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Crisis In The Housing Market
Wed April 11, 2012
Fannie, Freddie Weigh Mortgage Write-Downs
Hundreds of thousands of homeowners facing foreclosure might get help by having the amount they owe reduced by Fannie Mae and Freddie Mac.
This is a hot topic in Washington, D.C., with many Democrats pushing for these so-called "principal reductions" to try to help the housing market. On Tuesday, a top federal regulator came a step closer to allowing the move.
NPR and ProPublica reported three weeks ago that Fannie and Freddie had each just completed a new analysis and found that principal reductions would save the government-owned enterprises money.
Edward DeMarco, acting director of the Federal Housing Finance Agency, which controls Fannie and Freddie, has released the official figures from the agency's report.
"In this analysis, principal reduction is better for the enterprises. ... It reduces ... [their] losses by $1.7 billion," DeMarco said.
This is a big change.
Fannie and Freddie are now owned by the government and control most of the home loans in the country. DeMarco has steadfastly resisted cutting the amount that borrowers owe, but now the Treasury Department has tripled an incentive through the Troubled Asset Relief Program, the bank bailout fund.
Speaking at the Brookings Institution in Washington on Tuesday, DeMarco said if Fannie and Freddie do these write-downs, billions of dollars from the Treasury Department would be steered toward them.
"The expected incentive payments ... would be $3.8 billion," he said.
A Tax-Dollar Shell Game?
Critics say this incentive amounts to a "shell game." By giving Fannie and Freddie taxpayer money from another source, the Treasury Department has made the write-downs look good on Fannie and Freddie's books, but the write-downs would still result in taxpayer expense. Proponents counter that it would help the housing market and taxpayers eventually.
"Two-thirds of taxpayers are homeowners, and protecting housing markets and stabilizing communities all accrues to their benefit, too, so it's just where you draw the line on your analysis," says housing economist Andrew Jakabovics of the nonprofit Enterprise Community Partners.
For years, Jakabovics has been an advocate of principal write-downs. DeMarco is not announcing any final decision yet, but reading the tea leaves in the speech, Jakobavics says he came away thinking "this $1.7 billion net positive to do it seems to mean that they're leaning into it."
Whether or not they are "leaning into it kicking and screaming" is irrelevant, he says.
The kicking and screaming refers to the fact that there has been pressure from the White House and Democrats in Congress for Fannie and Freddie to get more aggressive with foreclosure prevention. Many in that camp think principal write-downs should play a role.
Jakabovics says this approach wouldn't be a silver bullet to fix housing. Some economists say it might reach several hundred thousand borrowers, and overall, Jakabovics says it would help.
"I think this is a meaningful tool to be able to have in the arsenal," he says.
Still, DeMarco did raise concerns about just writing off $20,000 or $50,000 of what a borrower owes. Even if that would save money compared to a foreclosure, DeMarco asked if forgiving debt for some delinquent homeowners might encourage others to stop paying their mortgages to try and get the same deal.
"The far larger group of underwater borrowers, who today have remained faithful to paying their mortgage obligations, are the much greater contingent risk to housing markets and to taxpayers," he said.
In other words, you don't want to encourage those homeowners to start defaulting on purpose.
Jakabovics counters that if the FHFA were worried about that, it could get around the issue completely. For example, by only offering write-downs to people who have already defaulted, there would be no incentive created for anyone else to default.
Jakabovics says the program could be designed in several other ways to reduce or eliminate the risk of strategic default.
Out On The 'Hairy Edge'
Some experts just don't like the unfair, free-lunch aspect of principal write-downs. For them, forgiving principal outright seems to cross a bright line and raise all manner of fairness and moral hazard concerns.
Anthony Sanders, a professor of real estate finance at George Mason University, says this would be a "major shift in economic policy" and that there would be unintended consequences.
"Do we really want to go out on the hairy edge, based on a few anecdotal assumptions that this might work?" Sanders asks. "I would argue no."
For Sanders, the risks outweigh the benefits.
For its part, the private sector has already embraced principal write-downs. Banks have started reducing principal to avoid foreclosure in nearly 1 out of 5 of the problem bank-owned loans they modify.
DeMarco says he expects to decide whether Fannie and Freddie will do principal write-downs in the next few weeks.