It took a $142 billion taxpayer bailout to convince the Obama Administration to pledge in February to wind down Fannie Mae and Freddie Mac, rein in the Federal Housing Administration and encourage the revival of a private mortgage market. So it's distressing to see Congress move in exactly the opposite direction less than a year later, with the quiet approval of the White House.
While cable TV is chasing the trivia of Fannie and Freddie bonuses, the real news is that late Monday a bipartisan Congressional committee announced an agreement to increase FHA's maximum mortgage limits to $729,750 from $625,500 through Dec. 31, 2013. The bill is linked to a continuing resolution to fund Congress past Saturday, increasing the likelihood that this backroom deal will become law. The House is scheduled to vote on the bill today without debating these changes, in what ought to be an embarrassment to Speaker John Boehner and Majority Leader Eric Cantor.
The National Association of Realtors is lauding this idea as great for housing "stability," by which it means that the taxpayer subsidies for its industry will keep coming, even for fancy homes. The median sales price of existing single-family homes nationwide in the third quarter was $169,500, according to the Realtors's own data. Politicians from higher-cost regions argue that higher loan limits are needed, but even Los Angeles has seen median prices fall to $324,800 from $402,100 in 2008—well below $729,750.
This FHA payoff to the housing lobby comes as the agency has had to publicly reveal the extent of its financial travails. In its annual report to Congress Tuesday, the Department of Housing and Urban Development and an independent auditor reported the FHA has a 0.24% capital reserve, well below its statutory 2% minimum for the third year running. Take $1.1 trillion of outstanding loan guarantees divided by $2.6 billion in capital reserves and you get a 422-to-1 leverage ratio, up from 33-to-1 in 2009. By this standard, Lehman Brothers was risk-averse.
So how much would a bailout cost, even before the proposed loan-limit increase? University of Pennsylvania real-estate finance professor Joseph Gyourko noted in a paper last week that FHA "systematically" underestimates future default risk, not least because it lends to borrowers with very little equity in their homes and uses rosy economic assumptions. Mr. Gyourko estimates that FHA is "materially underreserved by at least $50 billion, with the true figure likely higher."
These numbers are no surprise, given FHA's inherently risky business model. It provides 100%, explicitly taxpayer-backed mortgage loans to first-time, moderate- to low-income borrowers. Down payments can be as low as 3.5%, at a time when most private lenders are prudently insisting on 20% after the housing bust. In fiscal 2011, 85% of FHA loans had a down payment of less than 5%.
Like Fannie and Freddie, the housing collapse hit FHA hard. The difference is that the FHA has since become the political class's main substitute for the private subprime lending it once encouraged. As subprime lending vanished after the crash, FHA became the major lender for marginal borrowers. The share of new mortgages it insures has risen to 24% in July, the latest data available, from 6% in 2007.
In September, FHA said it had 635,096 seriously delinquent loans, or 8.7% of its portfolio, up from 8.4% the prior year, and 8.3% in 2009. When we first questioned the FHA's rapid loan expansion in 2009, then FHA Commissioner David Stevens lectured that there was nothing to worry about. Acting FHA Commissioner Carol Galante still claims the fund is "actuarially sound," which makes us wonder what an unsound fund would look like.
FHA is also expanding beyond its traditional role as a low- to moderate-income lender. The average FHA borrower's credit score exceeded 700 "for the first time ever," according to Tuesday's annual report. These are borrowers traditionally served by private mortgage insurers. This may improve the FHA's default rate in the future, but it will come at the price of crowding out private competitors.
Which brings us back to Congress's increase in FHA's lending limits. The Obama Administration promised in February to return FHA "to its pre-crisis role as a targeted provider of mortgage credit access for low- and moderate-income Americans and first-time homebuyers." Republicans agreed, only to renege now. GOP leaders figure that increasing Fannie and Freddie loan limits might upset the tea party, so their compromise gift to the housing lobby is to raise FHA's subsidy and hope this slips under media radar.
As ever, the excuse is that this will lift housing prices, which will help the larger economy. But we have learned the hard way that artificially inflating home prices does not lead to durable growth. Government policies already steer too much capital into housing, at the expense of other industries that would do more to increase prosperity. The FHA deal is bad for taxpayers and the economy—and especially for claims that Republicans favor taxpayers over special interests.
