Posted by: admin | February 11, 2011

Will Fannie & Freddie be a thing of the past?


WASHINGTON—The Obama administration unveiled a proposal Friday for winding down mortgage giants Fannie Mae and Freddie Mac, spelling out three options for what could take their place and setting the stage for a debate over the nation’s $10.6 trillion mortgage market.

The steps, outlined in a "white paper," are likely to mean higher borrowing costs and more-limited access to home loans for consumers. Treasury Secretary Timothy Geithner said establishing a new system could take five to seven years.

"This is a plan for fundamental reform of the housing market," Mr. Geithner said, cautioning that "we’re going to proceed on this path of reform very carefully."

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All of the administration’s proposals envision a scaled-back role for the government, and officials emphasized the goal of restoring the market for mortgage-backed securities issued without the government’s guarantee.

The initial reaction on Capitol Hill was positive. Rep. Scott Garrett, (R., N.J.), a frequent critic of the administration, said, "I’m encouraged to see the administration included a number of reform ideas that track closely with my own."

One option proposed by the administration includes a new government backstop of certain mortgages under a federal ‘reinsurance’ model, while another would proposes a more limited backstop that would scale up primarily during times of economic crisis. The third option proposes no such government backstop beyond existing federal agencies such as the Federal Housing Administration.

The government took over Fannie and Freddie 2½ years ago and has committed funds to keep the firms solvent. So far, taxpayers are on the hook for $134 billion, and the bailout is likely to be the most expensive legacy from the 2008 financial crisis.

But the companies have played a critical role in healing the nation’s housing markets. Together with federal agencies, they accounted for nine in 10 new loans last year.

The proposal outlines steps to shrink the government’s outsize footprint in the mortgage market without seeking congressional approval. Those steps could raise hurdles and costs for borrowers.

The paper proposes gradual increases in minimum down payments so that Fannie and Freddie buy loans with a minimum 10% down payment. Currently, borrowers can make smaller down payments if they purchase mortgage insurance. The paper also recommends raising gradually fees that Fannie and Freddie charge to lenders, in order to make mortgages that aren’t government-backed more competitive. It calls for slowly reducing the maximum loan limits the firms can purchase but doesn’t specify how far those loan limits should drop.

Current federal law allows the companies to guarantee mortgages of as much as $729,750 in some high-home-price areas and will expire Oct. 1. The administration recommends that Congress not renew the law. The move would drop the ceiling to $625,500. While not being specific, the administration’s paper calls for further reductions in that ceiling over the next several years. Mortgages above the ceiling are known as jumbo loans and usually require a higher interest rate.

The administration also says banks should be required to hold more capital to withstand future housing downturns, and the paper calls for "more conservative underwriting standards that require homeowners to hold more equity in their homes."

The paper also calls for reducing the role played by the Federal Housing Administration, a New Deal-era agency that has been at the heart of the administration’s efforts to help Americans secure low-down-payment mortgages in the wake of the mortgage market’s collapse three years ago. The FHA doesn’t lend money to home buyers but insures lenders against default; in exchange for that backing, borrowers must pay annual insurance premiums. The administration says it will increase those fees later this year.

Because the housing market remains fragile, those measures would be phased in gradually. The administration believes Fannie and Freddie are past their peak losses, and the vast majority of those have stemmed from loans it bought as the mortgage boom turned to bust. Rapidly withdrawing the firms from the market today could damage the housing sector and risk making those losses more severe.

The paper also calls for a task force to consider merging federal mortgage agencies. Currently, the Department of Housing and Urban Development houses the FHA, the Department of Veterans Affairs runs the VA loan program and the Department of Agriculture administers a rural-housing loan-guarantee program.

The fight over how to restructure the housing-finance system has roiled Washington, but both parties have been hesitant to propose detailed legislation.

For conservatives, Fannie and Freddie played a starring role in the financial crisis, and any solution that is viewed as replicating their function could face opposition from some Republicans. But moderate Republicans may resist such an approach and could join Democrats who have said a federal role is necessary to ensure broad access to homeownership.

Advancing multiple proposals could help the administration build consensus around one option, and analysts say it may help build the case for a continued government backstop that many administration officials are said to privately favor.

Fannie and Freddie buy mortgages from banks and other lenders, repackage them for sale as securities and make investors whole when borrowers default.

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