The Institute for Health Metrics and Evaluation at the University of Washington provides a forecasting model respected and used by the White House Coronavirus Task Force to plan the response to the COVID-19 pandemic. Last Sunday it revised its fatality projections downward to 81,766 deaths (range 49,431 to 136,401) by early August, with the peak day occurring on April 16. It now projects 60,401 deaths (range 31,221 to 126,703) by August 4, with a peak day of April 11.

This is very encouraging news. As Dr. Anthony Fauci of the task force previously stated, “Models are as good as the assumptions you put into them.” And as more data come in and we develop more knowledge about the virus’ impact, the assumptions put into the models change and the projections change with them.

These improved projections are little comfort to the people living in the New York/​New Jersey metropolitan areas, as well other highly impacted areas such as New Orleans or Detroit, whose health systems are overwhelmed and whose fatality rates are striking, But it is important to bear in mind that different portions of the country are experiencing different case rates and fatality rates.

As the Wall Street Journal pointed out in its April 8 editorial, demographic and geographical differences probably explain a lot about these variations. That’s why I have argued that policies implemented in response to the public health emergency should not be one‐​size‐​fits‐​all, but should be customized to fit the facts on the ground in various regions of the country based upon local knowledge. California, which began its statewide lockdown on March 22, just three days before New York, had 485 fatalities reported on April 8, compared to New York which had 6,268 fatalities. It is reasonable to ask if the same policies that are appropriate in New York are completely necessary in California. It is also reasonable to ask if perhaps Californians were exposed to COVID-19 months ago, and herd immunity may have already developed there, slowing the virus’ spread. (More on that later.)

Speaking of local knowledge, on March 16 the Food and Drug Administration responded to criticisms that its cumbersome regulatory process is slowing the development and release of COVID-19 tests by delegating authority to the states to approve tests within their borders.

Public health officials are hoping that tests for antibodies, which indicate if a person has already had the infection and therefore developed immunity, will soon become widely available. This is key to a plan in Germany: people there who display immunity will be given “immunity certificates” and allowed to go back to work. They can’t become infected and can’t infect any contacts.

The FDA finally gave emergency use authorization for an antibody test made by the biotech company Cellex on April 4. However, it specified that the manufacturer must state on the test label that it is not formally FDA‐​approved, and testing is limited to FDA‐​certified labs. The tests are not available to private labs or for home testing. They should be available soon.

While we wait—and exercising the authority delegated to it by the FDA—California, on April 1, allowed an antibody test made by Premier Biotech to be used by ARCpoint Labs, a commercial laboratory in Monterey, CA. The test is not FDA‐​approved.

And on April 3 researchers at Stanford University School of Medicine began a study using that same Premier Biotech test, hoping to learn if California’s low fatality rate might be the result of herd immunity. California is the number one U.S. tourist destination for people from China. Chinese health authorities recently revised the date that they believe the COVID-19 virus came on the scene in Wuhan, from early January to early November. The Stanford researchers believe it might have developed even earlier, and was being brought to California by asymptomatic or mildly symptomatic Chinese tourists in the fall—when California doctors were reporting an earlier than usual flu season.

On April 3^rd and 4^th the Stanford researchers performed the test on 3,200 people at sites in San Jose, Los Gatos, and Mountain View. The tests just take a few minutes to run. They hope to complete the study and release their findings in the next few weeks. Meanwhile, ARCpoint Labs has already conducted 500 of the tests, with some positive results, and is sending in all of the results to the Monterey County Health Department.

If it turns out that Californians are approaching herd immunity, life there can return to normal sooner than the national models would otherwise predict.

California provides a good example here of how decentralization and deregulation, using local knowledge, can produce rapid and community‐​specific responses when unexpected emergencies arise.

That appears to be the case. The Los Angeles Times calls it “seizing,” but it amounts to the same thing as these are legal products that the government did not order. The White House and FEMA are swooping in to grab masks, thermometers, and other items in a secretive process with apparently little recourse.

