A Three-Year Retrospective

This past Saturday marked the third anniversary of the initial live post on Howard on Mortgage Finance. I began it in response to my perception that the dialogue on mortgage reform was being dominated by ideological and competitive critics of Fannie Mae and Freddie Mac who over the past two decades had created provably false stories about the companies’ business, risk-taking and role in the 2008 financial crisis, which through constant repetition in the media had become almost universally accepted as true. My goals for the blog were to serve as a source of objective and verifiable facts about the mortgage finance system in general and Fannie Mae and Freddie Mac in particular; to draw on my experience with and knowledge about these areas to provide informed analyses of current developments in single-family mortgage finance, and to use these facts and my analyses as the basis for offering opinions on mortgage-related issues.

I’ve now said (or written) most of what I had to say and wanted to say when I began the blog. Largely for this reason—and because the blog was not intended to be a running commentary on mortgage-related events (I try to do a version of that with responses to reader questions and observations in the “comments” section)—the frequency of my posts has declined each year. I did 18 posts in 2016, 10 in 2017, and 6 last year. I put up a post when I have something new or different to say; otherwise I don’t.

The large majority of my posts have dealt with how the government should resolve the conservatorships of Fannie and Freddie, now over ten years old. Within this overarching issue I have written extensively on a number of recurring topics: the course and status of the legal cases challenging the government’s actions during the conservatorships; my thoughts on the right objectives for mortgage reform and how best to achieve them; critiques of the repeated attempts by banks and their supporters to replace Fannie and Freddie in legislation with bank-centric alternatives, and in-depth examinations of two  related subjects—the appropriate capital standards for credit guarantors and the folly of substituting credit risk transfer transactions for upfront equity capital.

Much of what I’ve written on these topics was published some time ago, however, so I thought that in this post I would give readers a brief guide to where they could find the most complete or accessible expressions of my views, by category. I’ve done this below.

 The facts and the law in the legal cases. I’ve put up five posts whose focus was the court cases challenging the government’s treatment of Fannie and Freddie in conservatorship. Three of them addressed the fact pattern in these cases, which overwhelmingly favors the plaintiffs, while two discussed the implications of specific court decisions.

My first live post was Thoughts on Delaware Amicus Curiae Brief (February 2, 2016), whose most valuable part I think was the link to the amicus itself. Reading about all of Treasury’s actions from before the financial crisis to the net worth sweep, it’s impossible to escape the conclusion that its takeover of Fannie and Freddie was a preplanned nationalization. The Takeover and the Terms (February 23, 2016) is an early piece about the challenge to the conservatorships by Washington Federal, in which I imagine judge Sweeney reviewing the facts in the case and saying to Treasury, “You abused your regulatory power by taking Fannie and Freddie over without statutory authority and for your own policy purposes, then conspired with a conservator you controlled to run up their non-cash losses, forcing on them senior preferred stock they didn’t need and you wouldn’t let them repay, whose purpose was to transform massive, temporary and artificial book expenses you’d created for them into massive, perpetual and real cash revenues you’re taking for yourself.” (She may yet get a chance to say this.) A Pattern of Deception (July 31, 2017) was written after Sweeney released a number of documents showing that “to execute its plan [to take over Fannie and Freddie and replace them with a bank-centric alternative], Treasury has had to be untruthful about virtually everything having to do with [them]—their health going into the crisis, the reason for taking them over, the source of their losses in conservatorship, and why the net worth sweep was imposed.”

While the facts in the cases clearly favor the plaintiffs, the law has been another matter. In Getting From Here to There (May 2, 2016) I first give some historical perspective on Fannie and Freddie’s path to conservatorship, then discuss the appeal of Judge Lamberth’s decision in Perry Capital case. I thought plaintiffs would prevail in this appeal, but they did not. In The Path Forward (June 6, 2017) I address the implications of the adverse decisions in the Perry Capital appeal and several other cases for the reform process going forward—fairly accurately, as it’s turning out.  

The majority of my writings about the legal cases have come in response to comments made by readers, which in turn were triggered by news items or events in a particular case. A determined person interested in my view about some specific legal development can find whatever I may have said about it by (a) noting the date of the item or event, (b) looking on the right side of the blog for the “Archives” column, then clicking on the month (and year) of the event, (c) seeing which of my posts were live at or around that date, and finally (d) after clicking on the comments for that post, scrolling through them until you get to or somewhat after the date in question, and see what’s there. (The same approach will work for finding my views on non-legal events or news items.)

