For several years, we have heard policymakers lament that there is too much government involvement in the mortgage market and about the need to bring “private capital” back. While it is true that there is some government involvement in roughly 90 percent of mortgage transactions, nearly all of those transactions are funded via private capital. Here’s how.
The Government Sponsored Enterprises (GSEs), also known as Fannie Mae and Freddie Mac, guarantee the mortgage backed securities (MBS) that were sold to fund more than half of mortgages in recent years. Although Fannie Mae and Freddie Mac are under government conservatorship, their role is only to guarantee the MBS; not use government money to fund it. That money normally comes from private sector investors that run the gamut from individuals to hedge funds to banks and pension funds. Furthermore, for loans with greater than 80 percent loan-to-value ratios, the GSEs require private mortgage insurance, so the first 20 percent of capital risk generally falls on the private sector as well.
Similarly, the Federal Housing Administration (FHA) insures FHA mortgages. However, those mortgages are also privately capitalized through the sale of MBS via the Government National Mortgage Association (Ginnie Mae). Taking all this into account, virtually all of today’s mortgages are already privately capitalized with only the capital risk being mitigated by government insurance. So, very little taxpayer money is involved in providing mortgages to people.
So, let’s correct what the call for private capital really means—it is mortgage capital that has no insurance and/or underwriting to the standards of the GSEs or FHA. Those who support increased lending of this type hope it will be achieved by making GSE/FHA loans more expensive to consumers via higher premiums and pricing, and by reducing the loan sizes that consumers can obtain with GSE/FHA insurance or guarantees. In both cases, the result is either reduced access to capital, increased costs to consumers, or both.
Lowering loan limits reduces access by shrinking the number of loan products and lenders available to consumers by making their loans “jumbo” loans. For those with perfect credit and high down payments, say 20 percent or more, the increased costs are not that much and, in some cases, less. For everyone else, the costs are higher.
Increasing fees and premiums is more pernicious than simply lowering the limits. The idea is that by increasing the price of GSE/FHA loans, at some point, the private market will see a lucrative enough opportunity to undercut both. First, until/if that happens, consumers are simply paying more money, like a tax, for their mortgages. Second, it hasn’t happened yet because the GSE/FHA rates tend to be the benchmark and private money is priced higher. Third, if it does occur, it is likely that lenders will cherry pick the best borrowers and leave the rest to the GSEs/FHA. We need no more evidence of this possibility than the interaction between FHA and the GSEs themselves. Each time one raises a fee, the other seems to follow suit or do some equivalent credit restriction. The net result is that consumers pay more for the same loans they could get before.
Attempts to bring back non-GSE/FHA-related capital have already resulted in greater costs to consumers and reduced access to credit. It is hard to see how further efforts will not have the same effect. The bottom line is that if the goal truly is to encourage private capital, and private capital alone, then “mission accomplished,” so to speak. If it is to increase prices, then keep raising fees, but let’s not pretend that helps consumers or the housing recovery.
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