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The State of Housing Finance in the United States

C. D. Howe InstituteHousing Markets and Policy

June 26, 2014

Edward Pinto, CodirectorAEI International Center on Housing Risk

HousingRisk.org

The views expressed here are those of the author alone and do not necessarily represent those of the American Enterprise Institute.

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US Housing and Financial Crisis• Crisis largely stemmed from a failure to

understand build-up of housing risk:

– Mortgage risk

– House-price (collateral) risk

– Capital adequacy

• Combined with a housing finance market dominated by government players and distortionary policies

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Regulatory and market obstacles to privatization dwarfed by institutional and policy headwinds

• The continued dominance of Fannie/Freddie/FHA– Likely be at 75-80% of the market for the foreseeable

future

• Renewed policy and regulatory efforts to debase credit standards

• The lion’s share of the 20-25% going to the private sector will continue to be served by portfolio lenders, leaving little room for private MBS

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Institutional obstacles to reducing government domination

• No imperative on Congress to pass reform legislation. – GSE charters are perpetual and cannot be abandoned– Loan limits set at no lower than 2007 market peak– Treasury obligated to provide GSEs an additional $200+ billion in capital support

beyond existing bailout– No time limit on conservatorship– Exempt from QM’s 43% total DTI limit until earlier of Jan. 2021 or exit from

conservatorship and these be extended or amended by CFPB – Exempt from QRM’s 5% risk retention as long as in conservatorship and this can

be amended by FHFA – GSEs give the appearance of being profitable and “profits” go to Treasury– New leadership at FHFA

• Director Watt has stated that housing finance reform is off his radar• Full speed ahead for GSEs with no footprint shrinking under his watch

• The devil you know….

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“Affordable housing” continues as the driving issue

• Look no further than the recent announcements from FHFA, FHA, and the 6 Democratic senators who have demurred on the Johnson-Crapo Housing Finance bill– Despite progress, however, housing finance market

conditions are far from what could reasonably be considered satisfactory or normal.…[s]ome originators and mortgage insurers have placed additional conditions – such as higher minimum credit score requirements – on top of the acceptable credit standards of each Enterprise. These credit overlays result in the rejection of many loans that would otherwise meet Enterprise credit standards (emphasis added) – FHFA Director Mel Watt. May 13, 2014

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A misguided housing policy• For past 50+ years our single-family housing policy been based on:

– The use of ever greater leverage in a futile attempt to expand homeownership by helping unqualified borrowers buy homes

• Homeownership rate 62% both in 1960 and 2014 (net of 90+ delinquent loans)

– Increased dramatically from 1940 to 1960 for both Blacks and whites – Home lending until 1960 was not highly leveraged, making it a low risk

means to build wealth– “A government effort to assist families with limited resources and poor

credit history take on increased leverage seems a curious public policy.” former FHFA acting director Edward DeMarco, May 13, 2014

• High leverage policy even more curious since used to finance homes in neighborhoods with highest levels of house price volatility and effectively crowds out private retirement savings using defined contribution plans

• It is no wonder borrowers with limited resources fail to build wealth