Privatizing Fannie and Freddie: It’s not a matter of if, but when
There’s pretty broad agreement in Washington that government support for Fannie Mae and Freddie Mac should ultimately be wound down, or at least rolled back in scope, given their role in the housing crisis and the resulting cost to taxpayers.
But there are major differences over how quickly we should get there. Paul Ryan wants to accelerate the process, pushing for the government to slash subsidies and reduce its loan portfolio in the next budget. Others warn, however, that such steps are premature and threaten to upend a still-fragile housing market.
The Ryan budget promises an end to “corporate welfare and taxpayer bailouts” of Fannie and Freddie, promising to privatize both housing giants. Ryan doesn’t go into much further detail about how that would be accomplished, how long it would take, or how a private secondary mortgage market—which is essentially non-existent right now—could successfully replace Fannie and Freddie. But he suggests, for example, that Fannie and Freddie should reduce their portfolios by capping the value of homes they could guarantee.
Housing experts warn, however, that closing down Fannie and Freddie too quickly, without taking adequate steps to create a private alternative, would massively disrupt the housing market and the economy at large. Fannie and Freddie’s primary functions are to buy mortgages from primary lenders, then package them into securities that are then resold. They provide a crucial form of liquidity in the housing market, and other firms would need to step in before their government backing fully disappeared.
“Until there is an agreement on what this future system should look like, calls for winding down Fannie Mae and Freddie Mac are premature,” says Cristian deRitis, a Moody’s analyst. “The banks are only now recovering and do not have the balance sheets available to provide all of the mortgage financing that the nation needs.”
DeRitis estimates that it ultimately will take “a decade or more” to create a fully privatized secondary mortgage market to replace Fannie and Freddie. Why? Even if banks had enough capital for mortgage financing, there’s whole host of complex rules that would have to be clarified before investors felt comfortable about jumping in. Edward DeMarco, head of the Federal Housing Finance Agency, which oversees Fannie and Freddie, outlined a strategy for making the transition that experts believe would take a number of years to implement.
Republicans themselves have implicitly acknowledged some of these realities, even as they’ve led the charge to close Fannie and Freddie. Most plans would phase Fannie and Freddie out gradually, if sooner than Democrats would want: Rick Santorum and Newt Gingrich vowed to end government support for the housing giants within five years. The House GOP has similarly pushed for an incremental phase out, and even those bills don’t have uniform support within the party.
Ryan’s own blueprint doesn’t explain how much the 2013 budget would slash funding for Fannie and Freddie, and his one suggestion to cap the value of loans wouldn’t necessarily be disruptive “as long as it is conducted in a gradual fashion,” DeRitis concludes.
But there’s still concern that even incremental changes could shock the housing market and impede the recovery. “Pulling out support arbitrarily would be putting the cart before the horse,” says David Stevens, head of the Mortgage Bankers Association and a former Freddie Mac official. In fact, in an effort to spur on the housing recovery, the Obama administration has actually expanded Fannie and Freddie’s efforts to help homeowners refinance.
Supporters of mass refinancing through Fannie and Freddie say that such help in the short-term is compatible with a long-term plan to wind down the housing giants. But they’re likely to clash with legislators like Ryan who want to rein in Fannie and Freddie without ado.