These actions are abusive from a civil liberties perspective, and such command‐​and‐​control methods make no practical sense either. As I discuss here, here, and here, central planning is the wrong way to go for disaster planning and response, as it will make the nation less safe and resilient.

Los Angeles Times reporter Noam M. Levey describes what is going on:

Although President Trump has directed states and hospitals to secure what supplies they can, the federal government is quietly seizing orders, leaving medical providers across the country in the dark about where the material is going and how they can get what they need to deal with the coronavirus pandemic.

Hospital and clinic officials in seven states described the seizures in interviews over the past week. The Federal Emergency Management Agency is not publicly reporting the acquisitions, despite the outlay of millions of dollars of taxpayer money, nor has the administration detailed how it decides which supplies to seize and where to reroute them.

Officials who’ve had materials seized also say they’ve received no guidance from the government about how or if they will get access to the supplies they ordered.

… In Florida, a large medical system saw an order for thermometers taken away. And officials at a system in Massachusetts were unable to determine where its order of masks went.

… PeaceHealth, a 10‐​hospital system in Washington, Oregon and Alaska, had a shipment of testing supplies seized recently. “It’s incredibly frustrating,” said Richard DeCarlo, the system’s chief operating officer.

… In response to questions from The Times, a FEMA representative said the agency, working with the Department of Health and Human Services and the Department of Defense, has developed a system for identifying needed supplies from vendors and distributing them equitably….But the agency has refused to provide any details about how these determinations are made or why it is choosing to seize some supply orders and not others.

… Hospital and health officials describe an opaque process in which federal officials sweep in without warning to expropriate supplies.

Jose Camacho, who heads the Texas Assn. of Community Health Centers, said his group was trying to purchase a small order of just 20,000 masks when his supplier reported that the order had been taken.

Camacho was flabbergasted. Several of his member clinics — which as primary care centers are supposed to alleviate pressure on overburdened hospitals — are struggling to stay open amid woeful shortages of protective equipment.

“Everyone says you are supposed to be on your own,” Camacho said, noting Trump’s repeated admonition that states and local health systems cannot rely on Washington for supplies. “Then to have this happen, you just sit there wondering what else you can do. You can’t fight the federal government.”

Introduction

In a recent article (“The Risk of Too Much Air Safety Regulation,” Regulation, Spring 2020), we argued that reflexive overregulation of air safety following the two tragic crashes of Boeing’s 737 Max aircraft could easily cost many more lives that it saves. This observation follows from the fact that increased air safety regulation would force Boeing to reflect these higher regulatory compliance costs in price increases for new aircraft. This price‐​cost dynamic would drive up airfares and thereby divert some proportion of travelers from the low‐​risk skies to the high‐​risk highways. Because it is over 100 times more hazardous to drive than to fly on a per‐​mile basis, the lives saved in the air would be swamped by the far greater number of lives lost on the roadways. This analysis was the basis for our public policy counsel that investment in air‐​safety regulation is properly focused on minimizing the net number of lives lost across all viable modes of travel rather than air travel alone.

The purpose of this commentary is to extend our previous analysis to include the increased number of serious injuries that are likely to result from an increase in air‐​safety regulation in the aftermath of the two crashes of the Boeing 737 Max airliners. From a public policy perspective, the results of this supplemental analysis are no less concerning than the original analysis given the dramatic increase in the net number of injuries induced by an increase in air safety regulation. The risk of injury in driving is almost 24,000 times greater than that of flying on a per‐​mile basis. The roads are dangerous and deadly—the skies are markedly less so.

The Grim Statistics

According to the National Transport Statistics, in 2017 there were 0.233 injuries reported per 100 million aircraft miles compared with an alarming 85 injuries reported per 100 million motor vehicle miles (Tables 2–9 and 2–17). This represents a 365‐​fold difference (85 ÷ 0.233) in injuries across the two modes of travel.

