While it was positive to see Congress finally move last week toward bolstering oversight of Freddie Mac and Fannie Mae, a bill approved by the Senate Banking Committee failed to strike the right balance between responsibly reining in the companies and excessively cordoning off growth. The bill, sponsored by Sen. Richard Shelby, seems a mix of window dressing and overreach.
The most drastic provision of the bill would give a new regulator the ability to force the companies into receivership, should they become insolvent. This would erode a common belief that the companies, which own or guarantee 42 percent of U.S. mortgages, are backed by the federal government. It also could raise the companies’ borrowing costs and, consequently, make mortgage borrowing more expensive. But materially, the provision would do little to insulate the federal government from mortgage-related risk. The provision would simply shift the risk around and probably make it less predictable.
Since the federal government already backs depositaries that hold mortgages, it is exposed to mortgage-related risk. The risk of depositaries is relatively diverse, while about 90 percent of Freddie’s and Fannie’s portfolio is long-term fixed-rate mortgages. Their exposure is, therefore, easier to gauge than that of depositaries. And while the provision sounds tough, it is difficult to imagine it ever being used, given political realities.
Forcing the companies into receivership would be a political decision. If the companies were ever seriously facing the threat of receivership, the economy would be in crisis mode. Under those circumstances, “nobody’s going to have the guts to pull the trigger,” said Susan Woodward, founder of Sand Hill Econometrics. That political reticence could be positive, though, if it gives the companies time to recover.
More positively, the bill calls for giving the companies’ regulator greater flexibility in setting capital requirements, such as the discretion to require the companies to become better insulated against interest-rate risk.
What remains disconcerting, though, is the appearance that lawmakers are trying to re-engineer the economic landscape. Housing construction and purchases are an important part of the overall economy, with each representing about 1 percent to 2 percent of gross domestic product. Housing purchases have lately been a particularly important driver of economic growth, but some in Washington seem to believe that, if investment in housing were checked, other aspects of the economy would benefit. This seems a risky calculation, particularly when considering that Freddie and Fannie have remained well capitalized even during periods of economic turmoil, such as September 11 and the 1998 Russian market crash. Also, there are social benefits to homeownership that some in Washington may not be tallying.
There is a wise and broad consensus in Washington that Freddie and Fannie need a more vigorous regulator. It is because of Freddie’s and Fannie’s importance that better oversight is needed. Given that importance, though, lawmakers must carefully weigh the potential financial impact of new legislation and err on the side of restraint.
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