Does the entire housing market need fixing?  Senator Mike Crapo thinks so, and he has a gargantuan reform proposal on the table to prove it (covered here in February).  Witnesses called to testify before The Senate Committee on Banking, Housing, and Urban Affairs this week weren't universally convinced, but acknowledged potential in several areas.  

Crapo's prepared remarks pointed out that ten years after the government put the GSEs Fannie Mae and Freddie Mac into conservatorship, they remain "stuck [there] with taxpayers still on the hook in the event of a housing market downturn.  It appears that the old, failed status quo is slowly beginning to take hold again, with the government in some ways expanding its reach even further, entering new markets where it has never been before." 

Today, Fannie and Freddie, along with government-insured mortgages, dominate the mortgage market.  Approximately 70 percent of all mortgages originated in this country are in some way touched by the federal government.  His outline, he said  "Sets out a blueprint for a permanent, sustainable new housing finance system that: protects taxpayers by reducing the systemic, too-big-to-fail risk posed by the current duopoly of mortgage guarantors; preserves existing infrastructure in the housing finance system that works well, while significantly increasing the role of private risk-bearing capital; establishes several new layers of protection between mortgage credit risk and taxpayers; ensures a level playing field for originators of all sizes and types, while also locking in uniform, responsible underwriting standards; and promotes broad accessibility to mortgage credit, including in under-served markets.   

Twelve witnesses have submitted prepared testimony for the hearing. Tuesday's panel was made up of:  

• Sue Ansel, President and CEO Gables Residential appearing on behalf of the National Multifamily Housing Council and the National Apartment Association.
• Edward J. DeMarco, President Housing Policy Council (HPC), former Acting Director of the Federal Housing Finance Agency (FHFA).
• Greg Ugalde, Chairman of the Board, National Association of Home Builders (NAHB)
• Mark M. Zandi, Chief Economist, Moody's Analytics
• Hilary O. Shelton, Washington Bureau Director and Senior Vice President for Advocacy and Policy, NAACP
• Adam Levitin. Professor of Law, Georgetown University Law Center

Ugalde expressed concern that the lack of congressional action on housing finance reform might allow the administration, principally FHFA, to step into the gap and introduce more conservative solutions.  NAHB is pleased, he said, that the initial reform plans that called for winding down the GSEs have moderated to allow them to remain important participants in the proposed new system.

He also expressed concern that Crapo's proposal to designate Ginnie Mae as the operator of the securitization platform and to provide the explicit government guarantee for all mortgage backed securities (MBS) could provide difficulties if the agency is unable to scale up as quickly and effectively as needed to maintain market liquidity.

Shelton presented some specific recommendations for reform that would help remedy some of the inequities persons of color have faced in the housing market.  He said a secondary market structure that is too narrow increases the risks of perpetuating the current two-tiered lending system in which white, more affluent buyers are channeled into one system with one set of fees and racial and ethnic minorities, people of color, and low- to moderate income buyers are funneled into another. Among his recommendations were:

• Continuation of the "Duty to Serve" provisions for the GSEs and other government programs
• Preservation and enhance of fair housing and anti-discrimination laws.
• Preservation of FHA insured lending, responsible low-down payment mortgage loans, and access to existing down payment assistance programs and promotion of cost-effective loan modifications for existing homeowners.
• Recognition and boosting of the role of housing counseling, both pre- and post-purchase.
• Broad access to capital for all borrowers as well as institutions of every size.

Zandi said Crapo's outline leaves much to be resolved, but it does offer a promising framework from which to begin.  He suggested three critical design issues that need to be addressed and provided extensive suggestions as to how that might happen. The issues were, how the lender-issuer channel will work; how the new system will attract a sufficient number of new guarantors to ensure adequate competition in the secondary market; and how the system will ensure broad access to affordable credit.

DeMarco called the role of FHFA and Ginnie Mae as set out in the outline a "hybrid model" with FHFA setting capital and liquidity requirements for guarantors as well as the eligibility and underwriting of loans to back the MBS. Ginnie Mae would pool the loans and guaranty them, regulating the business requirements and terms. Guarantors would pay a fee into a Ginnie Mae-managed Mortgage Insurance Fund (MIF) to cover losses in the event of the failure of a guarantor.

He said HPC believes that this hybrid model is not only feasible, but also that it reduces the systemic risk associated with the current Fannie Mae/Freddie Mac duopoly by encouraging participation for new market players while introducing market discipline and ending too-big-to-fail. Adding stand-alone guarantors and credit-risk transfers will create more channels for private capital to improve overall liquidity as well as the distribution of risk across various private market participants - all in front of the government guarantee.

Ansel addressed the outline from the perspective of multifamily lending.  She noted that the increase in household formation is expected to create a critical need for 4.6 million new apartments at all price points by 2030.  This means building an average of 328,000 new apartments every year, a mark that has been hit only twice since 1989.  There is also a growing affordability issue; more than one in four apartment households paid more than half of their income for housing in 2017.

The availability of consistently reliable and competitively priced capital is absolutely essential to the health of the multifamily market.  The organizations she represents believe a reformed housing finance system should:

• Maintain an explicit, appropriately priced and paid-for federal guarantee for multifamily-backed mortgage securities;
• Recognize the inherent differences of the multifamily and single- family businesses;
• Promote private market competition;
• Protect taxpayers by keeping the concept of first-loss risk sharing models;
• Retain the successful components of the existing multifamily programs; and
• Avoid market disruptions during the transition to a new finance system.

While other witnesses were more or less receptive to the Crapo proposal, Levin was not, saying he was deeply concerned about its basic direction.  The market today is functioning well, he said.  Most qualified Americans are able to obtain a long-term fixed-rate mortgage, lock in an interest rate prior to closing, and choose among thousands of institutions to get their loan.  "The multi-guarantor system proposed in the Chairman's outline would place all of this in jeopardy," he said.  It will mean:,

• Rural consumers being unable to obtain credit on equal terms to urban peers;
• Consumers being unable to get 30-year fixed-rate mortgages on competitive terms and unable to readily get pre-closing rate-locks;
• Small lenders being shut out of access to the secondary market; and
• An unstable, procyclical market that will put taxpayer funds at risk.

These predictions may appear dire he said, but they are not speculative. "Much of this is what happened during the 2002-2008 housing bubble period, as well as in the pre-New Deal mortgage market."

Countrywide Financial, Washington Mutual and other private-label securitization (PLS) sponsors grew their market share by lowering underwriting standards so that the risk-adjusted price of credit fell even as the supply expanded. PLS financed primarily nontraditional mortgages and PLMBS were insufficiently standardized to trade on the to-be-announced (TBA) market. By the end of the bubble, there were PLMBS with geographically concentrated pools, such that if the bubble had gone on longer, a national market would have ceased to exist. The massive underpricing of risk in that market enabled borrowers to bid up home prices to a level that made a crash all but inevitable.

Levin says that fortunately there is an easy fix that would avoid the secondary market competition that resulted in market segmentation and pro-cyclical pricing.  The reform must ensure that guarantors are taking on market-wide credit risk, rather than the credit risk on a segment of the market. If guarantors assume market-wide credit risk, the market will not segment, and guarantors will not price pro-cyclically. This is best achieved through a single-guarantor structure combined with back-end synthetic credit risk transfers (CRTs). Such a structure would be a formalization (with some important adjustments) of the current, well-functioning system, which is a single-guarantor system in all but name.