There is little dispute that the financial crisis was partly the result of fundamental flaws in the housing finance market. The consequences of those flaws, and the losses Fannie Mae and Freddie Mac have inflicted on taxpayers, make clear that we must build a healthier, more stable market that will work better for American families and our nation’s economy.
For decades, the government-supported incentives for housing that distorted the market, created significant moral hazard, and ultimately left taxpayers responsible for much of the risk incurred by a poorly supervised housing finance market. In more recent years, we allowed an enormous amount of the mortgage market to shift to where there was little regulation and oversight. We allowed underwriting standards to erode and left consumers vulnerable to predatory practices. We allowed the market to increasingly rely on a securitization chain that lacked transparency and accountability. And we allowed the financial system as a whole to take on too much risk and leverage.
These were avoidable mistakes. Their convergence, as we all know, resulted in a financial system vulnerable to bubbles, panic, and failure. Reforming our country’s housing finance market is an essential part of our broader efforts to help ensure Americans will never again suffer the consequences of a preventable economic crisis.
Our proposal for reform breaks sharply from the past to fundamentally transform the role of government in the housing market.
We believe the government’s primary role should be limited to several key responsibilities: consumer protection and robust oversight, targeted assistance for low- and moderate-income homeowners and renters, and a targeted capacity to support market stability and crisis response.
The administration is committed to a system in which the private market—subject to strong oversight and strong consumer and investor protections—is the primary source of mortgage credit.
We are committed to a system in which the private market—not American taxpayers—bears the burden for losses.
And while we believe that all Americans should have access to affordable, quality housing, our goal is not for every American to become a homeowner. We should provide targeted and effective support to families who have the financial capacity to own a home but are underserved by the private market, as well as a range of options for Americans who rent.
As the housing market recovers and the economy heals, the administration and Congress have a responsibility to look forward, reconsider the role government has played in the past, and work together to build a stronger and more balanced system of housing finance.
In the wake of the financial crisis, private capital has not sufficiently returned to the mortgage market, leaving Fannie Mae, Freddie Mac, FHA and Ginnie Mae to insure or guarantee more than nine out of every ten new mortgages. Under normal market conditions, the essential components of housing finance—buying houses, lending money, determining how best to invest capital and bearing credit risk—should be private sector activities.
We will work closely with the Federal Housing Finance Agency to determine the best way to responsibly reduce Fannie Mae and Freddie Mac’s role in the market and ultimately wind down both institutions. This objective can be accomplished by gradually increasing guarantee pricing at Fannie Mae and Freddie Mac, as if they were held to the same capital standards as private institutions, reducing conforming loan limits by allowing the temporary increases enacted in 2008 to expire as scheduled on Oct. 1, 2011, and gradually increasing the amount of private capital that risks loss ahead of taxpayers through credit loss protections from private entities and gradually increased down payment requirements. We also support the continued wind down of Fannie Mae and Freddie Mac’s investment portfolios at a rate of no less than 10% annually.
I want to emphasize that it is very important that we wind down Fannie Mae and Freddie Mac at a careful and deliberate pace. Closing the doors at Fannie Mae and Freddie Mac without consideration for the pace of economic recovery could shock an already-fragile housing market, severely constrain mortgage credit for American families, and expose taxpayers to unnecessary losses on loans the institutions already guarantee. It is ultimately in the best interest of the economy and the country to wind down Fannie Mae and Freddie Mac in a responsible and prudent manner.
The administration is fully committed to ensuring Fannie Mae and Freddie Mac have sufficient capital to perform under any guarantees issued now or in the future, as well as the ability to meet any of their debt obligations. Ensuring these institutions have the financial capacity to meet their obligations is essential to maintaining stability in the housing finance market and the broader economy. During the transition, it is also important that the operations of Fannie Mae and Freddie Mac continue to serve the market and the American people, including retaining the human capital necessary to effectively run both institutions.
As we decrease Fannie Mae and Freddie Mac’s presence in the market, we will also scale back FHA to its more traditionally targeted role. We support decreasing the maximum loan size that qualifies for FHA insurance—first by allowing the present increase in those limits to expire as scheduled on Oct. 1, 2011, and then by reviewing whether those limits should be further decreased going forward.
We will also increase the pricing of FHA mortgage insurance. FHA has already raised premiums twice since the beginning of this administration, and an additional 25 basis point increase in the annual mortgage insurance premium is included in the president’s 2012 budget and will be levied on all new loans insured by FHA as of mid-April 2011. This will continue ongoing efforts to strengthen the capital reserve account of FHA and align its pricing structure in a more appropriate relationship with the private sector, putting the program in a better position to gradually return to its traditional and more targeted role in the market.
The administration also supports reforms at the Federal Home Loan Banks to strengthen the FHLB System, which provides an important source of liquidity for small- and medium-sized financial institutions. These reforms include instituting single district membership, capping the level of advances for any institution and reducing the FHLBs’ investment portfolios.
We also believe it is appropriate to consider additional means of advance funding for mortgage credit as a part of the broader reform process, including potentially developing a legislative framework for a covered bond market. We will work with Congress to explore opportunities in this area.
Winding down Fannie Mae and Freddie Mac and implementing reforms at FHA and the FHLBs, however, is only one side of the coin. These steps alone will not give rise to a housing finance market that meets the needs of families and communities, nor will it guarantee that private markets can effectively play a predominant role. We must also pursue reforms that restore confidence in the mortgage market among borrowers, lenders, and investors.
The administration supports the strong implementation of reforms to help address precrisis flaws and rebuild trust and integrity in the mortgage market. Taken together, these reforms will improve consumer protection, support the creation of safe, high-quality mortgage products with strong underwriting standards, restore the integrity of the securitization market, restructure the servicing industry, and establish clear and consolidated regulatory oversight. The Dodd-Frank Act laid the groundwork for many of these reforms. We will implement its provisions in a thoughtful manner to protect borrowers and promote stability across the housing finance markets.
Treasury is currently coordinating critical reforms to the securitization market that will require originators and securitizers to retain risk, including coordinating an interagency process to determine the parameters for Qualified Residential Mortgages under the Dodd-Frank Act. This summer, the Consumer Financial Protection Bureau will assume authority to set new rules to curb abusive practices, promote choice and clarity for consumers, and set stronger underwriting standards. Federal regulators will require banks to increase capital standards, including maintaining larger capital buffers against higher-risk mortgages that have a greater risk of default.
Treasury is also actively participating in interagency efforts to design and implement near-term reforms that will help correct chronic problems in the servicing industry, which has proven especially ill-equipped to deal fairly and efficiently with the sharp increase in the number of families facing foreclosure. Right now, we are working together to design national servicing standards that better align incentives and provide clarity and consistency to borrowers and investors regarding their treatment by servicers, especially in the event of delinquency. Our work includes identifying ways to reduce conflicts of interest between holders of first and second mortgages and improving incentives for servicers to work with troubled borrowers to avoid foreclosure.
Alongside these efforts, Treasury, the Department of Housing and Urban Development and the Department of Justice are coordinating the Administration’s interagency foreclosure task force, which is comprised of eleven federal agencies and also works closely with the state attorneys general. In light of reports of misconduct in the servicing industry, the task force is currently reviewing foreclosure processing, loss mitigation, and disclosure requirements at the country’s largest mortgage servicers. Those that have acted improperly will be held accountable.
Timothy Geithner is secretary of the Treasury.