While cable TV is chasing the trivia of Fannie and Freddie bonuses, the real news is that late Monday a bipartisan Congressional committee announced an agreement to increase FHA's maximum mortgage limits to $729,750 from $625,500 through Dec. 31, 2013. The bill is linked to a continuing resolution to fund Congress past Saturday, increasing the likelihood that this backroom deal will become law. The House is scheduled to vote on the bill today without debating these changes, in what ought to be an embarrassment to Speaker John Boehner and Majority Leader Eric Cantor.
The National Association of Realtors is lauding this idea as great for housing "stability," by which it means that the taxpayer subsidies for its industry will keep coming, even for fancy homes. The median sales price of existing single-family homes nationwide in the third quarter was $169,500, according to the Realtors's own data. Politicians from higher-cost regions argue that higher loan limits are needed, but even Los Angeles has seen median prices fall to $324,800 from $402,100 in 2008—well below $729,750.
This FHA payoff to the housing lobby comes as the agency has had to publicly reveal the extent of its financial travails. In its annual report to Congress Tuesday, the Department of Housing and Urban Development and an independent auditor reported the FHA has a 0.24% capital reserve, well below its statutory 2% minimum for the third year running. Take $1.1 trillion of outstanding loan guarantees divided by $2.6 billion in capital reserves and you get a 422-to-1 leverage ratio, up from 33-to-1 in 2009. By this standard, Lehman Brothers was risk-averse.
So how much would a bailout cost, even before the proposed loan-limit increase? University of Pennsylvania real-estate finance professor Joseph Gyourko noted in a paper last week that FHA "systematically" underestimates future default risk, not least because it lends to borrowers with very little equity in their homes and uses rosy economic assumptions. Mr. Gyourko estimates that FHA is "materially underreserved by at least $50 billion, with the true figure likely higher."
These numbers are no surprise, given FHA's inherently risky business model. It provides 100%, explicitly taxpayer-backed mortgage loans to first-time, moderate- to low-income borrowers. Down payments can be as low as 3.5%, at a time when most private lenders are prudently insisting on 20% after the housing bust. In fiscal 2011, 85% of FHA loans had a down payment of less than 5%.
Like Fannie and Freddie, the housing collapse hit FHA hard. The difference is that the FHA has since become the political class's main substitute for the private subprime lending it once encouraged. As subprime lending vanished after the crash, FHA became the major lender for marginal borrowers. The share of new mortgages it insures has risen to 24% in July, the latest data available, from 6% in 2007.
In September, FHA said it had 635,096 seriously delinquent loans, or 8.7% of its portfolio, up from 8.4% the prior year, and 8.3% in 2009. When we first questioned the FHA's rapid loan expansion in 2009, then FHA Commissioner David Stevens lectured that there was nothing to worry about. Acting FHA Commissioner Carol Galante still claims the fund is "actuarially sound," which makes us wonder what an unsound fund would look like.
FHA is also expanding beyond its traditional role as a low- to moderate-income lender. The average FHA borrower's credit score exceeded 700 "for the first time ever," according to Tuesday's annual report. These are borrowers traditionally served by private mortgage insurers. This may improve the FHA's default rate in the future, but it will come at the price of crowding out private competitors.
Which brings us back to Congress's increase in FHA's lending limits. The Obama Administration promised in February to return FHA "to its pre-crisis role as a targeted provider of mortgage credit access for low- and moderate-income Americans and first-time homebuyers." Republicans agreed, only to renege now. GOP leaders figure that increasing Fannie and Freddie loan limits might upset the tea party, so their compromise gift to the housing lobby is to raise FHA's subsidy and hope this slips under media radar.
As ever, the excuse is that this will lift housing prices, which will help the larger economy. But we have learned the hard way that artificially inflating home prices does not lead to durable growth. Government policies already steer too much capital into housing, at the expense of other industries that would do more to increase prosperity. The FHA deal is bad for taxpayers and the economy—and especially for claims that Republicans favor taxpayers over special interests.
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