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GSE Reform in a Post-Midterm Congress

politicsNow that the Republicans will have a majority in both the House and the Senate and a Republican-led Senate Banking Committee in January, it has been widely speculated that GSE reform will be near the top of their to-do list. Richard Shelby (R-Alabama) will become the new chair of the Senate Banking, Housing, and Urban Affairs Committee in January. He previously served as the committee chair from 2003 to 2007 and is a longtime proponent of reforming the conservatorship model.

To say the Republicans have an uphill battle ahead where GSE reform is concerned is an understatement.

The president has the power of the veto pen and while both sides have vowed to work together on areas that they can disagree, the extent to which he would support major Republican led legislation remains to be seen. Further, a consensus on what a good plan for reform would look like has also yet to materialize.

The mere use of the phrase "GSE reform" triggers many questions that will need to be answered before such a gargantuan task can be undertaken: How much and exactly what type of reform is necessary? Should Fannie Mae and Freddie Mac be consolidated into one GSE or be eliminated altogether? Or should they be left alone? What, if anything, is going to replace the GSEs?

The question some might be asking is: Why is GSE reform necessary? It's clear from examining statistics that the housing industry is far from returning to its pre-recession levels of normalcy. In fact, the headline on the Wells Fargo Economics Group October 2014 Housing Data Wrap Up is "Housing recovery remains in slow motion," citing minimal growth in both home sales and home prices.

The federal government took Fannie Mae and Freddie Mac under conservatorship in September 2008 and now enjoys billions in profits from the two GSEs that are being diverted into the U.S. Department of Treasury since 2012. To provide an idea of just how profitable GSEs are, Freddie Mac's net worth stood at $5.2 billion as of September 30, 2014.

Proponents of GSE reform say the status quo isn't working for investors, who they say assume all the risk with the loans purchased by Fannie Mae and Freddie Mac. When these loans go bad, it's the investors who take the hit.

Not only that, some key officials such as Federal Housing Finance Agency Director Mel Watt have recently suggested lowering the conventional down payment from 20 percent to 3 percent in order to expand mortgage access to lower income, yet apparently still credit-worthy borrowers. Watt said the FHFA and the two GSEs are working together to find that balance where lenders can relax their lending standards and still manage their risk effectively.

According to some, the answer may lie not necessarily in eliminating both GSEs, but merging them into one entity. Washington, D.C.-based attorney Stephen Blumenthal, former deputy director and acting director of the former Office of Federal Housing Enterprise Oversight, makes the case that Fannie Mae and Freddie Mac could be consolidated into one entity. Blumenthal asserts that the expense it takes to run two GSEs is "simply unacceptable" given the number of duplicative and operational procedures (mainly overhead costs such as employee compensation and compliance) for which the GSEs have to weather the expense in order to stay in business.

The two GSEs already work together on some issues. Recently, Fannie Mae and Freddie Mac created a corporate entity they jointly own that will operate the Common Securitization Platform, which is a secondary market infrastructure that will issue mortgage-backed securities for both GSEs and also handle back office and administrative functions for both.

Most importantly, however, Blumenthal claims that a merger would achieve the goal of the conservatorship.

"The goal of the conservatorship is to conserve the assets of the corporations, and a merger is entirely consistent with that goal," Blumenthal wrote in recent a commentary.

But the new congress may have other ideas. Senator Bob Corker (R-Tennessee) created S.1217 in June 2013 that called for the elimination of Fannie Mae and Freddie Mac, and replace them with a private insurance company known as the Federal Mortgage Insurance Corporation (FMIC). Senate Banking Committee Chairman Tim Johnson (D-South Dakota) and Ranking Member Mike Crapo (R-Idaho) would add on to the plan and make it their own. Like the earlier plan, this one also includes eliminating the GSEs over a five-year period and establishing the FMIC with a few additional changes.

But the likelihood of any GSE reform bill passing in its current form is low. Conservatives are not excited about the prospect of creating another giant government entity the way that Johnson-Crapo does. Liberals believe that the bill does too little to help struggling homeowners. And members of both parties are dubious of giving up the billions of dollars in profits that are swept into the Treasury because of the conservatorship.

The Congressional Budget Office (CBO) released a report in early September estimating that eliminating the two GSEs and replacing them with the FMIC would reduce direct government spending by about $60 billion in a 10-year period from 2015 to 2024.

Can we really expect to see any significant movement, which includes GSE reform, now that Republicans have a majority in both the House and the Senate?

At least one research group says no. Qorvis MSL Group released a report earlier this week entitled "2014 Midterm Election Analysis: Expect Little Change." And why can we expect little change?

"The reason is simple," the report stated. "The same types of stalemates that have typified legislating in Washington either will continue or possibly even intensify over the next two years." We are already in 2016 election season after all.

The Republican majority in the Senate (assuming any proposed changes reach the Senate floor) is only 52 to 43, with more seats yet to be decided. That means if the Republicans want changes, they will need some Democrats to get on board in order to achieve the 67 votes that will override a possible presidential veto.

Regardless, it is clear that some type of reform is possible, although it is unlikely. If anyone can push GSE reform faster, Richard Shelby may have the motivation to do it. Time will tell.

About Author: Seth Welborn

Seth Welborn is a Harding University graduate with a degree in English and a minor in writing. He is a contributing writer for MReport. An East Texas Native, he has studied abroad in Athens, Greece and works part-time as a photographer.

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