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S. HRG. 113–20 

BIPARTISAN SOLUTIONS FOR HOUSING FINANCE 

REFORM? 

HEARING 

BEFORE THE

COMMITTEE ON 

BANKING, HOUSING, AND URBAN AFFAIRS 

UNITED STATES SENATE 

ONE HUNDRED THIRTEENTH CONGRESS 

FIRST SESSION 

ON 

DISCUSSING HOUSING FINANCE REFORM AND SUGGESTIONS FOR IMPROVING THE CURRENT HOUSING MARKET AND PROVIDING STABILITY IN THE FUTURE 

MARCH 19, 2013 

Printed for the use of the Committee on Banking, Housing, and Urban Affairs 

( 

Available at: http://www.fdsys.gov/ 
COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS 

TIM JOHNSON, South Dakota, Chairman 

JACK REED, Rhode Island 

CHARLES E. SCHUMER, New York 

ROBERT MENENDEZ, New Jersey 

SHERROD BROWN, Ohio 

JON TESTER, Montana 

MARK R. WARNER, Virginia 

JEFF MERKLEY, Oregon 

KAY HAGAN, North Carolina 

JOE MANCHIN III, West Virginia 

ELIZABETH WARREN, Massachusetts 

HEIDI HEITKAMP, North Dakota 

MIKE CRAPO, Idaho 

RICHARD C. SHELBY, Alabama 

BOB CORKER, Tennessee 

DAVID VITTER, Louisiana 

MIKE JOHANNS, Nebraska 

PATRICK J. TOOMEY, Pennsylvania 

MARK KIRK, Illinois 

JERRY MORAN, Kansas 

TOM COBURN, Oklahoma 

DEAN HELLER, Nevada 

CHARLES YI, Staff Director 

GREGG RICHARD, Republican Staff Director 

LAURA SWANSON, Deputy Staff Director 

GLEN SEARS, Deputy Policy Director 

ERIN BARRY FUHRER, Professional Staff Member 

BETH COOPER, Professional Staff Member 

WILLIAM FIELDS, Legislative Assistant 

GREG DEAN, Republican Chief Counsel 

CHAD DAVIS, Republican Professional Staff Member 

DAWN RATLIFF, Chief Clerk 

KELLY WISMER, Hearing Clerk 

SHELVIN SIMMONS, IT Director 

JIM CROWELL, Editor 

(II)
C O N T E N T S 

TUESDAY, MARCH 19, 2013 

Page 

Opening statement of Chairman Johnson ............................................................. 1 

Prepared statement .......................................................................................... 15 

Opening statements, comments, or prepared statements of: 

Senator Crapo ................................................................................................... 2 

Senator Vitter ................................................................................................... 3 

Senator Menendez 

Prepared statement ................................................................................... 33 

WITNESSES 

Mel Martinez, Co-Chair, Bipartisan Policy Center’s Housing Commission ........ 5 

Prepared statement .......................................................................................... 33 

Response to written questions of: 

Senator Menendez ..................................................................................... 122 

Peter J. Wallison, Arthur F. Burns Fellow in Financial Policy Studies, American Enterprise Institute ..................................................................................... 7 

Prepared statement .......................................................................................... 41 

Response to written questions of: 

Senator Menendez ..................................................................................... 128 

Janneke Ratcliffe, Senior Fellow, Center for American Progress Action Fund .. 9 

Prepared statement .......................................................................................... 111 

Response to written questions of: 

Senator Menendez ..................................................................................... 131 

(III)

(1) 

BIPARTISAN SOLUTIONS FOR HOUSING 

FINANCE REFORM? 

TUESDAY, MARCH 19, 2013 

U.S. SENATE, 

COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS, 

Washington, DC. 

The Committee met at 10:11 a.m. in room SD–538, Dirksen Senate Office Building, Hon. Tim Johnson, Chairman of the Committee, presiding. 

OPENING STATEMENT OF CHAIRMAN TIM JOHNSON 

Chairman JOHNSON. Last Congress, the Banking Committee held 

18 hearings regarding housing finance reform and suggestions for 

improving the current housing market and providing stability in 

the future. I look forward to continuing that conversation with the 

new Ranking Member and the new Members of the Committee. 

I would like to thank the witnesses in advance for contributing 

to what I hope will be a lively and substantive debate about bipartisan solutions for housing finance reform. I would also like to commend the BPC’s Housing Commission for producing a plan with 

broad support from both sides of the aisle. 

