Let's not go back to the future in housing finance

Let's not go back to the future in housing finance
© Getty Images

More than a decade after being placed in conservatorship, Fannie Mae and Freddie Mac once again operate as highly profitable government-sponsored enterprises (GSEs). Their successful recovery doesn’t mean the conservatorship should end.

Fannie Mae’s and Freddie Mac’s management and staffs deserve credit for accomplishing a great deal since the 2008 financial crisis, but the comeback was augmented not only by the economic recovery, but by a duopoly status and government backing that protects the GSEs from catastrophic losses and serious private-sector competition.


Fannie Mae and Freddie Mac were created to inject liquidity into the housing finance system by purchasing mortgages from private lenders and packaging them as securities for sale to investors.  

Unlike purely private companies, through their government-sponsored status, Fannie and Freddie enjoy unparalleled access to the credit markets and the ability to “socialize” losses — pass them on to taxpayers — when disaster strikes, as it did in 2008.

In other words, their special status enables the GSEs to operate as profit-seeking companies without facing the risks borne by private companies. 

These factors, along with other barriers such as advantages in technology and access to data, deter potential competitors from entering the market and perpetuate the too-big-to-fail mentality of the pre-crisis years. To level the playing field and ensure stability, we must continue to make reforms while the conservatorship is intact. 

In a recently published white paper, the Milken Institute’s housing finance policy team outlined a series of administrative reforms that can be taken by regulatory agencies to strengthen the housing finance system, pave the way for bipartisan legislation to revise the Fannie Mae and Freddie Mac charters and enable new entrants to compete with them.

Our recommendations include greater transparency into Fannie Mae and Freddie Mac activities, more risk-based pricing combined with explicit affordable housing subsidies and a capital rule that supports a housing finance system driven by private investment.

The capital rule must also ensure that participants fund themselves with enough capital for the system to survive future downturns and maintain liquidity for creditworthy borrowers throughout the economic cycle.

Other steps include:

  • facilitating access by new marketplace entrants to key technologies used by Fannie Mae and Freddie Mac;
  • reducing GSE presence in markets adequately served by the private sector, such as second-home financing and cash-out refinancing; and
  • providing Ginnie Mae and the Federal Housing Authority with the resources they need to improve their technology and operations. 

We also recommend steps that the Consumer Financial Protection Bureau (CFPB) can take to modify lending regulations and encourage innovation in ways that would enhance consumer protection, systemic safety and soundness and proper market functioning. 

These actions proposed in the paper can be taken by the Federal Housing Finance Agency (FHFA), CFPB, Treasury Department and other housing finance agencies without legislation. 

Finally, because Fannie Mae and Freddie Mac are part of a larger housing finance ecosystem, the Federal Housing Finance Oversight Board should take a stronger role in coordinating activities across federal housing finance agencies.

The board, consisting of the secretaries of the Treasury and Housing and Urban Development, the chairman of the Securities and Exchange Commission and the FHFA director, is positioned to see how changes at Fannie Mae and Freddie Mac, or any part of the housing finance system, might adversely affect others.

Ultimately, it will be up to Congress to complete reforms to the housing finance system. Foremost among them, Congress should create an explicit, paid-for guarantee for mortgage-backed securities that would be available to guarantors under the new system, including the GSEs or their successors and, if applicable, any new competitors.

The changes we recommend will make it simpler for Congress to take that step and enact the final piece of the housing finance reform puzzle. 

The 2008 crisis highlighted the inherent risks of a housing market dominated by a duopoly empowered to pass catastrophic losses on to the government. The system still enables Fannie Mae and Freddie Mac to “socialize” losses and crowd out competition and innovations that would benefit homebuyers. 

Ending the FHFA’s conservatorship without further reforms would freeze the levers of the marketplace in favor of the GSEs and disregard the lessons learned from the financial crisis.

Eric Kaplan is director of the housing finance program at the Milken Institute Center for Financial Markets in Washington, D.C.