Three years into the nationalization of housing finance by government-sponsored entities Fannie Mae, Freddie Mac and the Federal Housing Authority, it is time to start reducing their footprints. This is not an easy task for as Ronald Reagan observed in 1964: “A government bureau is the nearest thing to eternal life we’ll ever see on this earth.” The same might be said for temporary legislative enactments.
To this end, the administration suggested, as a first step, allowing the temporary loan limits that were put in place in 2008 to expire on Sept. 30, 2011. On Oct. 1 the GSEs’ loan limit for high-cost areas dropped from $729,750 to $625,500, with the general loan limit remaining unchanged at $417,000. To put these numbers in perspective, the median priced U.S. home sells for $172,000 and the median priced home in the most expensive metro area (San Jose-Sunnyvale-Santa Clara, Calif.) sells for $610,000. Also, the $417,000 general loan limit was first put in place in 2006, when housing prices were 20 percent higher than they are today. FHA’s loan limits were also reduced from unprecedented temporary levels on Oct. 1.
Rather that leaving well enough alone, on Oct. 20 the U.S. Senate approved an amendment that would restore these expired maximum loan limits. This amendment, sponsored by Sens. Bob Menendez, D-N.J., and Johnny Isakson, R-Ga., passed 60-38. It allows affluent homeowners to continue receiving a federal subsidy to qualify for mortgage financing costs upwards of $1 million provided they have an annual income of $200,000. This has never been, nor should it be, the mission of Fannie or Freddie, much less FHA.
Fact No. 1: The loan limits fell with no significant impact on the housing market. In the short time since the loan limits were lowered, there has been no real evidence of adverse impacts on the housing market. To the contrary, the pace of home sales actually increased in September, despite the fact that lenders had already began conforming to the lower loan limits back in July.
Fact No. 2: While the housing lobby presents this issue as “now is simply not the time,” the real question is, if not now, when? For many decades the housing lobby has resisted commonsense reforms. Let us not forget that Fannie and Freddie collapsed in 2008 following 15 years of efforts by the housing lobby to stop reform. This allowed these too big to fail entities to spread moral hazard around the world.
Fact No. 3: The proposal to raise the Fannie/Freddie/FHA loan limits is using data from before the burst of the housing bubble. For example, the Menendez amendment would calculate local FHA loan limit maximums using a formula based on 2008 area median home prices. However, home prices have dropped dramatically since that time (between 17%-23%), meaning those loan limits simply do not reflect the current state of the market. This poses a particular risk for FHA given its much riskier loan profile.
Fact No. 4: This proposal blocks the Obama administration’s goal of reducing the government’s footprint in the housing market. The Senate vote puts it at odds with the Obama administration, which has repeatedly called for the federal government to shrink the size of its footprint on the national housing market. In its February white paper, the administration called for the reduction of loan limits as part of the greater effort to ensure “private capital to play the predominant role in housing finance.” The administration recommended that Congress allow the temporary increase in limits to expire as scheduled and as a result, “larger loans for more expensive homes will once again be funded only through the private market.” These reductions sensibly start this process by eliminating government subsidies going to homes priced well above the median.
Fact No. 5: The FHA is already dangerously overextended. FHA’s market share of total originations going into the crisis was only about 2.5%. Now, its market share has ballooned to approximately 30%. Moreover, FHA’s FY2011 3Q report to Congress showed FHA’s Capital Reserve Account has been drained from $19.6 billion just two years ago to a low of $2.8 billion at the end of June 2011 due to rising defaults. Appearing to “fix” the risk posed to Fannie and Freddie by charging super jumbo borrowers a higher guarantee fee will merely push more of the business to FHA.
Fact No. 6: Reversing this modest reduction would be a devastating signal to the housing finance market. While the reduction in loan limits affects few loans; that even the Republican House is not serious about beginning the process of bringing back private sector involvement. Weaning off the Fannie and Freddie addiction will be a long process—let’s hope House Republicans don’t start with a step backwards.
Edward Pinto is a resident fellow at the American Enterprise Institute.