For housing finance reform to succeed, we must find areas of bipartisan consensus. A partisan bill or a bill full of ideology that ignores the realities of our economy would be irresponsible, especially 

when the housing market is beginning to show signs of strength. 

I will work with Ranking Member Crapo to establish a series of 

hearings to explore the issues that require more discussion before 

we can achieve a consensus bill. 

When the housing market began to decline, the Government took 

on a larger role—nearly 90 percent of the market. In previous hearings, witnesses testified that without Fannie Mae, Freddie Mac, 

and FHA providing liquidity, most families would not have been 

able to get a mortgage during the economic crisis. Witnesses also 

pointed out that, without Government involvement, the traditional 

30-year, fixed-rate mortgage would be priced out of reach for most 

borrowers, if it remained available at all. Now that the housing 

market is showing signs of strength, private capital is starting to 

return to the market. 

While the participation of private capital is essential for the 

health of our economy, I am concerned that a completely private 

housing finance system would place home ownership out of reach 

for many middle-income families and rural communities like those 

in my home State of South Dakota. I am not interested in creating 
2 

a system in which home ownership is only available to the few and 

most fortunate. 

We must find workable solutions that preserve the option of sustainable home ownership for future buyers and provide adequate financing for multifamily construction for those who prefer to rent 

or cannot afford to own a home. I look forward to hearing the suggestions of our witnesses. 

With that, I will turn to Senator Crapo. 

STATEMENT OF SENATOR MIKE CRAPO 

Senator CRAPO. Thank you, Mr. Chairman. 

On September 7, 2008, then-FHFA Director James Lockhart 

stood jointly with then-Treasury Secretary Henry Paulson to announce that Fannie Mae and Freddie Mac were being placed into 

conservatorship. In describing the situation as a ‘‘time-out,’’ Secretary Paulson stated: 

We will make a grave error if we do not use this time-out to permanently 

address the structural issues presented by the GSEs. In the weeks to come, 

I will describe my views on long-term reform. I look forward to engaging 

in that timely and necessary debate. 

It seems unlikely that anyone envisioned the time-out lasting 5 

years, costing taxpayers nearly $190 billion. Further, during this 

time-out, we still have not had that timely and necessary debate, 

and I thank the Chairman for getting us into that process now. 

These conservatorships were designed to be temporary, but with 

each day that passes, Fannie Mae and Freddie Mac become further 

entrenched within our Government. According to the most recent 

conservators’ report, Fannie Mae, Freddie Mac, and Ginnie Mae 

controlled 100 percent of the mortgage-backed securities, or MBS, 

market in the United States during the first three quarters of 

2012. One hundred percent. 

Since 2008, these governmental entities have controlled no less 

than 95 percent of that market in any given year. Simply put, 

much of the private market has not been able to re-enter the market and compete with the Federal Government. 

What do the monetary policies of the Federal Reserve and their 

buying large amounts of mortgage-backed securities do to that? 

Those able to obtain credit are not yet fully feeling the effects of 

a market lacking private participation and innovation. Presumably, 

though, this subsidy will someday end, and at that time all consumers will suffer if our markets have not been allowed to evolve 

for an extended period of time. 

An equally disappointing byproduct of the current situation is 

the growing urge by some to use the conservatorships as piggy 

banks. Two years ago, the guarantee fee charged by Fannie and 

Freddie was increased, not to insure against risk but to pay for an 

unrelated tax cut. This increase, which is nothing less than a hidden tax on home buyers, will last for 10 years, even though it paid 

for a tax cut that lasted only 2 months. 

Unfortunately, the proposed Senate budget that we are currently 

considering would further extend that tax to pay for new spending. 

I was pleased to see a bipartisan group of Senators from this Committee—Senators Corker, Warner, Vitter, and Warren—who recently introduced legislation that would prohibit this. 
3 

I, too, have long had concerns about this, so I am glad to see that 

we have a bipartisan consensus building against this practice. 

Hopefully together we can correct this wrongful policy on the floor. 

However, regardless of that outcome, this new attempt reminds 

of us of the importance of ending these conservatorships. It is my 

hope that this hearing can serve to reignite discussions on how to 

proceed with reform of our Nation’s housing market. 

There has been little movement on this since the Administration 

released a brief white paper more than 2 years ago. Within the 

amendment and across this Committee, there is certainly a wide 

range of views as to what would be the optimal solution. Some of 

these differences will be discussed today, and that is productive. 

However, for far too long, our differing views as to the optimal solution seem to have prevented substantive negotiations from even 

starting. 