Airplanes, of course, carry many more passengers per mile of travel than motor vehicles. In 2017 airplanes traveled 6,338 million miles (Table 1–35) resulting in 693,818 million passenger miles (Table 1–40) for an average occupancy of 109.47 (693,818 ÷ 6,338) while motor vehicles traveled 3,212,347 million miles (Table 1–35) resulting in 5,502,417 million passenger miles (Table 1–40) for an average occupancy of 1.71 (5,502,417 ÷ 3,212,347).

If one uses these data to convert the injury rates from a vehicle‐​mile to passenger‐​mile basis, the result is 0.0021 injuries reported per one‐​hundred million aircraft passenger‐​miles (.233 ÷ 109.47) compared to 49.7 injuries reported per one‐​hundred million motor vehicle passenger‐​miles (85 ÷ 1.71). This implies that, on average, the risk of injury is approximately 23,667 (49.7 ÷ 0.0021) times greater when traveling by motor vehicle than traveling by airplane on a per passenger‐​mile basis.

Estimating the Injuries From New Air‐​Safety Regulation

Because Boeing was recertifying an existing aircraft (the 737 was initially certified in 1967) as opposed to certifying a new aircraft, it received a FAA (Federal Aviation Administration) waiver for a pilot‐​alert system on the 737 Max that is required of new aircraft and that would have cost $10 billion to implement. The pilot‐​warning system is a central focus of the FAA’s accident investigation into the 737 Max crashes.

We estimated in our previous article that the $10 billion expenditure on the pilot‐​alert system would have raised airfares by approximately 10.52% and resulted in a 0.63% increase in highway passenger‐​miles. This equates to an additional 347 hundred‐​million passenger‐​miles driven. (This is based on a cross‐​price elasticity between air and automobile travel of 0.06 and a base of 55,024.2 one‐​hundred million passenger‐​miles.) The product of 347 and 49.7 (injuries per one‐​hundred million motor vehicle passenger miles) implies that an estimated additional 17,246 injuries on the roadways would occur because of the regulation‐​induced increase in airfares. Assuming a one‐​to‐​one correspondence between the increase in miles driven and the decrease in miles flown, an estimated 0.7287 (347 × .0021) injuries would have been avoided in the air as a result of this increase in airfares. Hence, the net number of injuries induced by the increase in air safety regulation is approximately 17,245 (17,246 – 0.7287).

Investigation into the Boeing 737 Max crashes revealed that the actual task of air‐​worthiness certification was not carried out by government inspectors but (incredibly) by Boeing employees. If those certification functions currently conducted by Boeing were taken over by the FAA, the estimated cost is $1.8 billion and 10,000 employees. If this additional cost were paid by those who fly (and conservatively assuming there is no demand response in terms of reduced passenger air miles), this would result in an increase in airfares of approximately 1.9% resulting in an additional 62.7 one‐​hundred million motor vehicle passenger‐​miles driven (0.019 × 0.06 × 55024.2). The increase in the number of highway injuries induced by this change in regulation is approximately 3,116 (62.7 × 49.7). Because significantly less than one injury is avoided in the air because of the decreased air travel as a result of this increase in airfares and the very low injury rate in air travel, the net number of injuries induced by this change in regulation is essentially simply the increase in highway injuries.

Conclusion

The FAA’s investigation into the 737 Max crashes is ongoing and some troubling facts have already surfaced; more are certain to follow. These observations notwithstanding, the fact that the technology exists that could have saved lives and avoided injuries in the air does not imply that it would have been prudent to implement those safety measures. Policymakers must not be myopic in their zeal “to do something.” They must, of necessity, exercise due diligence so as not to implement costly air safety measures that drive up airfares and cause consumers to substitute high‐​risk highway travel for low‐​risk air travel. As we stated in our original article and reiterate here, from a public policy perspective the greatest risk confronting the traveling public is not airplanes falling out of the sky, but rather reflexive over‐​regulation of air safety that on balance costs far more lives than it saves and causes far more injuries than it avoids.

