Apache is functioning normally

Last week, I submitted a very brief comment letter on the Biden administration’s proposal to allow Freddie Mac to start purchasing second mortgages. It makes the very narrow point that the proposal doesn’t address safety and soundness, a legal requirement enacted by the Housing and Economic Recovery Act of 2008.

That flaw should disqualify the proposal on technical grounds, but the proposal is terrible housing finance policy even if it meets all the legal requirements.

Like most federal housing finance policies enacted during the last few decades, this one will do nothing to increase home ownership or to make housing more affordable. If anything, it will increase Americans’ debt levels and put upward pressure on prices (not just housing prices).

If policymakers want to make housing more affordable, they must do something very different: Start shrinking the federal government’s role in housing finance. That approach, of course, would be the polar opposite of the direction taken during the last few decades.

In 1990, Fannie’s and Freddie’s combined share of outstanding residential mortgage debt was just 25.7 percent. But that share soon started climbing, and by 2010 it was up to 47 percent, where it remains. (For a reminder: Both GSEs are still under government conservatorship because they imploded in 2008.)

Separately, in 2023, the Federal Housing Administration insured 16 percent of the single family mortgage market (see table 3). Combined with Fannie and Freddie, that’s a federal share of 63 percent.

In the secondary mortgage market, privately issued mortgage-backed securities are practically an imperceptible share of the total, and that’s not a new occurrence. From 2009 to 2023, the combined federal share (Fannie, Freddie, and Ginnie Mae) of the MBS market averaged 93 percent per year.

One interesting problem with this arrangement is that it violates the spirit of how and why Congress set up Fannie and Freddie. These GSEs were not supposed to dominate the market, and Congress said so. Fannie’s and Freddie’s charters require “the volume of the Corporation’s lending activities” to be small enough to “reasonably prevent excessive use of the Corporation’s facilities.”

Nobody in the administration (or Congress) seems to care, but the FHFA has never promulgated a rule so that it might enforce this excessive use provision. The current lack of enforcement is bad enough, but the new proposal explicitly authorizes Freddie to purchase even more mortgages.

Even in the absence of the excessive use provisions, it would be hard to defend this new proposal on the grounds that it might help increase homeownership. In fact, it’s so difficult that the FHFA isn’t even trying. Instead, the proposal explicitly states “the primary goal of this proposed new product is to provide borrowers a lower cost alternative to a cash-out refinance in higher interest rate environments.”

So now the express purpose of the GSEs is to help homeowners take on even more debt, above and beyond what they need to purchase a home.

The FHFA will insist that the new proposal is in the public interest, but the proposal should be disqualified on that basis for several reasons.

First, private markets do provide home equity lines of credit. In 2023, they provided almost $370 billion. There is no natural market barrier to overcome, and if the MBS market is any indication, the new program will stifle competition.

And if the product does spur additional low equity debt for underserved markets, that means federal policies are saddling the most vulnerable borrowers with higher debt, putting any equity they have managed to build up at even further risk. And, of course, the more successful this program becomes, the more risk it poses to the overall financial system.

Obviously, none of this is very surprising coming from the Biden administration, especially given its recent proposal to make housing more affordable with yet more subsidies. Chances are, though, that an administration from either political party would have introduced the same new proposal for Freddie and pitched it as a way to increase competition and make homes more affordable.

The truth is housing will always be somewhat supply constrained, depending on the location, and many of the reforms that can ease those constraints and improve affordability have to occur at the state and local level. If federal policymakers want to make housing more affordable, they must pare back federal subsidies of all kinds.

One very easy place to start is by enforcing the excessive use provisions in the GSEs’ charters. Another is to restrict the GSEs to buying only primary mortgages for owner-occupied homes. These should be the lowest hanging fruit for policy reform.

Source: forbes.com