While it is true that today we do not even agree on what should 

be the final product, this should not preclude us from beginning negotiations or even jointly identifying problems in today’s market. 

Mr. Chairman, again, I thank you for holding this hearing, and 

I stand ready to work with you and am eager to begin necessary 

bipartisan negotiations that will help us to end these 

conservatorships. 

Thank you. 

Chairman JOHNSON. Thank you, Senator Crapo. 

Are there any other Members who wish to make a brief opening 

statement? Senator Vitter. 

STATEMENT OF SENATOR DAVID VITTER 

Senator VITTER. Thank you very much, Mr. Chairman. I appreciate the opportunity. I will be very brief, and, unfortunately, I cannot stay for the remainder of the hearing. But I also wanted to 

thank you for this additional hearing on mortgage finance reform 

and to encourage bipartisan Committee action on this. 

Specifically, I did want to underscore what Senator Crapo just 

mentioned, this jump-start GSE reform bill that was recently introduced by Senators Warner and Corker and myself and Senator 

Warren. This is a bipartisan, realistic approach, a good start which 

fits the parameters that you described, and I think it is fully consistent with the process you described. And, therefore, we would 

urge you to schedule a markup of this bill in April. 

Again, the bill has broad bipartisan support and wide industry 

support, including specifically the Mortgage Bankers Association 

and the National Association of Realtors. Let me just quote briefly 

those two groups. 

MBA said, ‘‘It is imperative that Congress as well as the White 

House and key members of the housing community come together 

to create a comprehensive, transparent process that properly addresses the concerns and objectives of all affected stakeholders involved with GSE reform.’’ And they specifically support and endorse our bill. 

And the realtors wrote, ‘‘The prevailing thought among NAR’s 

members is: until housing finance reform is completed, specifically 

reform of the Government-sponsored enterprises Fannie Mae and 
4 

Freddie Mac, housing will continue to limp along in a state of purgatory.’’ 

Mr. Chairman, we are 5 years now removed from the start of our 

crisis. We have passed major legislation, and yet in all of that, four 

words have been missing completely: ‘‘Fannie Mae, Freddie Mac.’’ 

I think it is absolutely time to start acting in this area, and I think 

our legislation is a very good, reasonable, bipartisan start. And so 

I would urge a markup in April, if at all possible, as I suggested. 

Thank you very much for your leadership. 

Chairman JOHNSON. Thank you, Senator Vitter. 

I would note that this bill and Senators Menendez and Boxer’s 

refinancing bill are both commonsense measures, and they should 

move forward together. I look forward to working with Ranking 

Member Crapo and other Members of the Committee to accomplish 

this. 

Senator Tester? 

Senator TESTER. Thank you, Mr. Chairman. I appreciate you 

holding this hearing today. I certainly believe there are some areas 

of bipartisan agreement on this issue with housing finance reform, 

at least from my conversation with folks on this Committee. 

As our housing market shows some signs of strengthening, I 

think it is time for us to be working toward solutions, and I look 

forward to working with you, Mr. Chairman and Ranking Member 

Crapo, to build consensus within the Committee on the future of 

housing finance reform. 

Now, Montana’s housing market has seen its share of challenges 

over the past several years, but trouble areas are showing new 

signs of strength. And when I talk to folks across my State, they 

are tired of the rhetoric, and they agree that it is time for policymakers to begin making implement decisions about the future of 

housing finance. And I think many of us agree that we need to 

bring back more private capital to mortgage markets and to bear 

additional risk to better protect taxpayers, and that we should preserve the option of a traditional 30-year, fixed-rate mortgage. 

Being from rural American, from my perspective one of the most 

important assets of any future housing finance reform system is 

that small financial institutions that serve rural America remain 

on equal footing with the big guys when it comes to accessing the 

secondary market. If these communities banks and credit unions 

are cut out of the picture, then so, too, would many of the rural 

communities across this country be cut out. Rural communities are 

served and served well by small community-based institutions, so 

anything that would put them at a disadvantage would be a death 

knell for rural America. 

I want to thank the Committee Members for being here this 

morning. I look forward to your testimony, and I look forward to 

the questions and answers that follow thereafter. A special welcome back to Senator Mel Martinez. 

Chairman JOHNSON. Anyone else? 

[No response.] 

Chairman JOHNSON. Thank you all. 

I want to remind my colleagues that the record will be open for 

the next 7 days for opening statements and any other materials 

you would like to submit. 
5 

Now I would like to introduce our witnesses. 