Amid a nationwide ventilator shortage, hospitals are facing increasing pressure to make difficult decisions. In preparation for such a shortage one doctor at the University of Mississippi Medical Center, Charles Robinson, had an idea to build the “absolute simplest, cheapest functioning ventilator from widely available parts.”

“The Robertson Ventilators are made from garden hose sections, adapters, valves, a solenoid and a lamp timer, all of which can be bought at a hardware store or online. The parts cost less than 100 dollars per ventilator and can be assembled in less than an hour. The ventilator works when plugged into the standard oxygen line in a hospital room, meaning it can be used in more locations than a standard ventilator.”

Dr. Robertson and his team designed and build 170 of these ventilators, more than doubling the hospital’s supply. The ventilators have been extensively tested and are ready for use, but until the FDA approves an Emergency Use Authorization the life‐​saving equipment will sit idle.

Critically ill patients may not have the luxury of time. The FDA has already contributed to the severity of the pandemic by delaying approval of coronavirus tests. The FDA’s mission statement claims, in part, that they are, “responsible for advancing the public health by helping to speed innovations.” But so far during this pandemic we have seen significant bureaucratic obstacles and costly delays. The sooner this stops, the better.

The former CEO of the Bill and Melinda Gates Foundation, Susan Desmond‐​Hellmann, discussed ways to prepare for the next pandemic in the Wall Street Journal:

First, there is no substitute for federal preparedness when it comes to ensuring a ready supply of personal protective gear. Companies like Apple and Facebook stepped up to donate masks they had stockpiled when California wildfires pushed them to protect their staff, and other private companies were able to leverage their global supply chains to pitch in. As grateful as we should be for these efforts, it’s not the private sector’s job to save us in a public health emergency.

It is the role of the federal government to adequately stockpile and plan for a pandemic. Clear accountability on the National Security Council, matching the authority that already exists for the military procurement and supply chain, would allow asset allocation to the states and regions in greatest need. It would avoid what we see today, with states competing against each other for vital supplies.

Alas, I fear that is a harmful message—that the nation should rely on the federal government to do the planning and stockpiling for crises. Such reliance would undermine incentives for the states, hospital systems, and other institutions to build their own inventories of emergency supplies. A diversity of approaches and distributed supplies will create more resilience than putting all our eggs in one basket, especially when the one basket is the failure‐​prone federal government.

Desmond‐​Hellmann wants a military‐​style “authority,” but such a centralized structure would produce inferior decisions because, as Walter Olson noted, state leaders have more knowledge of local resources, hazards, and priorities. Also, experience shows that federal intervention can slow disaster response by adding layers of unneeded rules.

In the current crisis, federal intervention into medical supply chains is creating confusion. The Los Angeles Times reported yesterday that “the federal government is quietly seizing orders, leaving medical providers across the country in the dark about where the material is going and how they can get what they need to deal with the coronavirus pandemic.” A new CNN report similarly describes the confusion and complexity that FEMA and White House manipulation of medical supplies is creating.

During his daily briefings, President Trump seems to relish acting like a central planner dishing out ventilators and masks here and there to various states. But the LAT and CNN reports suggest that the nontransparency of federal seizures—basically theft—is creating anger and uncertainty in the medical community.

Desmond‐​Hellmann thinks that federal stockpiling would avoid “states competing against each other for vital supplies.” But wouldn’t it do the opposite? The larger the share of the nation’s medical supplies controlled by the federal government, the more intense the political jockeying would be because states and hospital systems would face more uncertainty and desperation.

People may think that federal coordination is needed during disasters, but the states coordinate among themselves all the time. As I discuss here, the states have a standing agreement (EMAC) to share assets during disasters such as hurricanes. When Hurricane Katrina hit in 2005, Florida rushed its stockpile of emergency supplies to Louisiana. During wildfires, the states share firefighters and equipment. Similarly, electric utilities share crews and equipment during disasters. Where I live in Virginia, utility trucks have come in from other states to assist after storms have knocked out power. Such horizontal cooperation is more efficient than vertical control through Washington, which adds regulations, delays, and politics.

