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DS News April 2020

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68 were pushed far to the back. Before the pandemic became an issue, even FHA Director Mark Calabria has questioned the current financial status of the GSEs, telling the Credit Union National Association Government Affairs Conference last month: "e lack of capital at Fannie and Freddie jeopardizes their important mission. at is why we are focused on strengthening Fannie and Freddie." e goal is to strengthen them enough to bring them out of conservatorship, according to Calabrio. at prospect remains a hot topic of discussion among everyone from the pundits to the President, questions remain: will this goal truly come to fruition? And if so, what are the obstacles that remain along the way? DS News looks at the history—and future—of the GSEs. A STORIED HISTORY ough much of the recent attention on them has been centered on their time since the turn of the century, Fannie Mae and Freddie Mac's story begins long before that. A 1938 amendment to the National Housing Act initially established Fannie Mae as a government agency, according to the FHFA's Inspector General office. Fannie Mae's mandate was to act as a secondary mortgage market facility that could purchase, hold, and sell FHA-insured loans, creating liquidity in the mortgage market and thereby providing lenders with cash to fund new home loans. Fannie Mae started buying Veterans Administration-insured loans in 1948, leading to a rapid expansion of the business, according to e American Mortgage in Historical and International Context by Richard K. Green and Susan M. Wachter. e Federal National Mortgage Association Charter Act of 1954 (Charter Act) transformed Fannie Mae from a government agency into a public-private, mixed ownership corporation and exempted the GSE form state and local taxes, with the exception of property taxes. Fannie Mae was reorganized through the Housing and Urban Development Act of 1968 from a mixed ownership corporation to a for-profit, shareholder-owned company, a change that also removed the GSE from the federal budget. As a result, Fannie Mae began funding its operations through the stock and bond markets. Freddie Mac came into existence as a result of the 1970 Emergency Home Finance Act. Freddie Mac's initial charge was to help savings and loans manage the challenges associated with interest rate risk. Most thrifts had made low-rate, fixed-interest-rate loans during the previous period of steady rates and were ill-equipped to handle the interest rate increases that had spiked from 6-10% at the end of the decade. e Federal Home Loan Banks initially capitalized Freddie Mac with a $100 million contribution, enabling the GSE to start buying long-term mortgages from thrifts, which, in turn, cut their interest rate risk while also enabling them to make additional mortgages. ough they had the same basic purpose—to provide lenders with a secondary market for conventional mortgages, Fannie Mae and Freddie Mac used different business strategies during the 1970s and 1980s, according to the FHFA Inspector General. As a result of differing strategies, Fannie Mae and Freddie Mac had different outcomes in the late 1970s and early 1980s. Fannie Mae suffered from the sharp rises in the interest rates in the late 1970s and early 1980s because the long-term, lower rate mortgages were funded by shorter-term, higher cost obligations like deposits. But since it sold off its interest rate risk, Freddie Mac was relatively unaffected by the increase in interest rates. To help Fannie Mae, the federal government provided forbearance and tax benefits. e government, through the 1989 Financial Institutions Reform, Recovery and Enforcement Act (FIRREA), reorganized Freddie Mac's corporate structure to more closely match Fannie Mae's. e 1992 Federal Housing Enterprises Financial Safety and Soundness Act amended the GSE charters, requiring more of a dedication to supporting financing of low-income housing, resulting in aggressive in purchasing Alt-A mortgages, and private- label MBS collateralized by subprime mortgages, as foreclosures and losses increased, GSE borrowing costs went up and equity declined, resulting in the FHFA placing the GSEs into conservatorship. THE CAUSE OF CONSERVATORSHIP ough their problems escalated sharply from 2006 until they went into conservatorship, the reasons for the government takeover go back far before the event actually happened, said Edward Pinto, Resident Fellow and the Director of the AEI Housing Center at the American Enterprise Institute (AEI). In 1992, Congress started pushing for increased homeownership, and for several years there was a loosening of credit and lending standards, resulting in a lending boom that extended through 2005. e more relaxed mortgage underwriting rules for Alt-A and subprime mortgages heightened the liability for the GSEs just as the mortgage market was softening, said Stephen Ornstein, co-Leader of Alston & Bird's consumer financial services team. Both GSEs had several times more in outstanding loans than their capital could support and spent the first year in conservatorship deferring the hits to their capital, Pinto said. e conservatorship was a necessary evil that helped to stabilize an unstable mortgage infrastructure, said Rick Sharga, President and CEO of CJ Patrick Co. "It helped the market recover and ensured there was liquidity. On the downside, it increased the government footprint in the mortgage market, making it very hard for private capital to come back in." As the conservator, the FHFA maintained broad authority over the GSEs. But rather than managing every aspect of their operations, the FHFA reconstituted the boards and charged them with enforcing normal corporate governance and procedures. But in the first year of the conservatorship, the delinquencies continued, further extending the GSE financial troubles, Pinto said.

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