The Honorable Mel Martinez is the co-chair of the Bipartisan 

Policy Center’s Housing Commission. Senator Martinez served in 

the Senate and as a Member of this Committee from 2005 to 2009. 

Senator Martinez also served as Secretary of Housing and Urban 

Development from 2001 to 2003. I welcome our colleague back to 

the Committee. 

The Honorable Peter Wallison is the Arthur F. Burns Fellow in 

Financial Policy Studies at the American Enterprise Institute. Mr. 

Wallison also served as a general counsel for the Treasury Department during the Reagan administration. 

And, finally, Ms. Janneke Ratcliffe is a senior fellow at the Center for American Progress and the Executive Director of the Center 

for Community Capital at the University of North Carolina. 

Senator Martinez, please begin your testimony. 

STATEMENT OF MEL MARTINEZ, CO-CHAIR, BIPARTISAN 

POLICY CENTER’S HOUSING COMMISSION 

Mr. MARTINEZ. Mr. Chairman, thank you very much, and Senator Crapo and Members of the Committee. It is a real pleasure to 

be back with all of you friends and to have an opportunity to talk 

about an issue that I know we all care a great deal about. 

I have been privileged to serve as one of the co-chairs of the Bipartisan Policy Center’s Housing Commission, and along with 

former Senator George Mitchell, Senator Kit Bond, and former Secretary of Housing Henry Cisneros. We are the co-chairs. And there 

was another group of another 21 people from both sides of the aisle 

with expertise in a variety of areas, the whole housing gamut. 

Over the last 16 months, we met and had a lot of conversation 

about what the future of housing should be. We issued a report last 

month, and it covers home ownership, affordable rental housing, 

rural housing, and the housing needs of our Nation’s seniors. Today 

I am going to highlight for you and discuss the recommendations 

of the report as it relates to housing finance. 

So as has been pointed out, our housing finance system is broken. It has been more than 4 years since Fannie Mae and Freddie 

Mac were placed into Government conservatorship, with no clear 

path forward even now. So the commission felt that there was an 

opportunity to fill this policy void and offer a blueprint for a new 

system that can support both the home ownership and rental markets for years to come. The commission reached consensus on five 

key objectives for this new system. 

Our first objective is a far greater role for the private sector in 

bearing credit risk. The dominant position of the Government, as 

was pointed out by Ranking Member Crapo, is 100 percent currently in this current time, and more than 95 percent for the last 

several years. This is unsustainable. Private capital is now flowing 

through the system, but it absorbs very little of the system’s credit 

risk. Instead, much of that risk lies with the Government. Nearly 

90 percent of the single-family home ownership market remains 

Government supported, and reducing the Government footprint 

and encouraging more private participation will protect taxpayers 

while providing for a greater diversity of funding sources. 
6 

The second objective is a continued, but much more limited, role 

for the Federal Government as the insurance backstop of last resort. The commission recommends the establishment of an explicit, 

but very limited, Government guarantee administered by a new entity that we call the ‘‘Public Guarantor’’ to ensure timely payment 

of principal and interest on qualified mortgage-backed securities. 

There really just is insufficient capacity on bank balance sheets 

alone to meet our Nation’s mortgage finance needs. A strong, vibrant secondary market for these securities is essential to freeing 

up additional capital for mortgage lending and connecting our Nation’s local housing markets to global investors. 

Investors in the secondary market require a Government guarantee protecting against catastrophic credit risk. These investors 

are willing to assume the risk of interest rate volatility, but they 

are unwilling to participate as a practical matter to underwrite the 

hundreds, if not thousands, of mortgages that make up mortgagebacked securities. In the absence of this catastrophic guarantee, investor interest in the secondary market would wane, mortgage 

credit would become more expensive, and widespread access to affordable, fixed-rate mortgage financing—particularly a 30-year 

mortgage—would disappear. 

In our proposal, the Government stands in the ‘‘fourth loss’’ position behind three layers of private capital: mortgage borrowers and 

their home equity; private credit enhancers, ranging from capital 

market products to highly capitalized mortgage insurers; and the 

corporate resources of the securities’ issuers and mortgage 

servicers. These private companies would be subject to stringent 

capital requirements that would enable them to weather losses 

similar in magnitude to those experienced during the Great Recession. 

The limited Government guarantee would kick in only after the 

private credit enhancers standing ahead of it had depleted all of 

their resources. Even then, these losses would be paid for through 

a fully funded catastrophic risk fund capitalized through the collection of insurance premiums over time, or guarantee fees, from 

mortgage borrowers. In many respects, this model is very similar 

to today’s Ginnie Mae. 

