Housing Finance Reform Creeps Forward

After three years of ignoring the mortgage monsters, House Democrats now think Congress is moving too fast to get rid of them.

It has been nearly three years since the Treasury Department essentially took over the mortgage monsters Fannie Mae and Freddie Mac. Since then, little has been done to reform these government-sponsored enterprises (GSEs) that have, so far, devoured a taxpayer bailout of more than $150 billion.

But during a 10-hour House Financial Services subcommittee debate on Tuesday dealing with legislation to start the process of euthanizing the GSE creatures, congressional Democrats had only one message: "We're going too fast."

On tap was a set of eight, largely bipartisan bills that intentionally avoid the controversial parts of housing finance reform in order to get the ball rolling with a few small, but important changes. The legislation was designed to protect taxpayers and create space for the private sector to be able to compete with Fannie and Freddie in the secondary mortgage market.

The bills are sorely needed, as Fannie, Freddie, and other federal housing programs now support 90 percent of all new mortgages. And while the Financial Services Committee, under the leadership of Rep. Barney Frank (D-Mass.), ignored the problems with Fannie and Freddie, the new Republican majority has set its sights on ending the GSEs and replacing them with a privately capitalized mortgage finance market.

The long-overdue process began with two bills requiring Fannie and Freddie to sell off their combined $1.4 trillion portfolio of mortgages over the next five years and restricting them from buying new mortgages, or doing any other new business.

The need for this approach was outlined in a Treasury Department white paper published earlier this year where Treasury argued that the GSEs "were allowed to behave like government-backed hedge funds, managing large investment portfolios for the profit of their shareholders with the risk ultimately falling largely on taxpayers."
Both bills passed, with even Barney Frank, the patron saint of GSEs, voicing support.

Next up was a bill introduced by Rep. Randy Neugebauer (R-Texas), requiring Fannie and Freddie to raise the price they charge investors to guarantee payment on mortgage-backed securities, in order to bring them in line with the rates private companies would charge.

The GSEs have been able to dominate the mortgage market because the federal bailout subsidized their businesses and let them charge uncompetitively low rates. The language in the bill also echoes the Treasury white paper and the words of Treasury Secretary Tim Geithner, who has testified in support of increasing this so-called "g-fee." It also passed.

The fourth bill attacked a decision by banking regulators to exclude the GSEs from new rules requiring securtizers to hold onto some of the risk in the pools of mortgages they sell to investors. The "risk retention" rules were put in place by last year's short-sighted Dodd-Frank Act and are going to cause the private sector a myriad of problems, potentially leading to a wave of community bank closures.

By remaining exempt from these rules, Fannie and Freddie enjoy an obvious advantage over their private-sector competition. For the time being, both sides of the aisle appeared to understand this and the bill passed unanimously.

A proposal to end affordable housing goals—the gas that powered Fannie and Freddie over the risky lending cliff—met with more resistance and split the committee down partisan lines.

Another hotly debated bill would cut the pay of GSE staff to be more in line with federal employee compensation. Since the GSEs were effectively declared bankrupt and placed into "conservatorship" (read: regulators run the show), the top six executives have brought home $35.4 million combined. A nice salary for running bankrupt firms kept alive on the taxpayer's dime.

The rest of the proposed bills would tighten the regulatory screws on Fannie and Freddie. The ultimate idea is to wind them down over the next five years.

In the end, all eight bills passed the subcommittee. But they still have to get through the full committee, the House, the Senate, and then the president. That's a long way to go.

The Democrats, meanwhile, are doing everything they can to drag the process out. Even when they agreed with the Republicans, the Dems still spent hours bickering about the process and offering long amendments. They even staged a walk out at one point.

The only complaint the Democrats lodged with any merit was that the bills are not comprehensive enough. Similarly, The Wall Street Journal has criticized the legislative package for not setting an execution date for Fannie and Freddie. But there is still value in this piecemeal approach.

While it would be ideal to kill all housing subsidies and identify a clear end date for Fannie and Freddie in one bill, tackling each part of housing finance reform individually means everything gets thorough treatment and discussion. The piecemeal approach also means the process gets started now, with smaller bipartisan bills creating room for the private sector to start replacing government dominance in the housing market.

Once those reforms are in place, Congress can take up the more controversial parts of reform, such as defining the long-term structure of mortgage finance and debating taxpayer assistance for low-income households.
Realistically, it may take two years or more to complete this enormous task. So let's do what we can to get the capital flowing now.

Anthony Randazzo is director of economic research at Reason Foundation.