RSSCongress rescues the prime mortgage market
 | Seed Newsvine |
President Bush has reluctantly accepted the “bad” parts of the package to get the standby authority to pump cash into Fannie Mae and Freddie Mac, if necessary, to protect the huge prime mortgage market. The plan assures that investors will not flee the prime mortgage market as they did the subprime mortgage market last year.
The Washington consensus is probably right that guarantee itself, previously implicit but now explicit, will prevent it from having to be used. Fannie and Freddie now have a line of credit at the US Treasury of as much as $800 billion, up from $5.0 billion. Fannie and Freddie’s mortgage backed bonds can not be allowed to default or even depreciate significantly. The bonds are owned heavily by pension funds, insurance reserve funds and foreign government exchange reserve funds. Significant losses would severely disrupt the US economy and tarnish the US international credit standing. This is the FRB’s worst nightmare.
Urban congressmen and senators knew that President Bush had to have the mortgage bond guarantee and used that leverage to get immediate funds to subsidize the housing costs of low income households. Both sides agreed on rule changes to require licensing of mortgage originators, require Fannie and Freddie to raise more capital, operate with less leverage, buy larger (jumbo) mortgages and be more closely supervised by the federal government.
The compromise plan virtually eliminates the risk of the worst possible outcome of the mortgage mess – the collapse of the prime mortgage market – but does very little to stimulate immediate home purchases. There was little that congress could do. Depressed home sales are largely the consequence of depressed buying confidence; home affordability is above average.
Also, the compromise plan clearly reveals that a large share of representatives and senators do not accept the critical role of risk in pricing mortgages. This is dangerous for the future.
The plan forbids Fannie and Freddie to consider risk in pricing mortgages for a year. This will subsidize the housing costs of financially marginal borrowers but make their portfolio of mortgages more risky. This will raise the interest rate on mortgage backed bonds and hence the mortgage interest rate offered to prime borrowers.
The plan includes almost $4.0 billion in grants for states and cities to buy homes that are already foreclosed. The previous homeowner gets nothing but the mortgage lenders gets
bailed out of a bad loan. Mayors and governors get control of 20,000-30,000 homes to sell or rent as they please which almost certainty will involve a taxpayer financed subsidy.
Also the plan imposes a tax on Freddie and Fannie that will raise about $600 million a year for a new “Affordable Housing Trust” which will fund affordable housing consultants, mortgage counselors and the cost of subsidizing the transfer of an estimated 400,000 homeowners from private to FHA guaranteed mortgages when lenders agree to a write down of the mortgage balance to the market price.
This annual fee amounts to 3% of Fannie and Freddie’s capital. It will have to be recovered from lower payments for prime mortgages which will force mortgage originators to offer higher mortgage rates.
