Fannie Mae and Freddie Mac, as it turns out, were a pleasant fiction. The quasi-government guarantors of mortgage loans seemed like a good deal for Americans during all the years when they helped guarantee the availability of affordable, long-term home loans without any apparent cost — and, at times, with great private gain for their shareholders. But their true cost became all too real when the government's implicit guarantee of Fannie and Freddie was made explicit during the housing crisis. The Bush administration, and the Obama administration after it, pumped $188 billion in borrowed taxpayer money into stabilizing Fannie and Freddie, lest they collapse altogether and turn the Great Recession into another Great Depression.
Five years later, Fannie and Freddie have essentially crowded the private sector out of the housing market. They now guarantee nearly 90 percent of all home loans, putting taxpayers at arguably even greater risk than before. Mortgage rates are at historically low levels, yet many qualified borrowers can't get loans. The housing industry is recovering — sales, prices and new starts are up — but it is still not yet at a healthy level, and it remains a drag on the economic recovery.
President Barack Obama waded into this precarious situation Tuesday in a speech in Phoenix, a city hit hard by the foreclosure crisis, with a proposal to gradually wind down Fannie and Freddie and replace them with a predominantly private financing system for home mortgages. Though he did not go into great detail, his ideas more or less follow legislation drafted by a bipartisan group of senators led by Mark Warner, a Virginia Democrat, and Bob Corker, a Tennessee Republican.
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The idea is that Fannie and Freddie would lose their implicit guarantee of government backing and would gradually liquidate their portfolios. Instead, private investors would bear the primary risk for the mortgages they issue and would be required to carry enough capital to cover significant losses. Meanwhile, a new government agency would regulate their activity and provide a backstop against losses. The agency would pay for itself (and additional housing efforts like aid to borrowers and support for the construction of affordable rental properties) through a fee assessed on mortgage-backed securities.
Such a system would likely increase the cost of borrowing somewhat, but what that really represents is the actualization of the unstated (and unassessed) cost we as taxpayers have assumed for decades by implicitly backing Fannie and Freddie. Previously, the extent of that commitment has been vague. This plan would make it transparent. In theory, it would work much like the Federal Deposit Insurance Corporation, which guarantees deposits in regulated banks.
But as might be expected of any idea that has the backing of the White House and senators from both parties, it is likely dead on arrival in the Republican-controlled House of Representatives. The GOP majority there has no love of Fannie and Freddie, to be sure, but House conservatives want a much smaller role for the government in the housing market, with public help limited to loans for low-income borrowers, if even that.
The practical impact of such a change would likely be the near-extinction of the 30-year fixed mortgage. While that kind of loan has long been considered the standard in America — and the rise of other products during the 2000s shoulders much of the blame for the financial crisis — it is uncommon in other countries. Without some role for the government in backing mortgages, the dream of homeownership will vanish for many.
There is certainly a case to be made that Washington went too far over the years in encouraging universal homeownership — Mr. Obama acknowledged as much in Phoenix on Tuesday, saying, "that's a mistake we shouldn't repeat" and urging more investment in affordable rental housing. However, there's a difference between rebalancing our housing policy and suddenly pulling the rug from under a sector that makes up a fifth of our economy.
What President Obama called the "heads we win, tails you lose" model of private profits and public obligation epitomized by Fannie and Freddie clearly needs to be reformed. But the government can and should play a constructive role in fostering the availability of affordable, long-term mortgages. We know that such a policy can be a key tool for building middle-class wealth; we just need to make sure its costs are clearly defined.