In our parents' day, people described secure investments as being as "safe as houses." Today, the public's confidence in the safety of homeownership has been severely shaken. The Dodd-Frank Act has several provisions designed to restore this confidence, but reforms also are needed in the operations of Fannie Mae and Freddie Mac.
Fannie Mae and Freddie Mac were established by Congress to facilitate and support a consistent secondary market in conventional mortgage loans. The government-sponsored enterprises perform this role by buying mortgages from lenders and selling mortgage-backed securities to investors. This process supplies the lender with capital to make additional mortgage loans to consumers.
The GSEs have become an essential feature of our system of housing finance. Yet the financial crisis revealed several fundamental flaws in the mission and operations of the GSEs. The administration and Congress now have the opportunity to address these flaws and to improve the operation of the secondary mortgage market, which will benefit homeowners and the economy.
The Financial Services Roundtable's Housing Policy Council has a proposal that brings together the best aspects of the government and private sector to reform the secondary market for housing finance. It would ensure a steady flow of reasonably priced mortgage finance to consumers, limit the exposure of taxpayers and provide a stream of funding for low-income rental housing.
We propose to replace the current GSEs with newly formed, privately capitalized companies that are federally chartered and strongly regulated. Like the GSEs, these companies would buy mortgages from lenders and sell mortgage-backed securities to investors. These companies also would assume the guarantee functions currently performed by the GSEs. That is, they would guarantee the payment of principal and interest to investors in mortgage-backed securities.
We call these entities "mortgage securities insurance companies." A strong, independent federal regulatory agency would issue federal charters and regulate these MSICs. This federal regulator also would have clear authority to unwind an MSIC if it failed.
MSICs would not be backed by the federal government. Instead, the government would provide a form of catastrophic insurance for investors in mortgage-backed securities created by the MSICs.
Private capital would stand before government backing through down payments by borrowers, private mortgage insurance, the capital of the MISCs, and a reserve fund of fees paid by the MSICs.
The MSICs would pay a premium to the government for this insurance coverage, and those fees would be collected and held in a reserve fund. The federal insurance would be used only if an MSIC ran out of capital and the reserve fund were exhausted, and it would cover only principal and interest payments on mortgage-backed securities.
Our proposal also would support low-income rental housing because MSICs would be required to transfer a stream of income to the Affordable Housing Trust Fund established by Congress in the Housing and Economic Recovery Act.
Our proposal would: encourage private-sector capital to support the secondary mortgage market; ensure a flow of reasonably priced conventional mortgages to borrowers; limit the role of the federal government and the risks taken by the taxpayer in the secondary mortgage market; and provide a flow of funding to support affordable owner-occupied and rental housing.
The transition from the GSEs to MSICs must be handled with care. There should be a winding down of the GSEs, and during the transition the government would have to ensure that its full faith and credit stands behind all debt obligations and mortgage-backed securities of the GSEs until such obligations mature or such securities are sold.
The challenges associated with change should not be a reason to delay or hesitate. We must ensure that the best features of the current system are maintained while providing a steady source of financing for mortgages, protecting taxpayers, and supporting low-income rental housing. It's time to reform the housing finance system, so that "safe as houses" means something again.