Key principles for mortgage reform. Most of my posts in some way relate to the mortgage reform dialogue, but three of them take a “big picture” look at the topic, from somewhat different perspectives. A Solution in Search of a Problem (September 7, 2016) contrasts the approach to reform taken by banks and their supporters—blatantly mis-diagnosing the problem, then proposing a self-serving remedy that “solves” the problem they invented—with the actual challenges now facing the mortgage finance system. Economics Trumping Politics (January 4, 2017) discusses why the misinformation-laden approach to mortgage reform adopted by banks may be a strength in a legislative process but is a liability in an administrative one. And in The Economics of Reform (November 30, 2017), I make the economic case for reforms that benefit consumers rather than banks by documenting the dramatic changes that have taken place in mortgage finance since Fannie and Freddie were put into conservatorship—much greater interest rate risk, far more use of government guarantees, and the greatly increased reliance on the Federal Reserve for funding 30-year fixed-rate mortgages—and noting that consumer-oriented mortgage reform would reverse these negative trends.   

 My ideas for mortgage reform. Three posts were devoted to my ideas or recommendations for reforming the mortgage finance system. The first was Fixing What Works (March 31, 2016), written in response to a request from the Urban Institute for its “Housing Policy Reform Incubator” project, in which a number of contributors were asked to write 2000-word essays about the future of housing finance reform. This was my submission, and there is little in it that I would change today. A Welcome Reset (December 12, 2016) was written shortly after Treasury Secretary-designate Steven Mnuchin told Fox Business that “we gotta get [Fannie and Freddie] out of government control…and we’ll get it done reasonably fast.” In this piece I offer administration negotiators three pieces of advice—”pick the best model, get the capital right, and be realistic about the role of government”—and elaborate on each point. Finally, I wrote A View on Affordable Housing (May 3, 2018) in response to a request from a Democratic member of the Senate Banking Committee to put in writing my recommendations for doing mortgage reform in a way that provides maximum benefits to the affordable housing community.

Bank-centric proposals for legislative reform. Since the first attempt at legislative mortgage reform—the Corker-Warner bill introduced in June 2013—there have been a number of proposals put out that would replace Fannie and Freddie with credit guaranty mechanisms that look and operate differently from the companies. I commented on four of these in three of my posts.

Getting Real About Reform (October 25, 2016) analyzes two proposals made earlier that year—“A More Promising Road to GSE Reform” from the Urban Institute and “Toward a New Secondary Mortgage Market” by Michael Bright and Ed DeMarco from the Milken Institute—that rely on risk sharing arrangements as a substitute for upfront equity capital; it concludes that they are unworkable “theoretical fantasies.” In Narrowing the Differences (April 25, 2017) I give the Mortgage Bankers Association credit for supporting the entity-based credit guaranty model of Fannie and Freddie, endorsing a risk-based approach to guarantor capital, and reversing their previous advocacy of mandatory credit risk transfers, but take issue with their insistence that legislation is required to achieve their “three major objectives” of reform (which I support). Waiting for Mr. Corker (February 5, 2018) critiques a draft of what then was called “Corker-Warner 2.0,” asking and answering the question: “how is it possible that a process begun almost a decade ago, which has had so many people working on it so intently for so long, could produce a result so empty and unimpressive?”  

The importance of capital. This is a topic I’ve addressed frequently, from two perspectives: the benefits of a properly designed and implemented risk-based capital standard to holding down guaranty fees and making them affordable and accessible to as broad a range of potential homebuyers as possible, and the negative consequences of requiring credit guarantors to hold excessive and unnecessary capital. Supporters of banks consistently have advocated that the credit guarantors of the future hold “bank-like” amounts of capital, using the arguments of a level playing field and taxpayer protection in support of their position. I’ve pointed out in numerous posts why bank-like capital is unwarranted for entities that take only mortgage credit risk, and also discussed how applying bank capital standards to single-family credit guarantors would force them to set guaranty fees at arbitrary and artificially high levels unrelated to the risk of the underlying loans, making them less competitive, raising mortgage rates, restricting access to affordable housing and driving more business to banks and Wall Street firms (which is what they want).