The federal government has important roles to play during disasters. The military has unique assets that can be crucial, such as Navy hospital ships during the current crisis and Coast Guard vessels during hurricanes. And it does make sense for the federal government to have backup supplies of critical medicines and other resources. But federalism should underpin disaster preparation and response, and emergency supply systems should be mainly based on distributed stockpiling, markets, and horizontal cooperation.

Nine days ago, I noted here on this blog that “[s]o far, 54 countries have implemented some form of export restriction on medical supplies.” The number has increased since then, and it appears that the United States will be joining the club.

Last week, President Trump issued a “Memorandum on Allocating Certain Scarce or Threatened Health and Medical Resources to Domestic Use,” which including the following passage about personal protective equipment (PPE):

On March 25, 2020, the Secretary of Health and Human Services designated under section 102 of the Act 15 categories of health and medical resources as scarce materials or materials the supply of which would be threatened by accumulation in excess of the reasonable demands of business, personal, or home consumption, or for the purpose of resale at prices in excess of prevailing market prices (“scarce or threatened materials”). These designated items include certain PPE materials. To ensure that these scarce or threatened PPE materials remain in the United States for use in responding to the spread of COVID-19, it is the policy of the United States to prevent domestic brokers, distributors, and other intermediaries from diverting such material overseas.

An accompanying statement clarified:

Nothing in this order will interfere with the ability of PPE manufacturers to export when doing so is consistent with United States policy and in the national interest of the United States.

The memorandum was a bit strangely worded, and these kinds of announcements from the Trump administration sometimes don’t lead to much, so I wondered where this was going. But now it has gone somewhere. Last night, FEMA put out a temporary final rule (scheduled for publication in the Federal Register on April 10) entitled “Prioritization and Allocation of Certain Scarce or Threatened Health and Medical Resources for Domestic Use.” This rule will give FEMA the authority to block exports of PPE (such as N95 respirators, gloves, and masks) in particular circumstances. The key part of the rule states:

Following consultation with the Secretary of HHS; pursuant to the President’s direction; and as an exercise of the Administrator’s priority order, allocation, and regulatory authorities under the Act, the Administrator has determined that the scarce or threatened materials identified in the April 3, 2020 Presidential Memorandum (“covered materials”) shall be allocated for domestic use, and may not be exported from the United States without explicit approval by FEMA. See new 44 CFR 328.102(a).

The rule is necessary and appropriate to promote the national defense with respect to the covered materials because the domestic need for them exceeds the supply. Under this temporary rule, before any shipments of such covered materials may leave the United States, CBP will detain the shipment temporarily, during which time FEMA will determine whether to return for domestic use, issue a rated order for, or allow the export of part or all of the shipment under section 101(a) of the Act, 50 U.S.C. 4511(a). FEMA will make such a determination within a reasonable time of being notified of an intended shipment and will make all decisions consistent with promoting the national defense. See new 44 CFR 328.102(b). FEMA will work to review and make determinations quickly and will endeavor to minimize disruptions to the supply chain.

In determining whether it is necessary or appropriate to promote the national defense to purchase covered materials, or allocate materials for domestic use, FEMA may consult other agencies and will consider the totality of the circumstances, including the following factors: (1) the need to ensure that scarce or threatened items are appropriately allocated for domestic use; (2) minimization of disruption to the supply chain, both domestically and abroad; (3) the circumstances surrounding the distribution of the materials and potential hoarding or price‐​gouging concerns; (4) the quantity and quality of the materials; (5) humanitarian considerations; and (6) international relations and diplomatic considerations.

