It is disquieting to see the frenzy around GSE reform in the absence of any fundamental analysis of what might be useful or essential in housing finance. It appears to be assumed that U.S. government guarantees are essential for the preservation of the TBA market and the 30-year fixed rate mortgage. But are the TBA market and the 30-year mortgage the the exclusive way to achieve housing policy goals? And what are those policy goals? There is no analysis of who needs government support and what the best form of support would be. No analysis of what types of mortgage loans are best for different population segments. Is a 15-year bi-weekly pay mortgage loan not better for some borrowers? Is the government's role credit enhancement or liquidity? Should the government guarantee loans or buy loans? Does the government need to protect the financial industry from borrower default or to preserve access to funding at reasonable rates for qualifying borrowers despite cyclical downturns? More fundamentally, who should be allocated interest rate risk? Credit risk? Prepayment risk? And is the answer the same for all mortgage loans? Should mortgage interest be deductible for federal income tax purposes? Should there be a limit? How big a house is essential? What are the minimum essential attributes and services of a house to qualify for government support? Solar panels? Internet access? Neighborhood schools? Playgrounds? Public transportation? What is the appropriate balance of rental housing? And should it be in single family or multi-family units? Is it the same in all areas of the country? And all age groups? The answers might well dictate a landscape without a FNMA or a FHLMC.
We have a once in a lifetime opportunity to reexamine housing goals and the division of responsibility between the public and private sectors. This is a different world from 1938 when FNMA was formed. We should rethink the role of the government and how that role is performed. We need to question whether our needs and our capabilities are the same as they were eighty years ago.
Before the crisis we had Countrywide, Washington Mutual, Wachovia, American Home Mortgage and a host of others that provided competition to the large money center banks. No longer. Washington Mutual went to JPMorgan, Wachovia to Wells Fargo and Countrywide to Bank of America/Merrill Lynch. There has been a heavy concentration of residential mortgage origination capability into the large money center banks. The spread between primary mortgage rates and mortgage bond yields is near all time highs at the same time that the spread between agency MBS and Treasuries is near all time lows (source: Absalon Project). Historically that primary spread had been close to zero. These numbers suggest an uncompetitive market.
Where will the competition come from? REITs? Mortgage companies? Specialized mortgage banks? Community banks? Funds of various kinds? How can the development be encouraged? How should we try to shape this development? Should this development be allowed outside the banking system? Are certain types of lenders preferable to others? Are there responsible ways to make liquidity available to them? Should there be tax or capital preferences for them? Should capital gains with respect to new lenders escape tax in the early years to encourage growth? How should startups access the capital markets for mortgage finance? Should there be a federal aggregator to assist smaller lenders access financing? How do we encourage more private sector funding?
These are important questions that will affect mortgage rates available to all borrowers and they should be part of the discussion of housing finance reform.