The Landscape after GSE Privatization

In September, The US Department of the Treasury released a plan to reform the housing finance system. The Treasury Housing Reform Plan consisted of a series of recommended legislative and administrative reforms, including nearly 50 actions to define a limited role for the Federal Government in the housing finance system, enhance taxpayer protections against future bailouts and promote competition in the housing finance system.

While the 2020 election could obviously change Treasury plans with Fannie Mae and Freddie Mac, many observers are already wondering what is next for government-sponsored enterprises.

A number of stakeholders in both single-family and multifamily harbor concerns about housing affordability if the GSEs are privatized. But there is also a line of thinking that pulling them away from government support will benefit different mortgage investor groups.

Fannie Mae and Freddie Mac were created by Congress to provide liquidity, stability and affordability to the mortgage market. After suffering severe losses during the financial crisis of 2008, Fannie Mae and Freddie Mac received more than $190 billion from the Treasury Department. Without this federal backing, Jeff Allen, executive vice president of Valuation Strategy at Clear Capital, thinks different mortgage investor groups could more easily compete with the GSEs.

“Taking the GSEs out of conservatorship will create a more even playing field amongst mortgage investor groups,” he says. “Today, Fannie Mae and Freddie Mac enjoy certain advantages as a result of their federal backing – local and state tax exemptions and market premiums driven by their explicit government support, amongst others.”

With more competition, Allen thinks more innovation could occur. “In an open market – one in which no structural advantages are bestowed upon one actor over another – there’s an inherent likelihood for new thinking and action,” he says. “The incentive structures of that competition can breed innovation.”

Before privatization occurs though, Allen says the Federal Housing Finance Agency needs to get Fannie and Freddie in a position to go private.

“FHFA needs to recapitalize the GSEs to ensure they have sufficient funds on hand to operate their businesses and pursue innovation,” Allen says. “They’ve already started taking steps down that path.”

Allen expects this process to take anywhere from 12 to 18 months. “Recapitalizing their balance sheets and adjusting operations will take time,” he says.

But for privatization to work, Allen thinks it needs to be done carefully. If it isn’t, the aftershocks to the market could be severe.

“The GSEs play a critical role in the functioning of our housing market,” Allen says. “They touch the majority of the county’s mortgages today. Their return to private hands needs to be handled thoughtfully, with effective financial foresight and transition planning.”