There's a growing consensus in America that the long-suffering housing market has reached bottom and is now mounting a recovery. Housing starts surged 15% in September to their highest level in four years. New home sales in the same month rose 5.7% to their highest level in two years. And the Zillow Home Price Index shows that home prices are up 3.4% from a year ago.
While these are welcome trends, figures released from the Federal Housing Administration throw a sobering splash of cold water. FHA's FY 2012 Actuarial Study for its main single-family program shows that its capital position has turned negative, by $13.5 billion. That's a shift of $23 billion in economic value in a single year, and it puts the 78-year-old agency $34.5 billion short of its legal capital requirement.
If it were a private company, it would be shut down.
It's bad enough that FHA may be forced to seek a taxpayer bailout, just months after acting FHA commissioner Carol Galante told Congress that "FHA is not broke." What's worse is that the agency's mounting fiscal problems portend deep trouble for the housing market and the American economy as a whole.
The implosion of the government-sponsored enterprises Fannie Mae and Freddie Mac in 2008 did not end the government's massive—and distorting—role in the housing market. Instead, in the wake of their bailouts (taxpayers have forked over $180 billion and counting), much of the risk was simply shifted to the FHA. Indeed, FHA's insurance portfolio quadrupled in the past five years to $1.1 trillion today. The result is that FHA now guarantees 16% of all US mortgages, and 30% of all new home purchase mortgages. This is not an accidental trend: the FHA deliberately tried to "grow" its way out trouble, essentially betting the house on housing's recovery. Friday's numbers confirm that like Fannie and Freddie, it's easy to gamble when the taxpayer covers your losses.
This wasn't a surprise. Research published last fall by the American Enterprise Institute showed that the agency had become as overleveraged as Lehman Brothers and Bear Stearns before their fall. Barring a dramatic economic recovery, the report noted that the increasingly poor-quality loans the FHA absorbed to grow its portfolio would compel the agency to seek a multibillion dollar bailout. Since then, AEI's monthly "FHA Watch" has chronicled the agency's slide into insolvency.
In the short term, Congress has little choice but to recapitalize FHA to make sure it can fulfill its obligations. But fixing the FHA requires far more than plugging a fiscal hole. It requires four fundamental reforms.
First, end the practice of knowingly lending to people who cannot afford to repay their loans. Second, help homeowners establish meaningful equity in their homes. Third, return to the agency's historical roots: concentrate on those who truly need help purchasing their first home. Finally, step back from markets that can be better served by private lenders and insurers.
Together, these changes will transform the FHA from an agency that sets people up to fail to one that actually helps them live the American dream.
So far, though, Congress has shown little appetite to rein in the FHA. In fact, lawmakers last year approved a higher loan limit of $729,750 to FHA-insured loans, accelerating the agency's monopoly.
This monopoly goes deeper than the FHA to the underlying government mortgage complex of big lending that's leading to a bad ending. Fannie, Freddie, FHA, Ginnie Mae, and even the USDA act as the five faces of Uncle Sam's home loan shop; they account for 90% of all new mortgages. Together with HUD, the complex backed—at taxpayer expense—the toxic mix of low downpayments, poor credit scores, and lax oversight that precipitated the sub-prime housing crisis. In concert with the realtors, builders, and other members of the housing lobby, this complex got rich handing people keys with no skin in the game. No matter that the political push for an ownership society resulted in a debtor society, because taxpayers and hapless homebuyers covered the bill.
The housing crisis supposedly chastened the complex, but a close look at the FHA's figures show that it's still following this tragic playbook. Over 1 in 6 FHA loans are delinquent 30 days or more. Most of these were originated in 2008, 2009 and 2010, well after the bubble had burst. Today, the agency is still targeting low-income borrowers, pushing them into mortgages with ruinous consequences.
For example, in the first quarter of FY 2012, an estimated 40% of FHA's business consists of loans with either one or two subprime attributes—a FICO score below 660 or a debt ratio greater than or equal to 50%. These subprime loans are overwhelmingly risk layered with a loan to value ratio (excluding financed mortgage insurance premium) of equal to or greater than 95% and a loan term of 30 years.
As these delinquencies from 2008-2010 turn into foreclosures—a kind of post-bubble second wave—they'll put downward price pressure on already-battered neighborhoods, and the nascent housing recovery could quickly reverse course, dragging the economy.
If the report does nothing else, it should underscore the commonsense notion that pushing families into homes they can't afford is a terrible way to expand the American dream.