Policy makers discuss possible secondary market reform
Participants at a wide-ranging Administration conference on the future of housing finance got a preview of a key issue that will likely dominate debate on Capitol Hill in 2011.
The Administration plans to unveil a proposal on its role–and that of Fannie Mae and Freddie Mac–on guaranteeing mortgages in the future early next year. At yesterday’s conference, Treasury Secretary Timothy Geithner said the Administration believes it will continue to play a role in guaranteeing mortgages, but wants a system that doesn’t lead to another scenario such as that in 2008, when Fannie Mae and Freddie Mac were placed into conservatorship.
“Fixing this system is one of the most consequential and complicated economic policy problems we face as a country,” Geithner said. “These failures in our housing finance system were avoidable. And it is our responsibility to make sure that we create a system that is not vulnerable to these same failures happening again.”
Earlier this year, Treasury asked a set of policy questions for public comment; it received more than 300 responses, including that of the Mortgage Bankers Association, which provided recommendations of its Council on Ensuring Mortgage Liquidity (see story in today's Residential Finance News).
Geithner noted that responses covered a full range of opinion, with some proposing the government get completely out of the business of supporting housing finance, while others proposed reforms that would leave the current system largely in place.
“Some suggest that, as a government, we have provided too much support for housing, while others suggest we provided too little support to promote affordability for lower income Americans,” Geithner said. “It's safe to say there's no clear consensus yet on how best to design a new system. But this Administration will side with those who want fundamental change.”
Geithner said it would not be tenable to leave in place the current system. “We will not support returning Fannie and Freddie to the role they played before conservatorship, where they fought to take market share from private competitors while enjoying the privilege of government support,” he said. “We will not support a return to the system where private gains are subsidized by taxpayer losses. We need to delineate more clearly the public policy goals of how best to promote reasonably priced and stable mortgage costs for most Americans from how best to provide access to affordable housing for lower income Americans.”
HUD Secretary Shaun Donovan said regardless of solution, the government's footprint in the housing market needs to be smaller than it is today, where FHA and the GSEs collectively guarantee more than 90 percent of all mortgage loans.
“We need to work to foster a strong but healthy market for private capital–to harness the vitality, innovation and creativity in our system in a responsible way, so that consumers and communities gain real benefits without the race to the bottom that we have seen in recent years,” Donovan said.
Donovan added that the recently passed Dodd-Frank Wall Street Reform and Consumer Protection Act has “provided an important foundation from which to build–increasing oversight for the mortgage industry, requiring more skin in the game for originators of home loans, helping close loopholes that fed the housing crisis and, above all, establishing the strongest consumer financial protections in our country's history.”
MBA Chairman-Elect Michael Berman, CMB, who participated in the conference, said the recommendations of the Council on Ensuring Liquidity, which he chaired, center on three principles: 1) Secondary mortgage market transactions should be funded with private capital to limit the potential burden on taxpayers and allocates risk to the private sector; 2) the government should provide an explicit credit guarantee on a limited class of mortgage-backed securities, paid for through risk-based fees on those who create the securities; and 3) taxpayers and the system itself should be protected through strong regulation on the mortgage products covered, limitations on the types of activities undertaken, strong risk-based capital requirements and actuarially fair payments into a federal insurance fund.
Panelist Barbara Desoer, president of Bank of America Home Loans, advocated a “gradual and deliberate” approach to reform, with both the private and public sector playing a role and remaining true to their missions.
“The future role of the government must be transparent and clear; products must be explicitly guaranteed, or not guaranteed at all,” Desoer said. “We need transparency in the process for lenders and borrowers and a level playing field for all the participants.”
Panelist Mike Heid, co-president of Wells Fargo Home Mortgage, agreed on the need for a level playing field, calling for comparable requirements for all loans and across-the-board enforcement for all sectors of the industry.
“Absent these kinds of changes, lending will flow to the lowest common denominator, as history has shown,” Heid said. “We have to get this right.”
Panelist S.A. Ibrahim, CEO of Radian Group Inc., said the wave of innovation earlier in this decade, particularly in “niche” products, reduced cost and created better risk management. “But some innovations were put in place of instead common sense,” he said.
“When niche products were extended to broader audiences, and when piggyback loans which normally helped good borrowers get around the 20 percent downpayment,” Ibrahim said. “As the secondary market started buying these loans and took bigger risks, without requiring the originator to retain some skin in the game, it became more of a gamble on housing appreciation.”
Ibrahim urged policymakers not to stifle innovation going forward. “The nature of the marketplace will drive innovation in the future, as long as the new rules do not choke innovation,” he said.
Ibrahim sad a government regulatory framework should monitor and question programs more aggressively; place prudent limits on new types of risks consistent with inherit uncertainty; stretch innovation over the life of the loan, so that rewards are realized based on performance; and require more “skin in the game,” so that risks can be shared.
“We must enable innovation while avoiding mistakes,” Ibrahim said. “But disciplined innovation can only succeed if it is on a foundation of sound regulation, with both private and public sectors working together.”
Even so, Ibrahim noted, a “perfect solution” probably does not exist. “Even in the Garden of Eden, there was a serpent,” he said.
By Mike Sorohan
