{"id":3477,"date":"2011-02-12T04:25:51","date_gmt":"2011-02-12T11:25:51","guid":{"rendered":"http:\/\/www.jasonapollovoss.local\/?p=3477"},"modified":"2018-09-21T02:08:11","modified_gmt":"2018-09-21T06:08:11","slug":"the-world-post-fannie-mae-and-freddie-mac-part-one","status":"publish","type":"post","link":"https:\/\/jasonapollovoss.com\/web\/2011\/02\/12\/the-world-post-fannie-mae-and-freddie-mac-part-one\/","title":{"rendered":"The world post Fannie Mae and Freddie Mac, part one"},"content":{"rendered":"

Yesterday in a white paper entitled “Reforming America’s Housing Finance Market<\/a>” the Obama Administration dared to consider the end of the sacrosanct real estate mortgage institutions of Fannie Mae and Freddie Mac.<\/span><\/p>\n

 <\/p>\n

In part one of a two part “What My Intuition Tells Me Now” blog piece I will review the importance of Fannie Mae and Freddie Mac, as well as consider the proposed changes outlined in the white paper.\u00a0 In part two I will talk about the world post Fannie Mae and Freddie Mac.<\/span><\/p>\n

 <\/p>\n

In case you are unfamiliar with these two institutions, known as government sponsored enterprises (GSEs), they were created by Federal government mandate to ostensibly underwrite (i.e. backstop) mortgages in the United States.\u00a0 The idea was that with the imprimatur of the backing of the Federal government behind your mortgage that lending institutions would be more willing to lend to borrowers who otherwise would not qualify for a mortgage.\u00a0 These two GSEs were spectacularly successful during their history in creating a secondary market for mortgages – creating vast liquidity for lending institutions.<\/span><\/p>\n

 <\/p>\n

Freddie Mac, technically known as Federal Home Loan Mortgage Corporation (FHLMC), was created in 1970 to expand the market for mortgages.\u00a0 Freddie buys mortgages, packages them together, and then sells them as (now notorious) mortgage-backed securities.<\/span><\/p>\n

 <\/p>\n

Fannie Mae, technically known as Federal National Mortgage Association (FNMA), was created in 1938 as a part of President Franklin Roosevelt’s New Deal legislation.\u00a0 However, in 1968 the U.S. Congress chartered Fannie to also create mortgage-backed securities.<\/span><\/p>\n

 <\/p>\n

In 1968, when Fannie Mae was given its new charter home ownership in the United States stood at 63.9% of the U.S. population.\u00a0 According to the U.S. Census Beureau, as of the end of 2009 (the last year for which data is available) home ownership was at 67.4%<\/a>.\u00a0 So despite Fannie Mae and Freddie Mac acting as one of the largest subsidies in the history of the United States, home ownership rates barely changed in the 40+ year history.<\/span><\/p>\n

 <\/p>\n

Not only that, but the two institutions were also at the heart of the creation of the real estate bubble whose popping led to the Great Recession.\u00a0 Even worse, once the value of real estate declined with high velocity the Federal Government had to step in to prop up the two institutions.\u00a0 So far, according to the Wall Street Jounral, taxpayers are on the hook for $134 billion<\/a>!\u00a0 Thus, it is no wonder that the two institutions are in the midst of an existential crisis.<\/span><\/p>\n

 <\/p>\n

In fact, the two GSEs have long been criticized by economists, politicians and financial industry folks.\u00a0 While it may seem a no-brainer to eliminate the two institutions, they have been considered sacred for several generations.\u00a0 In fact, last year the two institutions were responsible for underwriting 9 in 10 new mortgages.\u00a0 Thus aiding the economic recovery.\u00a0 So the dissolution of Fannie Mae and Freddie Mac is something that will be carefully considered.<\/span><\/p>\n

 <\/p>\n

What will the world look like post Fannie Mae and Freddie Mac?<\/span><\/p>\n

 <\/p>\n

The Obama Administration is proposing three options for phasing into a post-Fannie\/Freddie world.\u00a0 Here are some of the details about the three options:<\/span><\/p>\n

 <\/p>\n

    \n
  1. A new plan that would backstop qualifying mortgages under a Federal reinsurance model<\/span><\/li>\n
  2. A more limited backstop that would only scale up in times of economic crisis<\/span><\/li>\n
  3. An ending of Federal mortgage guarantees beyond already extant governmental agencies, such as the Federal Housing Administration<\/span><\/li>\n<\/ol>\n

     <\/p>\n

    In the Obama Administration’s white paper a gradual increase in the percentage down payment required in order to qualify for Fannie and Freddie backing was proposed.\u00a0 Specifically, the two mortgage giants could only purchase loans where at least a 10% down payment was in place.\u00a0 Right now borrowers can qualify for Fannie and Freddie backing even if they have less than a 10% down payment if they purchase mortgage insurance.<\/span><\/p>\n

     <\/p>\n

    Another suggested change is an increase in the fees that Fannie and Freddie would charge lending institutions.<\/span><\/p>\n

     <\/p>\n

    Reform is also put forth in the form of the two institutions lowering the maximum loan size that the two GSEs can purchase from lenders.\u00a0 Right now the maximum amount of a mortgage is $729,750.\u00a0 The white paper makes the recommendation of lowering the size to $625,000.<\/span><\/p>\n