The third objective is the ultimate elimination of Fannie Mae 

and Freddie Mac over a transitional period—perhaps 5 to 10 years. 

And like other observers, the commission believes the business 

model of the two Government-sponsored enterprises—publicly traded companies with an implied Government guarantee and other advantages—should not be reproduced. 

The commission recognizes that a dynamic and flexible transition 

period will be necessary before the new, redesigned housing finance 

system is fully functioning. During this period of transition, it will 

be critical to avoid market disruption and to adjust course, when 

necessary, in response to shifts in the market and other critical 

events. The goal would be transition, not turbulence. 

If I may have just a couple minutes more, Mr. Chairman, the 

fourth objective is ensuring access to safe and affordable mortgages 

for all borrowers. This is a core principle for all of us. The housing 

finance system of the future must be one from which all Americans 

can benefit on equal terms. The commission believes that access to 
7 

the Government-guaranteed secondary market must be open on full 

and equal terms to lenders of all types, including community banks 

and credit unions, and in all geographic areas. Again, Ginnie Mae’s 

success in empowering smaller institutions to participate in programs like this is instructive here. 

And, finally, the FHA, the Federal Housing Administration, must 

return to its traditional mission of primarily serving first-time 

home buyers and borrowers with limited savings for 

downpayments. The recent concerns over the solvency of FHA’s single-family insurance fund only underscore the urgency of what we 

have—that far more risk-bearing private capital must flow into our 

Nation’s housing finance system. A system in which private capital 

is plentiful will reduce the pressure that is sometimes placed on 

the FHA to act as the mortgage credit provider of last resort and 

allow it to perform its traditional missions more effectively. 

Our proposals for reforming the rental, or multifamily, housing 

finance system are rooted in the same principles as single-family 

reform: the gradual wind-down of the GSEs; a greater role for capital to enter into the picture with the same catastrophic risk protections by the Government. 

Mr. Chairman, our report goes into considerable detail about individual components of the housing finance system that we envision. It describes the structure and responsibilities of the Public 

Guarantor as well as the roles of the private actors in this system. 

We have proposed a bipartisan plan that substantially reduces 

the Government intervention in the housing market and also protects the taxpayers, while ensuring the broad availability of affordable mortgage credit. I believe it strikes the right balance among 

competing policy goals and deserves your consideration. 

As a final note, the commission report identifies several factors 

that continue to stall a housing recovery in the immediate term, 

and those factors include: overly strict lending standards, which 

now go well beyond those in place before the housing bubble; and 

put-back risk—that is, the risk that lenders will be required to buy 

back a delinquent loan from Fannie Mae, Freddie Mac, or the FHA. 

While not our primary focus, we believe that these issues must 

be resolved before the housing market can fully recover. 

Mr. Chairman, it is a real pleasure to be back before the Committee, and I look forward from to—while it is much more pleasant 

to ask questions, I look forward to trying to answer some of your 

questions. 

[Laughter.] 

Chairman JOHNSON. Welcome back, Senator. 

Mr. Wallison, please proceed. 

STATEMENT OF PETER J. WALLISON, ARTHUR F. BURNS FELLOW IN FINANCIAL POLICY STUDIES, AMERICAN ENTERPRISE INSTITUTE 

Mr. WALLISON. Thank you very much. Mr. Chairman, Ranking 

Member Crapo, and Members of the Committee, good morning. 

There is no reason that housing, like virtually every other sector 

of the U.S. economy, cannot be privately financed. A private system 

will produce a low-cost and a stable market. The consistent failure 

of Government efforts to finance home ownership—examples are 
8 

the collapse of the S&Ls in the late 1980s, and the insolvency of 

Fannie Mae and Freddie Mac—should make Congress very reluctant to authorize another Government program. Many groups 

around Washington are suggesting imaginative ways to get the 

Government back into the housing business while avoiding, they 

claim, the mistakes of the past. 

These proposals are illusory. Government involvement will always result in losses because it always creates moral hazard. 

Fannie and Freddie are good examples. Because of their Government backing, no one cared what risks they were taking. That is 

what moral hazard does. 

In 1992, Congress adopted the affordable housing goals. To meet 

HUD’s quotas for low-income loans under these goals, the GSEs 

had to abandon their traditional focus on prime mortgages and 

substantially loosen their underwriting standards. By 1995, they 

were buying mortgages with 3-percent downpayments, and by 2000 

they were accepting mortgages with no downpayment at all. By 

2008, they were insolvent. This will happen every time the Government backs the housing finance business. 

