Essential Elements of Housing Finance Reform
In seeking to reform the housing finance system, Congress has important decisions to make. A new system could restore balance to the housing market, provide credit to a broad and diverse population, and result in a larger, more stable housing market. On the other hand, it could create an environment in which credit and housing choices are more costly, more limited, and less sustainable, especially for minority and low- and moderate-income households.
These choices will determine not only the sustainability of a robust housing market but also future economic opportunities for millions of families. Homeownership and the housing finance system play a unique role in ensuring strong families, strengthening neighborhoods, and boosting the overall economy. For this reason, it is critical to redesign the system to account for shifting demographics and changing consumer profiles, including the rapid growth of communities of color, ever-increasing student debt burdens, rising demand among rural Americans, and increased economic insecurity among all but the wealthiest families.
In order to create a housing finance system that works for all households and communities, Congress should pay attention to the following essential elements of housing finance reform:
1. First and foremost, a new housing finance system must place the nation’s housing needs at the center of the system.
The structures and processes of the secondary market are not ends in and of themselves. Rather, they are a means to provide housing to our nation’s families. Placing the goal of access to affordable, sustainable credit at the center of the new system’s mission will provide the greatest benefit in the long run not only to families but also to lenders and investors while protecting taxpayers from future bailouts.
2. The system should enable a deep, liquid market that will attract capital and keep credit affordable through providing a government guaranty and preserving the To-Be-Announced market and the long-term, fixed-rate mortgage.
If we want to provide broad access to affordable, sustainable credit and provide attractive investment opportunities for a range of investors, any new housing finance system must incorporate three components of today’s system: a guaranty for investors in mortgage-backed securities, a robust To-Be-Announced market, and the widespread availability of long-term, fixed-rate mortgages.
3. The system should protect taxpayers from having to bail out any part of the mortgage or financial system, which is best accomplished through a bond guarantor structure.
Our proposal, along with others, contemplates protecting taxpayers by making the government guaranty more remote behind private capital in first-loss position and by adequately pricing and reserving for the government guaranty.
4. The system should operate effectively throughout all economic and business cycles.
The more central a role that private capital plays, the more instability is introduced. Private capital is inherently pro-cyclical, meaning that it tends to be plentiful and cheap during good times and scarce and expensive during downturns, thus inflating bubbles and deepening downturns, a lesson that we learned very painfully during the recent financial crisis. Thus, it is essential that we have tools that enable the system to work during economic downturns.
5. The system should ensure that all creditworthy borrowers have access to the mainstream housing finance system regardless of demographic characteristics, geographic location, or housing type.
For a variety of reasons, the mortgage market often serves those borrowers perceived to be the “easiest,” most lucrative, or least risky borrowers at the expense of borrowers who are equally able to sustain homeownership but require more customization and consideration. We believe any new system should build in a requirement that lenders provide a level playing field for all primary market loans meeting the standards for the guarantee, rather than serving only a limited segment of the business, such as higher‐income portions of that market.
6. The system should include provisions to help enable more borrowers to access the mainstream housing finance system.
For generations, affordable homeownership has provided a primary means for families to climb the economic ladder and achieve financial stability. While mechanisms to level the playing field for creditworthy borrowers can help, they will not fill all of the gaps left by a national history of discrimination and wealth disparities. Many prospective homeowners and owners of rental homes who are not easily served by private markets demanding competitive rates of return can be well served with limited amounts of credit enhancement. To ensure that the new system has the capacity to serve these categories of borrowers, we propose the establishment of a Market Access Fund.
7. The system should provide financing to preserve the existing privately owned affordable housing stock and support the construction of new affordable units.
Rental housing needs access to capital to serve the many people who rely on it. Ensuring adequate financing for affordable housing preservation and construction requires a carefully deployed and targeted government guarantee to encourage private capital to bear risk ahead of the government for affordable multifamily finance. It is essential that multifamily rental finance needs get explicit attention in housing finance reform so that the eventual new system preserves the strengths that have lasted through the financial crisis to finance affordable rental housing.
8. The system should support effective and fair mortgage servicing practices as well as appropriate systems to support clarity of property title.
One of the most “broken” parts of the housing finance system is mortgage servicing. In the aftermath of the housing and financial crisis, the perverse financial incentives embedded in the current system of servicer compensation as well as confusing pooling and servicing agreements resulted in servicers severely compounding the damage rather than ameliorating it. It’s up to Congress to fix these issues in any reform.
9. The system should provide access and a level playing field for both large and small lenders.
A diverse lending market is crucial for ensuring broad access to credit for all borrowers and communities, including rural communities, communities of color, and communities that have been hit hard by the recession. A secondary market that enables lenders of all sizes in all communities to offer mortgages on equal and well-understood terms is one of the major beneficial functions of Fannie Mae and Freddie Mac that, going forward, the reformed system must retain and even improve on.
10. The system should include strong regulatory tools to supervise, monitor, and ensure the appropriate operation of entities that provide access to the government guarantee.
Lax regulation and captured regulators in many ways led to the crisis we recently experienced, both in the housing finance system and the financial system as a whole. For any new system, it is critical that the government have access to the full range of regulatory tools to supervise bond guarantors, issuers, and other counterparties.
Julia Gordon is the Director of Housing Finance and Policy at the Center for American Progress.
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Senior Director, Housing and Consumer Finance