A former Freddie Mac CEO and current industry fellow at the Harvard Joint Center for Housing Studies (JCHS) says the prospect of reforming or freeing Fannie Mae and Freddie Mac—jointly known as GSEs, or government-sponsored enterprises—is essentially nonexistent at this point, with little hope of major progress anytime soon toward a goal that was once an urgent priority in the industry.
Don Layton, who led Freddie for a key period from 2012 to 2019, wrote in an op-ed for the JCHS that proposed overhauls or an end to the GSEs’ conservatorship are extremely unlikely due to the complexities of underlying challenges as well as the current political climate.
“GSE reform is not dead, but aside from the two companies retaining earnings to build capital, and the FHFA making limited changes to the regulatory capital requirement, it is very much in suspended animation,” Layton wrote.
Backing 62% of all conforming mortgages as of 2020, according the Federal Housing Finance Authority (FHFA), Fannie and Freddie have been in a conservatorship since 2008, when the FHFA fully took over both companies in response to the subprime mortgage crisis and Great Recession as they lost over $200 billion in two years. At the time, the Secretary of the Treasury referred to the conservatorship as a “time-out” while policymakers worked to “decide their future role and structure.”
More than 14 years later, the GSEs appear to be on track to become profitable enterprises again (with a combined net worth of $67 billion as of last September) after continuing to lose money for years after the recession—but that has not resulted in any appetite to revisit many of the proposals for larger reform, according to Layton. At the same time, he attributes progress made so far to new regulations implemented during the conservatorship, including portfolio size limits and a higher capital requirement.
Notably, in 2019, Fannie and Freddie were allowed to retain a set amount of their earnings, which many saw a step toward a full end of the conservatorship, and Layton called it an incredibly important move that both proves and provides stability in the GSEs. But since then, both the broader political climate and specific developments, including a Supreme Court ruling that dismissed a lawsuit by Fannie and Freddie shareholders and gave the executive branch more power over the FHFA, has stifled progress on bigger reforms.
Layton is not alone in his recent pessimistic assessment on ending the conservatorship, as Fitch wrote in their 2021 decision to re-affirm Fannie and Freddie’s AAA rating that an end to conservatorship was less likely based on these decisions and the Biden administration’s priorities. Acting FHFA Director Sandra Thompson, who currently oversees the GSEs, said last month that she would defer to congress on any exit from conservatorship.
“Right now, in fact, the consensus in Washington is that any legislation about GSE reform will not happen for many years at a minimum,” Layton wrote.
Political Realities
Overall, Layton observes that the housing community and federal policymakers have “shifted away from revolution and towards evolution,” mostly abandoning more radical proposals made in the years following the Great Recession, which included everything from fully dissolving Fannie and Freddie to splitting them into “mini-GSEs.”
“This change also reflected a political rehabilitation based upon the companies performing unexpectedly well during their decade of conservatorship (and since during the pandemic),” Layton wrote.
Though investors have continued to hope for an end to the conservatorship, Layton writes that a legislative solution—the kind that would be permanent and stable—is extremely unlikely. Though the executive branch can make modifications to the conservatorship without congress getting involved, Layton warns that all of those potential paths are “easily changeable” at the whim of any new political administration.
Former FHFA director Michael Calabria, who was appointed by former President Donald Trump, had in fact been pursuing an “administrative” exit to the conservatorship, Layton points out, before he was removed by current President Joe Biden last summer.
“There is no pressure on Republicans or Democrats in Congress—who have very different ideas about what should be done with the GSEs—to force compromise on a reform plan. That means the administrative path is the only realistic option available right now,” Layton says.
As of right now, that path looks like a slow easing of control until Fannie and Freddie are regulated “on utility-style basis,” which could precede a full exit from conservatorship with these new policies still in place.
Layton outlined three major steps that he claimed could move the GSEs in that direction while maintaining the kind of stability and control necessary. Those steps are: revising the regulatory minimum capital requirement downward (something Thompson has undertaken to a limited degree); building legal and operational infrastructure for the “utility-style regulation” (including public hearings and mandatory financial and economic studies) and the “ultra-complex mechanics” required to restructure its equity ownership that would free Fannie and Freddie from “conservatorship-related legal uncertainties.”
Layton wrote that these steps are all “major undertakings” by themselves, and will take “at least several years.”
Jesse Williams is RISMedia’s associate online editor. Email him with your real estate news ideas to jwilliams@rismedia.com.
