What GSE Reform Impasse Means for Other Mortgage Rules
The congressional stalemate over housing finance reform has left looming questions about the scope and enforcement of other bank regulations already in the pipeline.
The fate of Fannie Mae and Freddie Mac is comingled with various other regulatory provisions stemming from the crisis. Most notably, the Consumer Financial Protection Bureau's underwriting overhaul—known as the qualified mortgage rule—and the separate pending risk retention requirement for securitizers both allow government-sponsored enterprise-backed loans substantial flexibility while Fannie and Freddie are still in conservatorship. How long they stay open also affects how long banks can use GSE-issued securities to comply with new capital and liquidity rules.
With the legislative effort largely stalled, that means it is unclear just how long Fannie- and Freddie-eligible loans—which still make up a huge portion of the market—will be exempt from the new mortgage rules. Observers said the delay could lead to calls for regulators to revise or hurry up new standards to allow more participants not enjoying the exemptions to compete with the federally-supported mortgage giants.
"An indefinite extension of the status quo for GSEs could re-raise…some of the question marks on the design of QM over time," said Jo Ann Barefoot, chief executive of Jo Ann Barefoot Group. "QM has this enormous question mark at the center of it, which is: What would happen if we didn't have the GSE provision in place that automatically qualifies loans [backed by Fannie and Freddie] as QM loans? Its future is tied to GSE reform, for sure."
Laurence Platt, a partner at K&L Gates, said an "indirect" result of the delay in GSE reform is it puts an onus on officials to finish rules that could help govern a private-label securitization market, which has struggled to re-establish following the mortgage meltdown. Those include the new risk retention standard, which several regulators are now in the process of trying to finalize. (Both the QM and risk retention rules were mandated under the Dodd-Frank Act.)
"The indirect impact is that it does heighten the pressure on securitization reform," Platt said. "At least for the foreseeable future, Fannie and Freddie are still going to take a large part of the market."
Although a bill that would replace the GSEs with a government insurer to create a new secondary mortgage market was approved by the Senate Banking Committee earlier this month, it appears unlikely to come to the Senate floor due to opposition from six key Democrats. Lawmakers and administration officials are said to be working still to gain support for the legislation sponsored by committee Chairman Tim Johnson, D-S.D., and ranking Republican Mike Crapo of Idaho.
But without backing from liberal members of the Democratic caucus, including Elizabeth Warren of Massachusetts and Sherrod Brown of Ohio, the bill is unlikely to advance to the Senate floor before midterm and presidential election politics begin to distract Congress from moving forward on anything. That has led to a growing consensus that Fannie and Freddie will continue to operate as wards of the Federal Housing Finance Agency—possibly for years to come.
Despite the lack of resolution on the GSEs' future, policymakers have still pushed ahead with new curbs on the mortgage market in the wake of the 2008 meltdown. The CFPB rule, which the bureau finished in January 2013 and became effective a year later, creates a new ultra-safe class of mortgages. QM loans must have low points and fees, lack risky features such as negative amortization, not exceed 30 years and have a debt-to-income ratio of no more than 43%.
But the rule allows GSE-backed loans to have higher DTIs and still be considered QM. The exemption lasts either as long as Fannie and Freddie are still in conservatorship or until January 2021, whichever comes first. (The exception also applies to loans backed by the Federal Housing Administration, the Department of Veterans Affairs and the Department of Agriculture.)
Similarly, the proposed risk retention rule, which generally requires securitizers to keep a 5% piece of loans sold to the secondary market, basically exempts loans that have a full guarantee from Fannie or Freddie for as long as the two mortgage giants are still in conservatorship.
The risk retention rule also includes a special designation of safe mortgage—known as the "qualified residential mortgage," or QRM—that absolves securitizers from the retention requirement. Regulators have proposed aligning the definition of QRM with how the CFPB has defined QM.
Platt said regulators should finish the risk retention rule sooner rather than later if non-GSE players are going to have a chance to compete. He said there is also a need for the Securities and Exchange Commission to move quickly on expected changes to Regulation AB, which governs disclosure, reporting and offering requirements for asset-backed securities.
"As long as Fannie and Freddie continue to have the dominant place in the marketplace, it’s going to be harder for securitization to come in, even though there is a greater need for securitization,” Platt said. "We really need to finalize Reg AB, and we need to finalize QRM."
Barefoot said an indefinite future for Fannie and Freddie—resulting in a longer exemption from the DTI limit in QM—could put pressure on regulators to consider steps for non-GSE-backed loans to compete.
"Right now, there is interdependency between the existence of the GSEs and the fragile new QM world that we’ve entered," she said. "The rule does tend to increase the attractiveness of the GSEs' secondary market because of the automatic coverage.
"If their future were indefinitely unclear, it would increase the concerns of those who don’t want the whole market to be relying on the GSEs. That in turn could put pressure back on to the regulators to…make it easier to qualify for QM without necessarily selling" loans to Fannie and Freddie.