Whither Frannie?

The recent Treasury-HUD confab on the future of housing finance has elicited a lot or pretty good comment and analysis. Predictably, there two sides — those who want Fannie and Freddie in some form preserved along with the government’s unholy involvement in the housing industry, and those who think that we should learn from failure and get about the business of letting the industry makes its way in the world without artificial props.

The status quo crowd is not surprisingly populated by those of the Left, though it was left to an outlier to make their case. Bill Gross of PIMCO fame came out calling for full nationalization of housing finance, and followed up his statements today in his monthly letter. I’ll leave it to you to read it in its entirety, but here’s the nub of his argument:

Later that morning, in front of cameras from my favorite television station, C-SPAN, I exercised (exorcised) my leadership role in proposing a solution for the resolution of Fannie Mae (FNMA) and Freddie Mac (FHLMC) and the evolution of housing finance in the United States. I proposed a solution that recognized the necessity, not thedesirability, of using government involvement, which would take the form of rolling FNMA, FHLMC, and other housing agencies into one giant agency – call it GNMA or the Government National Mortgage Association for lack of a more perfect acronym – and guaranteeing a majority of existing and future originations. Taxpayers would be protected through tight regulation, adequate down payments, and an insurance fund bolstered by a 50–75 basis point fee attached to each and every mortgage. Seemed commonsensical to me. After all, Fannie and Freddie had really blown up because of the private/public nature of their charter, which incentivized executives and stockholders to go for broke with the implicit understanding that Uncle Sam would be there as a backstop should anything go wrong. If you eliminated the private incentive and provided a tighter regulatory watchdog, we would have no more “liar loans” or “no docs” and a much sounder foundation for future homeowners and investors. The private market, to my mind, had really lost its claim as the most efficient and judicious arbiter in this particular case. Markets and private incentives without proper guardrails were as threatening to a sound economy in the 21st century as too much regulation and government ownership proved to be in the 1970s.

I would like to ask Gross after a few glasses of his favorite beverage if he truly believes that the taxpayer will be protected and that any new mega-housing finance entity will long engage in prudent underwriting and suffer under rigorous regulators. The sad history of Frannie should forewarn us as to the likely path that Congress would take with such a plum program under its thumb.

Gross has been accused more than once of “talking his book” and those barbs flew thickly last week after his comments. He tries, unconvincingly in my opinion, to dispel this notion in his letter. He seems to be trying to portray himself as one who has seen the light shown on Wall Street greed and now realizes late in his career that the government is indeed the font from which all fairness flows. God save us from billionaires trying to burnish their legacy.

Arnold Kling supplied a counterpoint to the government solution:

Felix Salmon writes,

the main message from the big conference on Fannie and Freddie is that there’s a broad-based consensus, Rick Santelli rants notwithstanding, that large-scale government participation in the housing market is necessary to prevent further house-price declines.

Old consensus: we need Freddie and Fannie in order to make housing “affordable.”

New consensus: we need them in order to “prevent further house price declines,” in other words, to make housing less affordable.

Tyler Cowen picked up on this and added:

It’s the Goldilocks theory of home mortgage intervention.  Most of all, I am curious what is the underlying theory why few private investors would not, without the mortgage agencies, fund mortgages at the right price.  I would gladly write a series of blog posts examining those theories, as many of those same investors buy riskier assets, such as some equities.  Or is it simply an attempt to hold a finger in the dike?

Our either real or supposed inability to do away with the mortgage agencies over a five-year time horizon is one of the major reasons to be a pessimist about the American economy today.  None of the underlying theories about these agencies, and why they are needed, are very good news for any of us.  And that is perhaps why those theories are not articulated very often.

At its base, this argument is more about political philosophy than it is economics. One side wants to preserve what was once significant government involvement in the housing industry which has evolved into a stanglehold. The other argues that it was an abysmal failure akin to past attempts to control private markets. Note how Gross’s missive constantly returns to the theme of lower cost via government subsidy in order to return the market to precrisis levels.

It might indeed be necessary to get back to a roaring housing industry for the government to subsidize it, but is that the most desirable outcome? Would it be better to over time for the government to withdraw and let market pricing dictate the extent of homeownership? Would individuals make better and more conservative decisions regarding homeownership if that were the case?

Th0se are the questions I think we need to be asking. If we want housing for all then you will only get there through government subsidy. If you want the market to allocate mortgage credit then it will cost more and we will have a much smaller owner-occupied housing industry. Try mixing the two and inevitably the political class will throw in with the special interest crowd and we’ll be back to the world of worst possible solutions that we just left.

How long will it take to come to some sort of conclusion. Consider this via Greg Mankiw from Phillip Swagel:

Blowback from the left. The administration is scared of its own shadow with respect to flak from the left—the White House staffer’s introductory remarks were an awkward ode to inclusion and conference guidelines such as time limits went out the window when advocates of affordable housing subsidies were speaking (As a note, I very much support these subsidies and think that an important element of GSE reform is to make the subsidies more effective. But this still does not mean that the people making that point should have had carte blanche to long-talk while avoiding answering direct questions.) Amidst the long-talking, it turns out that there is good reason for the administration’s trembling. To the limited extent that advocates of affordable/low-income housing participated in the conference, they vehemently opposed scaling back any form of government support, including reducing the activities of the portfolios. It was impossible to tell what the affordable advocates were for other than “more.” The administration’s GSE reform plan could come down on stone tablets from Mt. Sinai – and still be attacked by the advocate community as “not enough.” GSE reform thus represents yet another conflict brewing between the administration and its frenemies in the “professional” left. And yet the President’s political tactics of late center on demonizing the moderate/responsible Republicans (“privatizers”) with whom he might form a centrist coalition to actually move forward with a housing finance overhaul. GSE reform could be a long ways off—until we have a President who seeks to lead in a bipartisan fashion.


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