Fannie Mae and Freddie Mac are changing how they price mortgages, a move that will affect millions of house buyers this year. Higher-income buyers will pay more, on average, and lower-income buyers will pay less. But trying to parse complex fee schedules can distract from the stubborn reality that, a decade and a half after the global financial crisis led to a government takeover of Fannie and Freddie, previously quasi-private companies, the government still has no idea of what to do with them. A tinker here and a tinker there doesn’t change the fact that government massively distorts the housing market; the result is higher prices for everyone.
Before 2008, Fannie Mae and Freddie Mac were in a limbo, existing between the government and the private sector. The two companies had shareholders, who took the risk that the companies could go bankrupt. The companies’ biggest role, though, was in debt markets. Fannie and Freddie guaranteed trillions of dollars’ worth of home mortgages made by banks; other banks then packaged up these guaranteed mortgages into debt securities and sold them to private investors. These securities had no official government guarantee, but investors around the world, including the Chinese government, calculated that America would never let Fannie and Freddie fail, as they were so crucial to the housing market.
This proved mostly true: in September 2008, the federal government took Fannie and Freddie into “conservatorship” (like Britney Spears). The companies’ shares still exist, but they trade for pennies; a federal regulator, the Federal Housing Finance Agency (FHFA), controls every aspect of the two companies. Bondholders in securities issued before 2008 suffered no losses, as the government made good on all Fannie and Freddie guarantees.
This arrangement was not supposed to be permanent—or at least, successive administrations from Bush to Obama to Trump pretended that it was temporary. But here we are, 15 years on. Britney has freed herself, but the FHFA still controls, through its stewardship of Fannie and Freddie, half the $15.2 trillion residential-mortgage market and an even greater share of newer mortgages. Which means that the White House—through its appointment of the FHFA director—controls much of the mortgage market.
During the Biden administration, the FHFA has taken steps to favor lower-income and otherwise financially stretched borrowers over higher-income borrowers with more savings and better credit. First, in January 2022, the FHFA told Fannie and Freddie to increase fees on “high balance” loans—loans above $726,200 and up to $1,089,300, only available in areas with high house prices—and on second-home purchases. Second, last fall, the FHFA told Fannie and Freddie to eliminate fees for first-time homebuyers with incomes below their area median, or up to 20 percent above the median income in high-cost areas, and for lower-income buyers with small down payments (as low as 3 percent).
Finally, and most controversially, effective May 1, FHFA has changed fees on regular old mortgages and refinancings, raising some and lowering others—with the net result that fees for borrowers with big down payments and good credit scores will go up, and fees for borrowers with smaller down payments and worse credit scores will go down. For example, the fee for a borrower with a good credit score of 730 and a 20 percent downpayment used to be 0.75 percent; it will now be 1.25 percent. The fee for a borrower with a not-so-great credit score of 630 and a 5 percent down payment used to be 3.25 percent; now, it will be 2.25 percent. Safer borrowers will still pay less than riskier borrowers, but they will pay more than they did, to the tune of $3,000 for a $600,000 home in the first example above.
This news got attention in conservative circles, with the Washington Examiner and others charging that higher-saving, better-credit borrowers would be subsidizing lower-savings, lower-credit borrowers. The FHFA put out a statement saying, more or less, that this charge was a conservative conspiracy theory, because the higher fees for less risky borrowers would go not to the riskier borrowers but to shoring up Fannie and Freddie’s capital. As the FHFA reminded us in its statement, Fannie and Freddie are still basically insolvent: “Since entering conservatorship in 2008,” it noted, “the Enterprises have remained undercapitalized and maintain a taxpayer backstop should they confront significant losses. This change will better protect taxpayers in the long term.”
This parse is a parse too far: obviously, Fannie and Freddie would have more capital if they didn’t lower fees for riskier borrowers. Now they’re getting capital to make up for that loss from less risky borrowers.
Still, the critics’ focus on the fee changes misses the point. Why, 15 years after 2008, does the government still determine how much in fees people will pay on their mortgages? (The government also determines the interest rate, as mortgage rates are based indirectly on Federal Reserve decisions to reduce or increase overall interest rates.)
Banks should be doing this, based on the risk profile of a given borrower, and with no government guarantee. Banks could do so under a framework of government regulations to make sure that they don’t act in a predatory fashion toward lower-income borrowers, by capping total fees and by prohibiting mortgages that borrowers are unlikely to be able to afford over the life of a loan. It’s quite possible that such a change would result in higher mortgage prices, including for borrowers with higher credit scores. Borrowers would no longer benefit from a government guarantee. But higher mortgage prices would, in turn, mean lower house prices. People tend to have a certain amount of money that they can spend each month on housing costs, so the more money they must spend on a loan, the less they will have to spend on the purchase price itself.
And that’s the answer to why Fannie and Freddie sit in “temporary” conservatorship forever. The federal government doesn’t want to see a re-pricing of the housing market. The terror of any president is that house prices will go down on his watch.
Of course, house prices are already falling right now and have been since last June. That’s because the terror of the Federal Reserve is sustained double-digit inflation; the Fed has been raising interest rates since last March, pushing mortgage rates up to the highest rate since before the financial crisis.
The new fee structure, then, is a tiny bit of political insurance to counteract the Fed’s rate hikes. The FHFA is betting that, as house prices fall, first-time buyers with good credit and substantial savings built up during the pandemic will step in and purchase “good deals” at each successive lower price point, despite the higher fees. Cushioning the blow, they will “catch” the falling house prices.
But buyers with lower credit scores and little savings won’t do that. They won’t be able to. Inflation is already hitting them harder, and any recession caused by a pullback in consumer demand—caused, in turn, by the drop in house prices—would also levy a disproportionate toll on lower-wage workers in lost jobs. Lower-credit buyers would disappear. At the same time, lower-credit, lower-savings homeowners who bought houses with tiny down payments over the past few years would increasingly default, leaving behind losses on loans.
The FHFA isn’t trying to help poorer home buyers; it’s trying to prop up the lower half of the housing market ahead of the 2024 election.