What should we do with Freddie Mac and Fannie Mae, the two government-sponsored enterprises?

The GSE reform question, i.e. how should the two companies end their conservatorships, has proven to be one of the most vexing in Washington in the past decade. They have been under government control for over twelve years now with no concrete end in sight, even though conservatorship was meant to be a temporary arrangement. The question is renowned for its complexity, the intense politics surrounding it, and how it involves an immense amount of money (about $6 trillion, i.e. approximately half of all the residential mortgage assets in America).

The Biden transition team, and other centers of Democratic power in Washington, already have members of the housing finance policy community selling them various ideas of what to do with the two companies – as did the Obama and Trump administrations before them. For many years, these ideas focused on replacing the GSEs with something else, which has ranged from “no GSEs” to a lender cooperative to a government-owned monopoly, among others. The proposers of these ideas were mostly Washington-centric housing finance policy specialists, including think tank researchers, members of Congress, academics, and others. However, in a dozen years, almost all such replacement ideas have faded away as, upon further examination, they were found to be unworkable or unduly risky, and so never garnered the support required to pass the needed legislation in Congress. In addition, rarely did such proposals ever address how to transition from what exists today to what was being proposed while successfully avoiding an unacceptable, years-long disruption to the country’s financing of homeownership.

In more recent years, ideas for GSE reform have shifted towards proposals that would instead reform the two existing companies rather than replace them. Organizations of smaller lenders have been particularly vocal in support of such an approach. The most prominent such idea has been the “utility model,” whereby the two current GSEs – after being reformed and recapitalized – would be released from conservatorship but with their regulator, the Federal Housing Finance Agency (FHFA), empowered to set their guarantee fees, much as a state-level public service commission sets electric power rates. Many (myself included) believe it is not just a practical solution but actually quite a good one: fully workable; maintaining the 30-year fixed rate mortgage with its low cost and its wide availability to the broad working and middle class; avoiding a multi-year disruption to transition to a new system; and strongly protecting taxpayers. Some claim this approach to be a near-consensus at this point.

My new paper “What Should We Do with the GSEs? Common-Sense Reform Recommendations for the Biden Administration” is designed to help incoming officials avoid starting from scratch or pursuing paths already found to be dead ends. Such help is needed because GSE reform has proven to be an incredibly complex topic, requiring expertise in how the companies operate, how housing finance more broadly works, how large financial institutions are managed and regulated, how unprecedented amounts of capital can be raised to support a reformed GSE system, and more. And this is before getting to extremely important social issues not directly related to the GSEs ending their conservatorships, such as the role the companies can play in reducing wealth inequality (which is of course heavily correlated to race in the US) via homeownership.

The conclusion of this paper is that the Biden administration, if it is to successfully address the GSE reform question, rather than repeat the frustrating and ultimately unproductive attempts of its predecessors, should follow one of two possible paths in the next 12 to 24 months. Neither path involves the more radical approach of winding down the current GSEs and replacing them with something unproven; instead, both work with the existing two GSEs. 

The first possible path is to leave the companies in long-term conservatorship, which has worked, and continues to work, unexpectedly well (including during the pandemic), and then possibly revisit the question of conservatorship exit in a few years. This additional time in conservatorship, however, should not be one of stagnation; more operating reforms and improvements can be implemented, building on the many that have already occurred while the two companies have been under government control. The second possible path, based upon the only proposal believed to be able to successfully navigate all the complexities and risks of conservatorship exit, is to additionally implement, via administrative means, the early years of a long-term transition to the utility model.

Both paths would be consistent with what I understand to be long-standing Democratic party policy objectives, and both are refreshingly workable, with a low risk of disruption or unintended consequences negating the best of intentions. The new administration just needs to choose which one to pursue.