Today Representative Mel Watt (D–NC) assumes his position as director of the Federal Housing Finance Agency (FHFA), which manages the government-sponsored enterprises (GSEs) Fannie Mae and Freddie Mac.
Acting director (since 2009) Ed DeMarco’s departure could mark just the beginning of several key policy shifts at the FHFA, such as allowing borrowers to forgo paying part of their mortgage. Formally, the FHFA would be shifting its policy stance on principal reduction alternatives (PRAs)—the ability of homeowners, by government decree, to eliminate a portion of their loan principal. Under DeMarco, the FHFA had a (correct) zero-tolerance position against PRAs, citing many negative long-term concerns in a 2012 report.
There are harrowing implications for the housing finance system if PRAs become a part of the FHFA’s housing assistance model. Allowing borrowers access to principal reduction, which is different from principal forbearance (which only allows borrowers to defer, rather than eliminate, principal repayment), would create a moral hazard in the mortgage industry for individuals who are PRA-eligible. Borrowers who are currently making timely payments on their mortgages may cease to do so if they could qualify for a principal reduction. As a result, private lenders would be less inclined to take on the uncertainty and risks associated with mortgage contracts, thus decreasing the amount of mortgage credit available to future homebuyers.