Fixing Fannie and Freddie

"Is the government role in the housing market necessary?" Carol Galante, a senior official at the Department of Housing and Urban Development, asked a roomful of housing-finance stakeholders on Tuesday. "I haven't heard anyone say yes or no. Yes or no?"

The chorus of "yeses" from the policy-makers, bankers, academics, and consumer advocates gathered to consider "The Future of Housing Finance" is exactly what Galante and her colleagues hoped to hear. The day-long conference, hosted by the Obama administration, took up the question of what to do about Fannie Mae, Freddie Mac, and a few other fragile government home-loan agencies that guarantee 99 percent of recently issued mortgages and backstop nearly the entire housing market. The answer so far? Fix the problems, but make sure the government's still there.

In the wake of the financial crisis, conservatives sought to pin the blame for the housing bubble on Fannie Mae and Freddie Mac, the government-sponsored enterprises (GSEs) that supported the housing market since their creation in 1938. The basic facts of the bubble -- that the subprime loans at its heart came largely from the private sector -- belie that interpretation, but blaming Fannie and Freddie served a convenient purpose: It set up the government as a target and implicated Democrats, who have long been intertwined with Fannie and Freddie for reasons of both ideology (creating access to affordable homeownership) and patronage.

While Fannie and Freddie had existed in a limbo state of implicit government guarantee since being "privatized" in 1968, their seizure by the government during the financial crisis forced a conversation about the proper role of Washington in housing policy. The Obama administration will produce a proposal to reform housing finance by the end of the year. It began the process in April with a request for ideas from the public and continued yesterday by hosting a public discussion, à la previous confabs on health-care reform and fiscal responsibility.

Like those meetings, the point was a bit hard to find at first: No one I spoke with outlined a specific takeaway from the talks except to share views, but it quickly became clear that the organizers had at least one goal: Establish early, and often, that the once-implicit government support of the housing market is here to stay. Treasury Secretary Tim Geithner made clear in his opening remarks that he supports government guarantees on mortgages in an overhauled system. To drive the point home, he then moderated a panel of stakeholders that doggedly piled on the American Enterprise Institute's Alex Pollock, who suggested taking the government out of the picture.

Before the government became involved in the mortgage market, homeownership was largely based on down payments and five-year mortgage loans that put borrowers at the mercy of short-term economic changes; in short, homeownership was for the wealthy. During the New Deal, federal mortgage agencies helped create the 30-year, fixed-rate mortgage, which provided access to homeownership to a broader cross section of Americans. The whole system depends on a government-backed entity backstopping the risk of these long-term loans, which in turn lowered their cost.

Today, however, too much of the housing market is concentrated in Fannie and Freddie, leaving tax payers on the line for too much risk -- the government is covering the losses from the housing crash. Making sure that doesn't happen again is important. But preserving the benefits that came with Fannie and Freddie is also important. Participant Barry Zigas of the Consumer Federation of America urged perspective.

"Don't eliminate the advantages of the American home-finance system," he told me the day before the conference. "The problems that we're trying to work our way out of were caused by the rapid and unregulated rise of a finance system that is not the GSE finance system."

Thus the administration's emphasis on keeping the government an active player in the housing market. While the Obama team does not want to be dinged by the opposition for promoting a hidden subsidy, it understands that government support is necessary to the bipartisan goals of affordable homeownership -- and the larger health of the economy. The point of the day's events, Assistant Treasury Secretary Michael Barr told me, is to "make sure we look at the trade-offs involved in reform."

Were the United States to ditch federal involvement in housing finance completely, as some critics have suggested, some of the trade-offs would include rising mortgage interest rates, reduced access to home loans and a dearth of long-term credit for home loans; not to mention that doing so immediately would lead to irrevocable economic damage. Before the meeting, participants told me they were worried that discussion would get bogged down in anti-government rhetoric. Having almost everyone but doctrinaire free-marketeers agree on the government's role was yesterday's big accomplishment.

Moving forward on housing-finance reform, there are much harder questions about how much support the housing market actually needs. The U.S. rate of homeownership is artificially inflated and not conducive to sustainable energy or employment policies; it distorts the market and hurts already underfunded and undersupplied stocks of affordable rental housing. Once a consensus on appropriate balance between supporting ownership and rentals can be found, debate will continue on any number of mechanisms to replace or modify the current housing-finance model, which Democrats have promised to scrap.

For the meantime, the Obama administration has forced everyone to admit publicly what for so long was implicit, hidden, or ignored: The government makes affordable homeownership possible, and done right, that's a good thing.

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