After nearly a decade since the 2008 financial crisis and collapse of the private label mortgage-backed securities market, the U.S. mortgage securitization market has remained almost exclusively within the domain of mortgage-backed securities guaranteed by Ginnie Mae, and the two government-sponsored enterprises Fannie Mae and Freddie Mac.
Both Fannie Mae and Freddie Mac remain in federal conservatorship.
The agencies’ dominance of the mortgage-backed securities market after the financial crisis has emboldened advocates to call for any reformed (and future) U.S. mortgage securitization market to include some form of federal government backstop.
Supporters generally argue for the guarantees because they generally cover certain risks to these financial products, and ensure the timely payment of pass-through income of mortgage principal and interest payments on these securities.
However, investors—especially institutional investors and central banks that purchase these securities—do not need federal taxpayers to subsidize their financial risk.
Moreover, advocates of a government backstop argue that without the guarantee in the mortgage securitization market, the costs on very long-term mortgages, in particular 30-year fixed-rate mortgages, would increase.
It is unclear, though, whether consumers (or more specifically, borrowers) actually benefit from 30-year fixed-rate mortgages.
While the prolonged repayment terms that accompany the 30-year fixed-rate mortgages generally result in lower monthly payments, these products also tend to encourage higher levels of mortgage debt, and result in the slow accumulation of equity.
Research suggests as well that only a minimal share of any interest rate subsidy passes through to mortgage borrowers with most of the benefit captured by shareholders and management of financial institutions.
And, in today’s mortgage market, interest rates on jumbo home loans—which generally are nonsecuritized and held as portfolio loans by financial institutions—are comparable to those of mortgages within the agency, government-backed market segment.
Furthermore, when the federal government subsidizes any portion of the risk in financial securities, it increases moral hazard, resulting in debt aggregation and risk concentration in the financial system that has too often resulted in costly bailouts.
The federal bailouts that have occurred over the last several decades have come at great cost to households that have lost their homes, financial institutions and investors that have suffered losses, and taxpayers that have covered several hundred billion dollars in losses since the late 1980s.
In any event, it is not the role of the federal government to distort the U.S. primary and secondary mortgage markets toward certain financial products, nor encourage an inefficient allocation of investment in capital markets.
As federal policy leaders finally look to address fundamental housing finance reforms after a decade of the nationalization of the U.S. primary and secondary mortgage markets, they should remove the federal guarantees in the housing finance system, and once and for all wind down Fannie Mae and Freddie Mac.
Removing the federal backstop and government meddling in the U.S. mortgage securitization market would reduce the barriers for the return of private competitors, restore proper market incentives, and ensure that the full risks in mortgage financial investments are borne not by taxpayers but private investors.