This rule contains an exemption that the Administrator has determined to be necessary or appropriate to promote the national defense. See new 44 CFR 328.102(c). Specifically, the Administrator has determined that FEMA will not purchase covered materials from shipments made by or on behalf of U.S. manufacturers with continuous export agreements with customers in other countries since at least January 1, 2020, so long as at least 80 percent of such manufacturer’s domestic production of covered materials, on a per item basis, was distributed in the United States in the preceding 12 months. The Administrator decided that this exemption is necessary or appropriate to promote the national defense because it would limit the impact of this order on pre‐​existing commercial relationships, in recognition of the importance of these commercial relationships to the international supply chain, and for humanitarian reasons, in consideration of the global nature of the COVID-19 pandemic. If FEMA determines that a shipment of covered materials falls within this exemption, such materials may be transferred out of the United States without further review by FEMA, provided that the Administrator may waive this exemption and fully review shipments of covered materials subject to this exemption for further action by FEMA, if the Administrator determines that doing so is necessary or appropriate to promote the national defense. FEMA may develop additional guidance regarding which exports are covered by this exemption, and encourages manufacturers to contact FEMA with specific information regarding their status under this exemption.

What does all this mean in practice? What impact will the rule have on exports of PPEs? How many exports will fall under the exemption described in the last paragraph? It’s hard to say and we’ll have to see how FEMA applies the rule. It is possible that FEMA will apply it strictly and try to divert a fair amount of these products to the domestic market rather than let them be exported. It is also possible that FEMA will apply it flexibly, and only block exports if they would clearly undermine coronavirus‐​related global health policy. In making its decision on whether to allow export, FEMA is supposed to consider a number of factors, including “humanitarian considerations” and “international relations and diplomatic considerations.” Blocking exports of medical supplies being sent abroad to help people in other countries would seem to undermine those goals.

Generally speaking, I’m not too worried about the existence of regulations like this one in principle. It seems to me that governments should be tracking where these products are right now, in order to coordinate with each other and help those most in need at a given time. If an export regulation such as this one is used mostly as a monitoring mechanism, to track where these products are being sold, it would be fine. And to take an extreme hypothetical, if it were used to prevent an order being shipped somewhere for a big halloween party where everyone wants to wear surgical masks, that’s OK too. And it’s even all right if governments keep the products in their country if they are at the peak of the crisis while the export destination country hasn’t been hit yet.

The key is to talk to other governments about what you are doing. The exercise shouldn’t be a purely unilateral one. The instruction in the rule to take into account “international relations and diplomatic considerations” should serve as the basis for cooperating with other countries in the implementation of this rule. Let’s hope it does. If the Trump administration uses the regulation as a way to hoard medical supplies, it’s going to cause retaliation by our trading partners in the short– and long‐​terms, as they apply tough export restrictions of their own and begin to lose trust in the United States as a reliable trading partner. Hoarding is not the answer here. Instead, governments should focus on encouraging increased production and should work together to make sure those with the greatest need have access to the necessary supplies.

While it appears the combination of ample liquidity injections by the Fed and soft loans guaranteed by the Small Business Administration has managed to ease concerns of a looming and massive cash crunch across the economy, there is at least one group of financial firms that has yet to see any respite: mortgage servicers. These are the companies that collect mortgage payments and pass them on to the investors who hold mortgage‐​backed securities (MBS). For that service, they collect a fee.

But now that officials have declared a moratorium on mortgage payments for all distressed borrowers, mortgage servicers are in trouble. By contract with the main guarantors of MBS—Fannie Mae, Freddie Mac, and Ginnie Mae (all government‐​run)— they are supposed to continue paying investors even if borrowers become delinquent. Fannie & Co. ultimately make up for those payments, but there is a lag between nonpayment and reimbursement, which servicers must manage.

In ordinary circumstances, mortgage servicers usually have a capital cushion sufficient to handle the gap between borrower delinquency and reimbursement by the guarantor. But the government‐​mandated nature of the COVID-19 lockdown and the broad coverage of the moratorium mean that millions of borrowers are expected to go delinquent at once, for a period of as‐​yet‐​unknown length. Owing to this large and unforeseen event, mortgage servicers have warned that they will soon find themselves defaulting on their contracts unless the guarantors come to their rescue.