     <\/p>\n

    Each of these suggested changes is clearly meant to lower the risk in the mortgage markets.\u00a0 This makes sense since the market for mortgages is worth a staggering $10.6 trillion!\u00a0 Fortunately, the white paper also has undertaken reform of other Federal institutions, not just Fannie Mae and Freddie Mac.<\/span><\/p>\n

     <\/p>\n

    Specifically, the paper proposes an increase in the mortgage insurance fees borrowers will pay to support the Federal Housing Administration (FHA).\u00a0 You may know that the FHA ensures that lenders don’t go bankrupt.<\/span><\/p>\n

     <\/p>\n

    The last major detail of the white paper is that the Obama Administration wants to consolidate under a single umbrella the various federal government institutions that oversee mortgages and lending.\u00a0 This would simplify regulations and regulating.\u00a0 Clearly a good idea, unless you are a federal government technocrat worried about your piece of the power pie.<\/span><\/p>\n

     <\/p>\n

    But the Obama Administration goes even further and wants to also reform banking, in general.<\/span><\/p>\n

     <\/p>\n

    For example, the Administration also advises requiring lending institutions to hold more capital (i.e. equity; i.e. have more “skin in the game”) to protect against further home price declines.\u00a0 And thankfully, the white paper also calls on banks to have more conservative underwriting standards.<\/span><\/p>\n

     <\/p>\n

    Clearly Fannie Mae and Freddie Mac are integral to the functioning of a goodly chunk of the United States’ economy.\u00a0 However, it has long been argued, and I think convincingly, that the two institutions actually contribute to the overall risk of the mortgage market, as opposed to lowering it.<\/span><\/p>\n

     <\/p>\n

    The reason is that a disproportionate share of mortgages have the implied backing of the Federal government in the form of Fannie Mae and Freddie Mac, not to mention the FHA.\u00a0 Consequently, the price of taking on risks in underwriting the mortgages is lowered.\u00a0 That means that underwriting standards are very likely lower than they would be sans Federal government backing.\u00a0 I hold up as evidence the mortgage bubble and resultant Great Recession.<\/span><\/p>\n

     <\/p>\n

    During the mortgage bubble the demand for real estate was increased because new buyers entered the market in droves.\u00a0 Predominately those new buyers were folks who previously could not attain a mortgage.\u00a0 But once the underwriting standards were lowered – in large part because it was understood that Fannie, Freddie and the FHA would be there in a moment of crisis – there were new, less financially sound buyers present.<\/span><\/p>\n

     <\/p>\n

    My second piece of evidence is the very small increase in home ownership resulting from the creation of Fannie Mae and Freddie Mac.\u00a0 In 1968, home ownership was 63.9%, while at the end of 2009, it stood at 67.4%.\u00a0 So trillions of dollars have flowed through mortgage markets in the past 43 years, yet home ownership has only increased a paltry 3.5%.\u00a0 But that’s just the point: trillions of dollars have flowed through mortgage markets.<\/span><\/p>\n

     <\/p>\n

    The predominate effect of Fannie Mae and Freddie Mac is liquidity.\u00a0 That is, banks can rapidly redeploy capital into new mortgages, courtesy of the Federal Government.\u00a0 Except you do realize, the real courtesy comes from the U.S. tax payer.\u00a0 I’m not so into that.\u00a0 But if you are an executive at a bank it was a great time to be alive.<\/span><\/p>\n

     <\/p>\n

    In part two I will talk about the world post Fannie Mae and Freddie Mac.<\/span><\/p>\n

     <\/p>\n

    Jason<\/span><\/p>\n","protected":false},"excerpt":{"rendered":"

    Yesterday in a white paper entitled “Reforming America’s Housing Finance Market” the Obama Administration dared to consider the end of the sacrosanct real estate mortgage institutions of Fannie Mae and Freddie Mac.   In part one of a two part “What My Intuition Tells Me Now” blog piece I will review the importance of Fannie […]<\/p>\n","protected":false},"author":2,"featured_media":0,"comment_status":"open","ping_status":"open","sticky":false,"template":"","format":"standard","meta":{"_et_pb_use_builder":"","_et_pb_old_content":"","_et_gb_content_width":"","footnotes":""},"categories":[3],"tags":[],"class_list":["post-3477","post","type-post","status-publish","format-standard","hentry","category-the-blog"],"_links":{"self":[{"href":"https:\/\/jasonapollovoss.com\/web\/wp-json\/wp\/v2\/posts\/3477","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/jasonapollovoss.com\/web\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/jasonapollovoss.com\/web\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/jasonapollovoss.com\/web\/wp-json\/wp\/v2\/users\/2"}],"replies":[{"embeddable":true,"href":"https:\/\/jasonapollovoss.com\/web\/wp-json\/wp\/v2\/comments?post=3477"}],"version-history":[{"count":0,"href":"https:\/\/jasonapollovoss.com\/web\/wp-json\/wp\/v2\/posts\/3477\/revisions"}],"wp:attachment":[{"href":"https:\/\/jasonapollovoss.com\/web\/wp-json\/wp\/v2\/media?parent=3477"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/jasonapollovoss.com\/web\/wp-json\/wp\/v2\/categories?post=3477"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/jasonapollovoss.com\/web\/wp-json\/wp\/v2\/tags?post=3477"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}