How, then, would a private system work? My colleagues and I at 

AEI have proposed a simple idea—that the housing finance market 

will operate steadily and stably if only private mortgages are 

securitized. Before the affordable housing goals, when the GSEs 

would only buy prime mortgages, we had such a stable market. 

Subprime and other low-quality loans were a niche business. We 

should eliminate the GSEs, of course, but Congress can achieve the 

same mortgage market stability simply by requiring that only 

prime loans are securitized. This idea is at the root of the qualified 

residential mortgage in Dodd-Frank, but very poorly implemented. 

Reasonable underwriting standards and prime mortgages will 

not limit the availability of mortgage credit for those who can afford to carry the cost of a home. When Fannie and Freddie were 

accepting only prime loans, the home ownership rate in the United 

States was 64 percent. After the affordable housing goals, the rate 

went to almost 70 percent. But half of all mortgages in the United 

States, 28 million loans, were subprime or otherwise weak. When 

they defaulted in unprecedented numbers in 2007, we had a mortgage meltdown and a financial crisis. We paid a terrible price for 

that last 5 percent. 

Some argue that investors will not buy mortgage-backed securities unless they are Government guaranteed. If it were really true 

that investors were afraid of credit risk, nothing in our economy 

would be financed. However, prime mortgages and mortgagebacked securities based on them are not risky investments. Their 

traditional default rate was well under 1 percent. The natural investors in mortgages are insurance companies, pension funds, and 

mutual funds. They need long-term assets to match their long-term 

liabilities. 

Today these institutional investors, which, according to the Fed’s 

flow of funds data, have over $21 trillion to invest, do not buy any 

significant amount of GSE or Ginnie Mae securities. They earn 

their returns by taking credit risk, and the yields on these securities on which the taxpayers are taking the risk are simply too low. 
9 

Institutional investors have told us that if there were a steady 

flow of mortgage-backed securities on prime mortgages, they would 

be avid buyers. Securitizers and mortgage insurers have told us 

that a private system based on prime mortgages with mortgage insurance could finance a fully prepayable, 30-year, fixed-rate loan 

for about 20 basis points more than Fannie and Freddie are now 

requiring. 

Thus, a private system based on prime mortgages would operate 

at close to the cost of the current Government-dominated system 

without involving any risks to the taxpayers. To make such a system possible, the GSEs should be wound down over 5 years by reducing the conforming loan limits, and in light of the devastation 

caused by the most recent Government intervention in the housing 

market, this is a chance for Congress to end this very painful cycle 

of failure. 

Thank you. 

Chairman JOHNSON. Thank you. 

Ms. Ratcliffe, please proceed. 

STATEMENT OF JANNEKE RATCLIFFE, SENIOR FELLOW, 

CENTER FOR AMERICAN PROGRESS ACTION FUND 

Ms. RATCLIFFE. Good morning, Chairman Johnson, Ranking 

Member Crapo, and Members of the Committee. I am Janneke 

Ratcliffe, and in addition to being a senior fellow at the Center for 

American Progress Action Fund and with the UNC Center for 

Community Capital, I am also a member of the Mortgage Finance 

Working Group. 

In 2011, we drafted a ‘‘Plan for a Responsible Market for Housing Finance’’—and thank you so much for having me here today. 

While I will present recommendations from that plan, I speak only 

for myself today. 

As the crisis has taught us and our research confirms, many of 

the benefits arising from housing depend on the way in which 

housing is financed, and that is precisely the reason why since 

1932 the Government has sought to foster a mortgage marketplace 

that is stable, safe, efficient, and affordable. 

A hallmark of Government support is the long-term fixed-rate 

mortgage. Partly as a result, home ownership has served as a crucial building block of our strong middle class. However, the housing 

finance system is not functioning so well today, as we have discussed here, at least not for families and communities. It is too 

hard to get a mortgage, and many of today’s renters must spend 

too much of their income on housing. 

Fortunately, there is a bipartisan way forward. The Bipartisan 

Policy Center’s Housing Commission agrees that we urgently need 

a better system for financing rental housing, and that all creditworthy borrowers should be able to access home ownership. Perhaps most importantly, the commission’s plan is one of at least 18 

proposals, including other bipartisan proposals and our own, that 

call for Government support of the core of the market now served 

by Fannie Mae and Freddie Mac. We see a very broad consensus 

emerging. 