While I have little doubt that servicers will eventually benefit from some form of taxpayer‐​backed liquidity facility, the unfolding cash crunch is yet another instance of the ‘waterbed effect’ of regulation, whereby risky activity that regulatory interventions seek to discourage in one part of the market tends to re‐​appear in other parts that are exempt from such regulation. What’s more, the new hubs of the risky activity sometimes have other vulnerabilities that can set the stage for a worse crisis than the one regulators sought to avoid. I fear that may be happening now with mortgage servicing.

In 2013, banking regulators enacted strict capital requirements for mortgage servicing assets (MSAs) that have since discouraged banks from holding them. A rule issued last year eases MSA requirements for domestically focused banks under $250 billion, but the changes only kicked in last week and they cover at most 48.4 percent of U.S. banks by assets. (I say “at most” because some banks under $250 billion have more substantial foreign activities that disqualify them from the new rule.) Besides, many of these smaller banks are no longer involved in mortgage servicing and have no immediate plans to return to that line of business.

The original MSA capital rule hastened a shift of mortgage market activity (both origination and servicing) from banks to nonbanks after the 2008 financial crisis. Post‐​crisis litigation and Dodd‐​Frank regulations chased many banks away, while exemptions from general underwriting rules for mortgages purchased by Fannie and Freddie made it easier for nonbanks (which do not keep any of the mortgages they originate) to cater to their businesses. Regulation appears to be the most important, but not the sole, driver of the rise of nonbanks, which also tend to have superior technology that enables them to market, originate, and service mortgages more cheaply than most banks.

Nonbank mortgage servicers face no federal prudential requirements. And although they must meet conditions set by guarantors they wish to work with, these are typically less onerous than the ones regulators place on banks. Bankers complain that this differential treatment gives nonbanks a competitive edge. Nonbanks counter that this treatment is reasonable, since unlike the largest U.S. banks, they do not pose a systemic risk owing to their smaller balance sheets and the short period of time for which they hold mortgages. Moreover, nonbanks largely get their funding from banks, which themselves have access to emergency lending through the Fed’s discount window, and cheap funding thanks to FDIC insurance and the Federal Home Loan Bank system. In a somewhat circuitous way, therefore, nonbanks have (and pay for) access to the federal safety net.

But nonbanks also have distinct characteristics that make them less robust in times of stress. Whereas mortgage servicing has always been a small part of banks’ balance sheets—even when they dominated the market—many nonbanks specialize in this business. This lack of diversification makes them more vulnerable to a servicing cash crunch. And while nonbanks may claim their reliance on short‐​term bank funding as a virtue, such funding is also less stable than the insured deposit funding banks enjoy. Should banks turn off the tap, nonbanks will quickly find themselves in trouble. Nor could banks be accused of imprudent behavior if they did so, since mortgage servicing has suddenly become a very risky undertaking.

Many may be tempted to conclude that nonbank servicers’ current travails show that they should be subject to tighter capital and liquidity requirements. But while there may well be good arguments in favor of such a policy, today’s highly unusual circumstances form a doubtful foundation on which to base new rules, which could end up making mortgage credit unnecessarily expensive for many borrowers.

But the experience should prompt banking regulators to reevaluate their MSA capital rule. Mortgage servicing assets are a small share of the balance sheets of most banks, large and small. Indeed, they have dropped from over 10 percent of aggregate core bank capital before the 2008 crisis, to around 3 percent today. Allowing banks to take up a bigger share of mortgage servicing can therefore make the system safer, without increasing the cost of credit or exposing taxpayers to losses. The best way to keep a bulging waterbed from bursting is not to step on the bulge, but to take some weight off.

[Cross‐​posted from Alt‑M.org]