Washington is debating the elimination of Fannie Mae and Freddie Mac. Most agree these entities should go. The real debate is over what follows. If we are to avoid financial crises and taxpayer bailouts, we must not simply repeat this “private gains, social losses” model of mortgage finance.
Even absent Fannie and Freddie, the U.S. maintains a number of backstops for housing, including, but not limited to, the Federal Housing Administration, Veterans Affairs, the Federal Home Loan Banks, and the biggest of all, the Federal Reserve, which has purchased more than $1 trillion dollars in mortgage-backed securities. If we simply let Fannie and Freddie disappear, we will still lead the world in mortgage subsidies.
Ultimately, Fannie and Freddie are vehicles for banks to dump their bad bets onto to the taxpayer.
Subsidy defenders claim that without Fannie/Freddie, or something like them, the 30-year fixed mortgage would disappear. This is demonstrably false. Remember, Freddie wasn’t even created until 1970, while Fannie’s market share remained in the single digits between its creation in 1938 and 1980. The fact is that the 30-year fixed was widely available before Fannie and Freddie were significant players in the market.
One also only need look at the jumbo market to see an affordable, widely available 30-year fixed without an explicit government guarantee. About 60 percent of the jumbo market is fixed, whereas just over 70 percent of the Fannie/Freddie market is fixed.
None of this should be surprising, as what is special about the 30-year fixed is the interest rate risk, which Fannie and Freddie do not cover. They guarantee credit risk. The ultimate investors in their mortgage-backed securities are the ones who take the interest rate risk. If these investors can manage the interest rate risk inherent in an MBS, then they can also do so for individual loans.
Perhaps worst of all is that Fannie and Freddie appear to have delivered little in the way of benefits. By 1969, the national home ownership rate reached 64.3 percent. At this time, the percent of mortgages securitized was in the low single-digits and the secondary market was irrelevant. Since the growth of Fannie and Freddie, the long run home ownership rate has been unchanged. The cost of the 30-year mortgage relative to Treasuries has actually increased as their market presence grew. So what exactly have these entities delivered over than higher and higher levels of household debt?
Ultimately, Fannie and Freddie are vehicles for banks to dump their bad bets onto to the taxpayer. It is time the mortgage industry to take its hand out of the taxpayer’s pocket.