Dream On?

Why federal housing policy is due for an overhaul

WHATEVER THEIR disagreements, America's political leaders believe in home ownership -- and they have believed in it for decades. "Owning a home can increase responsibility and stake out a man's place in his community," President Lyndon B. Johnson, a Democrat, declared in 1968. Thirty-six years later, Republican George W. Bush promised "an ownership society . . . where more Americans than ever will be able to open up their door where they live and say, welcome to my home, welcome to my piece of property." This long-term bipartisan consensus has sustained hundreds of billions of dollars' worth of federal support for single-family housing: government-guaranteed mortgages through the Federal Housing Administration (FHA), the tax deduction for mortgage interest payments, and implicit federal backing and tax breaks for the mortgage giants Fannie Mae and Freddie Mac.

By and large, widespread home ownership has served America well, for the reasons the presidents cited. And, broadly speaking, the federal investment in single-family housing has paid off; the national homeownership rate is 68 percent, despite the recent wave of foreclosures. For all its conflicts, America's is one of the world's most stable societies. Yet the policies and institutions that worked in the past are not necessarily optimal for the future. In fact, the current housing crisis suggests the opposite; their risks and costs are beginning to outweigh their benefits. Congress has patched together a bill to deal with today's problems. But the next Congress and the next president will need to make fundamental changes.

Readers of these editorials are familiar by now with our concerns about Fannie Mae and Freddie Mac: profit-seeking entities fueled by preferential access to capital markets, they have exposed the federal taxpayer to immense mortgage-related risk. This risk no longer seems quite justified by the two entities' contribution to reducing mortgage rates. Under any sensible scenario, the firms will have to be made more sustainable -- which is to say, smaller. Also central to federal housing policy is the mortgage interest tax deduction, which will be worth $100 billion to homeowners in fiscal 2009, according to the government. Upper-income homeowners living in relatively expensive homes reap most of the benefit. Shrinking the deduction, or phasing it out altogether, would remove this distortion.

Indeed, the mortgage interest deduction illustrates another persistent problem of federal housing policy: one program often contributes to a problem that other programs try to solve. Does the mortgage interest deduction divert resources from modest to expensive housing? If yes, the FHA must work that much harder to make housing affordable through guaranteed loans. Or Congress feels obliged to create an affordable housing trust fund, as it is doing in the latest legislation. Of course, that will be funded by Fannie and Freddie, which means they have fewer resources for making mortgages cheaper. At one time, many thought that securitized subprime mortgages could help close the affordability gap, especially for minorities; loose federal regulation fostered such mortgages, with consequences we all know.

Federal support for housing has spawned a formidable lobby, made up of builders, bankers, real estate agents and homeowners in every congressional district. And that's not to mention Fannie and Freddie's influence on the Hill. Taking them on will be no easy task. Yet, sooner or later, it has to be done. Without a more rational, efficient and equitable housing policy, future generations may well find it harder to realize the American dream.