WORD ON THE STREET: In the wake of the financial crisis, private capital has not sufficiently returned to the mortgage market, leaving Fannie Mae, Freddie Mac, the Federal Housing Administration and Ginnie Mae to insure or guarantee more than nine out of every 10 new mortgages. Under normal market conditions, the essential components of housing finance – buying houses, lending money, determining how best to invest capital and bearing credit risk – should be private-sector activities.
We will work closely with the Federal Housing Finance Agency (FHFA) to determine the best way to responsibly reduce Fannie Mae and Freddie Mac's role in the market and ultimately wind down both institutions. This objective can be accomplished by gradually increasing guarantee pricing at Fannie Mae and Freddie Mac, as if they were held to the same capital standards as private institutions; reducing conforming loan limits by allowing the temporary increases enacted in 2008 to expire as scheduled on Oct. 1; and gradually increasing the amount of private capital that risks loss ahead of taxpayers through credit loss protections from private entities and gradually increased down-payment requirements. We also support the continued wind-down of Fannie Mae and Freddie Mac's investment portfolios at a rate of no less than 10% annually.
I want to emphasize that it is very important that we wind down Fannie Mae and Freddie Mac at a careful and deliberate pace. Closing the doors at Fannie Mae and Freddie Mac without consideration of the pace of economic recovery could shock an already-fragile housing market, severely constrain mortgage credit for American families and expose taxpayers to unnecessary losses on loans the institutions already guarantee. It is ultimately in the best interest of the economy and the country to wind down Fannie Mae and Freddie Mac in a responsible and prudent manner.
Treasury estimates show that the net cost of our support for Fannie and Freddie will total approximately $73 billion through 2021 – 44% lower than the $134 billion in net investments requested or drawn to date. This estimate is consistent with the FHFA's stress tests, which have proven to be appropriately conservative. Costs have already begun to decline: In the third and fourth quarters of 2010, the combined net costs to the taxpayers of Fannie Mae and Freddie Mac decreased by approximately $2 billion, largely as a result of the recovering housing market and reforms instituted by FHFA as conservator. Minimizing loss to the taxpayer will continue to be a priority during the reform process, and many of the steps we lay out in our plan are likely to help us further reduce the ultimate cost.
The Obama administration is fully committed to ensuring Fannie Mae and Freddie Mac have sufficient capital to perform under any guarantees issued now or in the future, as well as the ability to meet any of their debt obligations. Ensuring these institutions have the financial capacity to meet their obligations is essential to maintaining stability in the housing finance market and the broader economy. During the transition, it is also important that the operations of Fannie Mae and Freddie Mac continue to serve the market and the American people, including retaining the human capital necessary to effectively run both institutions.
As we decrease Fannie Mae and Freddie Mac's presence in the market, we will also scale back the Federal Housing Administration (FHA) to its more traditionally targeted role. We support decreasing the maximum loan size that qualifies for FHA insurance – first by allowing the present increase in those limits to expire as scheduled on Oct. 1 and then by reviewing whether those limits should be further decreased going forward.
We will also increase the pricing of FHA mortgage insurance. The FHA has already raised premiums twice since the beginning of this administration, and an additional 25 basis-point increase in the annual mortgage insurance premium is included in the president's 2012 Budget and will be levied on all new loans insured by the FHA as of mid-April 2011. This will continue ongoing efforts to strengthen the capital reserve account of the FHA and align its pricing structure in a more appropriate relationship with the private sector, putting the program in a better position to gradually return to its traditional and more targeted role in the market.
The administration also supports reforms at the Federal Home Loan Banks (FHLBs) to strengthen the FHLB system, which provides an important source of liquidity for small- and medium-sized financial institutions. These reforms include instituting single-district membership, capping the level of advances for any institution and reducing the FHLBs' investment portfolios.
We also believe it is appropriate to consider additional means of advance funding for mortgage credit as a part of the broader reform process, including potentially developing a legislative framework for a covered-bond market. We will work with Congress to explore opportunities in this area.
Addressing fundamental flaws
Winding down Fannie Mae and Freddie Mac, as well as implementing reforms at the FHA and the FHLBs, however, is only one side of the coin. These steps alone will not give rise to a housing finance market that meets the needs of families and communities, nor will it guarantee that private markets can effectively play a predominant role. We must also pursue reforms that restore confidence in the mortgage market among borrowers, lenders and investors.
The administration supports the strong implementation of reforms to help address pre-crisis flaws and rebuild trust and integrity in the mortgage market. Taken together, these reforms will improve consumer protection; support the creation of safe, high-quality mortgage products with strong underwriting standards; restore the integrity of the securitization market; restructure the servicing industry; and establish clear and consolidated regulatory oversight. The Dodd-Frank Act laid the groundwork for many of these reforms. We will implement its provisions in a thoughtful manner to protect borrowers and promote stability across the housing finance markets.
The Treasury is currently coordinating critical reforms to the securitization market that will require originators and securitizers to retain risk, including coordinating an interagency process to determine the parameters for Qualified Residential Mortgages (QRMs) under the Dodd-Frank Act. This summer, the Consumer Financial Protection Bureau will assume authority to set new rules to curb abusive practices, promote choice and clarity for consumers, and set stronger underwriting standards. Federal regulators will require banks to increase capital standards, including maintaining larger capital buffers against higher-risk mortgages that have a greater risk of default.
The Treasury is also actively participating in interagency efforts to design and implement near-term reforms that will help correct chronic problems in the servicing industry, which has proven especially ill-equipped to deal fairly and efficiently with the sharp increase in the number of families facing foreclosure. Right now, we are working together to design national servicing standards that better align incentives and provide clarity and consistency to borrowers and investors regarding their treatment by servicers, especially in the event of delinquency. Our work includes identifying ways to reduce conflicts of interest between holders of first and second mortgages and improving incentives for servicers to work with troubled borrowers to avoid foreclosure.
Alongside these efforts, the Treasury, the Department of Housing and Urban Development, and the Department of Justice are coordinating the administration's interagency foreclosure task force, which comprises 11 federal agencies and also works closely with the state attorneys general. In light of reports of misconduct in the servicing industry, the task force is currently reviewing foreclosure processing, loss mitigation and disclosure requirements at the country's largest mortgage servicers. Those that have acted improperly will be held accountable.
Tim Geithner is secretary of the U.S. Treasury Department. This article was adapted from testimony Geithner delivered to the Senate Banking Committee March 15. To read his complete testimony, click here.