In The Right Choice on Capital (June 26, 2017) I explain in some detail why a true risk-based capital standard—and not a bank-like fixed capital ratio—is the only defensible choice for a single-family credit guarantor. This post was written with a specific audience in mind: the investment bankers, investors, and the professionals at Treasury and FHFA who would be involved in any effort to recapitalize Fannie and Freddie and release them from conservatorship. Comment on FHFA Capital Proposal (September 12, 2018) was aimed at essentially the same group of people. In June 2018 FHFA put out its proposal for a risk-based standard for Fannie and Freddie. I thought FHFA made a version of the mistake I warned against in The Right Choice on Capital by adding many elements of conservatism to push the companies’ total capital percentage unjustifiably close to bank levels, and in this post I discuss where and why FHFA’s initial effort needs to be changed before its capital regulation is made final.

Securitized credit risk transfers. The proposed mandatory use of securitized credit risk transfers (CRTs) by credit guarantors is another topic I’ve addressed often; I’ve done seven posts discussing CRTs, and made comments on them in many others. This frequency was driven by the fact that I was learning about Fannie’s Connecticut Avenue Securities and Freddie’s Structured Agency Credit Risk programs as I was writing about them, and also by my great concern that so many of the early reform proposals relied heavily on mandatory CRT issuance as a substitute for equity capital in a way that I knew was dangerous and ultimately unworkable. Fortunately, the more recent bank-supported reform proposals do not give CRTs such a prominent role, so I’ve had less reason to keep writing about them. Readers can get a good general summary of my views on CRTs from Risk Transfer and Reform (September 27, 2017), while the more technically inclined also may be interested in the data and analysis in Risk Transfers in the Real World (March 20, 2017).

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Howard on Mortgage Finance enters its fourth year with the same issues being discussed as when the blog began, but in my view with more clarity on the path to their resolution, due to two recent developments. The first was the mid-term elections last November, which moved the House under Democratic control, and the second was the decision by the Fifth Circuit Court of Appeals to hear the Collins case en banc. Divided control of Congress all but rules out legislative reform before the next presidential election, while the judges’ reaction to the oral argument in Collins all but assures that the legality of the net worth sweep will be decided by the Supreme Court, where the plain text of HERA and the undeniable fact pattern in the case will carry much more weight than they did in the lower courts.

These developments intersect in a way that is positive for a constructive conclusion to Fannie and Freddie’s ten-year old conservatorships. As I’ve discussed often in my posts, the strategy of the banks and their supporters to replace a secondary market mechanism built around Fannie and Freddie that works for consumers with one that works for themselves was dependent on banks convincing Congress of their false definition of the problem and the merits of their proposed solution to it. This deception is much less likely to work in an administrative reform process. The anti-Fannie and Freddie crowd knows that, which is why they now are kicking up so much dust trying to stall the process recently announced (perhaps prematurely) by acting FHFA director Otting. Opponents of the companies also know that the increased likelihood of the net worth sweep being reversed has put pressure on the administration to move more quickly.

In administrative reform, as at the Supreme Court, the facts will matter. I see the reform process over the next two years as being fundamentally a political exercise, with economic and legal constraints. The political challenge will be to come up with terms and conditions for the eventual release from conservatorship of Fannie and Freddie that are acceptable to whatever set of constituencies the administration believes it has to please (I wish I knew which those were) but that also work economically. In contrast to Congress, the senior staff at the Mnuchin Treasury and the investors who filed the lawsuits against the net worth sweep—and whose hand in my view has been strengthened by the oral argument in Collins—are highly unlikely to sign on to a proposal to recapitalize and release Fannie and Freddie that won’t work. This fact-based “real world” discipline will rule out many of the simple compromises now being written about, such as requiring Fannie and Freddie to hold 4 percent capital while subjecting them to utility-like return limits and restricting the scope of their business to significantly “reduce their footprint.” A company so constrained would have little if any chance of attracting the necessary new capital required for its release, and Treasury, its investment bankers and current investors understand that.

As the process of formulating a reform proposal that works politically, economically and legally plays out over the course of this year and perhaps the next, I will continue to put up blog posts when I have something new or different to say, and to respond to questions and observations from readers in the comments section. But followers of the blog also may benefit from rereading many of the posts identified here, because the facts, analyses and dynamics discussed in them won’t change, and will remain relevant.