Now, we could continue to discuss Government’s role, and meanwhile the Government would continue to take full credit risk on 
10 

nearly all mortgages. But I hope that we can also discuss how to 

structure a role that is safe for taxpayers and good for the economy 

as well. 

Like the Bipartisan Policy Commission plan, our plan seeks to 

bring in as much private capital as possible. We propose privately 

run, well-capitalized regulated entities who would take the credit 

risk function that the GSEs currently have, on mortgage-backed securities only that meet specific standards. These chartered mortgage institutions, or CMIs, would also pay into a Government-managed reinsurance fund. This backstop would be explicit. It would be 

paid for and well protected by private capital, and that is in stark 

contrast to the prior GSE situation where the guarantee was ambiguous at best, not paid for, and much too highly leveraged. 

Comparing our plans with others highlights key considerations 

for addressing the important issues you raised in your invitation to 

speak today. First, broad availability of the long-term fixed-rate 

mortgage depends on a Government guarantee. Without it—many 

analysts have confirmed this—the 30-year fixed-rate mortgage is 

likely to be much less widely available and more expensive. 

Second, equal access for smaller lenders and those serving smaller communities is one feature of the current system that should be 

retained and built on. We warn against putting small originators 

at the mercy of their large competitors for access to the Government guarantee and against concentrating credit risk with big 

banks. In our proposal, originating lenders would not be allowed to 

operate a CMI. 

Third, the system should provide access for all qualified borrowers and market segments rather than serving only higher-income portions of that market. We propose anti-creaming measures 

alongside a market access fund that would foster innovation and 

access safely. 

Fourth, funding rental housing. This has been neglected by many 

plans. We applaud the attention paid by the commission to the crisis in affordable rental housing. Our plan envisions that Government-supported liquidity for multifamily lending would also include 

some income targeting. 

And then, fifth, protecting taxpayers. Serving the Nation’s housing needs requires Federal support yes, but only in a limited role 

that is well buffered by private capital and paid for, as we have 

discussed. 

Finally, economic recovery and stability of the housing market. 

Spelling out a clear plan with a flexible approach to transition can 

give the market needed certainty and limit disruptions in the near 

term. We must also keep our eye on long-term stability. Reliance 

on private capital does inherently introduce volatility. We, therefore, recommend building in countercyclical measures to maintain 

liquidity in times of economic stress when private capital tends to 

flee, as well as measures that impose risk management discipline 

in good times, as Mr. Wallison’s plan points out. 

In any event, the future state should prioritize what is in the 

best interest of the overall economy over the long run. What is at 

stake is the future of home ownership and economic opportunity for 

generations to come. These decisions should not be left to a conservator with a substantively different mandate. You now have the op-
11 

portunity to build a mortgage market that is fair, accessible, affordable, and fiscally sound that works better for more households and 

communities than ever before. 

I look forward to your questions. 

Chairman JOHNSON. Thank you. Thank you all for your testimony. 

As we begin questions, I would ask the clerk to put 5 minutes 

on the clock. 

Senator Martinez, the BPC’s report states that continued Government involvement is essential to ensuring that mortgages remain available and affordable to qualified home buyers. Did the 

commission investigate what would happen to the cost of mortgages for the majority of American families if a Government guarantee did not exist? If so, what did the commission conclude? 

Mr. MARTINEZ. Mr. Chairman, the commission addressed that 

issue, and let me say that I come at the conclusions that we reach, 

particularly on the Government backstop, as one who fundamentally began learning about the GSEs by listening to Peter 

Wallison’s warnings that their system was fatally flawed. And it 

was. And so I am one that is very reluctant, because I was a great 

advocate of better regulatory and governance, if at all, with the 

GSEs for a long, long time, as HUD Secretary and then as a Senator, very reluctant to embrace any sort of a Government involvement in the system. 

However, I think the judgment was made by the commission that 

a 30-year mortgage was a desirable goal for the American people 

and something that is kind of embedded into our housing finance 

system and expectations that we have. Not all of the world enjoys 

a fixed-rate, 30-year, low-cost mortgage. So we are unique in that. 

And part of that uniqueness, we came to the conclusion, resides in 

having some form of a Government backstop ultimately. 

While there may be a market for mortgage-backed securities that 

are purely private label, unquestionably there are places like central banks in distant lands and a whole lot of foreign investors as 

well as other domestic investors who just simply will not buy a 

mortgage-backed security that does not have some sort of Government backstop. 

