Housing market: New standards needs for Freddie and Fannie Housing market: Set new standards for Freddie and Fannie

Published in South Florida Sun-Sentinel February 7, 2010

By Lois Lindstrom

A few economists warned in the 1980s that our government's involvement in the housing market would produce catastrophic results. They were concerned housing bubbles would be created by government policies that lowered the mortgage-lending standards to increase home ownership.

They were right: in 1992 a bill was passed, known as the GSE Act. And, to comply with that law's "affordable housing" requirements, Fannie Mae and Freddie Mac, government banks that provide cash to the mortgage industry, acquired more than $6 trillion of single-family loans over the next 16 years.

Congress didn't stop there. They forced Fannie Mae and Freddie Mac to purchase loans that had been originated by another federal law, the 1977 Community Reinvestment Act, to increase lending to low-and moderate-income communities. Subsequently, the goal of various community groups was to force Fannie and Freddie to loosen their underwriting standards, in order to facilitate the purchase of loans made under the CRA.

Thus, provisions were inserted whereby Congress signaled to the Fannie Mae and Freddie Mac that they should accept down payments of 5 percent or less, and ignore credit problems of borrowers if they were more than a year in the past.

The beat goes on. Fannie Mae and Freddie Mac, two powerful government banks, both received $111 billion in federal aid last year to stay afloat.

It gets worse. Without Fannie and Freddie's certification of millions of bad loans as safe, many domestic and foreign banks wouldn't have bought them.

Rep. Barney Frank, D-Mass, the chairman of the House Financial Services Committee, and once the chief defender of Fannie and Freddie against more federal oversight, is now calling for Congress to eliminate both Fannie Mae and Freddie Mac. The two guarantee almost 31 million U.S. home loans, about half of all the mortgages in America, and establish a new system to provide money for U.S. home loans.

I raise these indelicate points to ask what happens next. As economic writer Patrick Cox points out, the American household factor faces a difficult period of financial retrenchment in the wake of a major collapse in home prices, overextended debt positions for many, and high unemployment.

The Obama administration wants to study the issue some more and make recommendations in 2011 about what to do with Fannie and Freddie. Without question, the flood of CRA and affordable-housing loans with loosened underwriting standards, combined with declining mortgage interest rates, resulted in a massive increase in borrowing capacity and fueled a housing price bubble of historic proportions over the period between 1997 and 2006.

The question that needs to be asked: Shouldn't the Obama administration call for new legislation that will tighten underwriting standards for Fannie and Freddie mortgages?

The result of loosened credit standards and the push to facilitate affordable-housing loans created high risk lending that overwhelmed the housing finance system and caused an expected $1 trillion in mortgage loan losses by Fannie Mae and Freddie Mac, banks, and other investors and guarantors.

We must ask the Obama administration and Congress not to repeat stupid mistakes from the past and implement a gradual process where the government's role in the mortgage markets is diminished and the lending standards are tightened.

Lois Lindstrom is a journalist who resides in both Florida and Virginia. Contact her at lois@loislindstrom.com