental housing.
Speaking about past policy, Geithner denounced the overactive role the government has taken in promoting homeownership. "It's absolutely the case that the government provided too much support for housing,” he said. “Absolutely the government did too much. And what it did, it did too poorly."
He added that too much of the assistance has been directed at homeowners instead of renters. "We think there was a fundamental unfairness to this," he said. He admitted that given fiscal constraints it would be "hard to sell" a new affordable housing program. But he said the government "can absolutely afford" to commit to a system of assistance to low- and moderate-income renters.
Geithner emphasized that now is the time for GSE reform, winding down Freddie and Fannie over the next several years to give the government time to put proper safeguards in place. "You don't want the process of repair to wait until housing has recovered. You want to do this now."
Claire Easley is senior editor, online, at Builder. Editorial director Boyce Thompson contributed reporting to this article.