So the way we approached it is to put the Government in the 

most protected position we could put the Government and in the 

most limited way possible with a funded fund. And the idea was 

to simply have three layers before you ever get to the Government 

and the creation of a credit enhancer in between that would be well 

capitalized, well regulated, and that would provide the real backstop at any point unless there was just this cataclysmic, catastrophic sort of event. 

Chairman JOHNSON. Senator Martinez, a BPC report seems to 

recommend a Government backstop with powers similar to Ginnie 

Mae and the FDIC. Is that accurate? 

Mr. MARTINEZ. That is correct, Mr. Chairman, and the thing we 

want to make sure we would not do is in any way replicate the 

model that was so fatally flawed in Fannie and Freddie. So that 

is correct. It is a Ginnie Mae-based model. 

Chairman JOHNSON. In that model, would the Government guarantor have exam and enforcement authority over the private enti-
12 

ties standing in front of the Government guarantee in the primary 

and secondary market? 

Mr. MARTINEZ. That is correct, sir. 

Chairman JOHNSON. Senator Martinez and Ms. Ratcliffe, both of 

your respective plans recommend a Government backstop, but the 

plans differ when they come to how loans are securitized. Under 

your respective plans, how would small community banks and credit unions access the secondary market? Senator Martinez, let us 

start with you. 

Mr. MARTINEZ. Well, Senator, we made clear that our system 

was one that would be designed similar to Ginnie Mae, and in that 

regard, that it would be open to community banks, it would be 

open to credit unions, and it would be open to the small players 

in the marketplace. And we feel like that is a very important component not only for the liquidity that it brings about but also because it is just a fair system that allows all players to play an 

equally important role. 

Chairman JOHNSON. Ms. Ratcliffe? 

Ms. RATCLIFFE. Thank you. We are completely in agreement—— 

Chairman JOHNSON. Turn on your mic. 

Ms. RATCLIFFE. Thank you. We are completely in agreement that 

the ability of small banks and banks in small communities, to be 

able to offer the same kinds of products that are equally priced and 

transparent and well understood, that has to be maintained in the 

system going forward. And that is a function that Fannie and 

Freddie largely have allowed to happen. 

There are some ways in which our plan differs technically from 

the BPC plan, but we also looked to the Ginnie Mae model where 

very small issuers can put out pools of loans. 

The difference in our case is that, instead of the issuer being responsible for obtaining the credit enhancement, the first loss credit 

enhancement, it would be left to specialized institutions that would 

be providing that function only and not doing the issuing. So that 

is the difference. And we feel that that would enable smaller institutions to be able to access that kind of guarantee on the same 

terms as large institutions. 

Chairman JOHNSON. Ms. Ratcliffe, I am very concerned that lowand middle-income families in rural areas might be ignored by private capital. Based on your research, are these fears valid? And 

what underwriting requirements should a new system include to 

ensure families have access to affordable mortgages while also protecting taxpayers? 

Ms. RATCLIFFE. Yes, sir. I think that is a legitimate concern. The 

market does tend to provide the best products to the parts of the 

market where it is easiest to do so, and that tends to be more affluent borrowers, and so they can tend to cherrypick or cream and 

leave out large segments, particularly lower-wealth borrowers, 

lower-income borrowers, borrowers in less well resourced communities. 

We have lots of evidence that shows that lending to these kinds 

of families can be done safely and soundly. Case in point: For the 

last 10 years, we have been studying a portfolio of almost 50,000 

loans made to borrowers by banks around the country. The median 

borrower earned $35,000 a year. Most of the borrowers put down 
13 

less than 5 percent, and half of them had credit scores below 680. 

Today they would not be able to get mortgages, and yet even 

through the crisis, they have managed to perform pretty well. And 

it is a sign that, when provided safe and sound products, like the 

30-year fixed-rate mortgage, and well underwritten and given access to the mainstream prime market, you can make safe and 

sound mortgages. 

So we think it is very important not to let these segments go underserved. It is very important to the rest of the market. It is the 

first step of home ownership that allows other people to move up 

and sell their homes and so on and so forth. So it is a critical function of a well-functioning market to see that that market gets 

served. 

That does lead us to how you do it, and our plan has an extensive discussion. We agree with many other people that the affordable housing goals that Fannie and Freddie were subject to were 

not the right way to go about achieving this. They were blunt instruments and, frankly, not that effective. And so in our plan we 

talk about a more plan-based strategic approach to ensuring that 

this access is provided. And in addition to having a sort of duty to 

serve on these entities, we would offer tools that could help make 

that possible, such as a market access fund, which could provide 

a safe and sound way for institutions to try research and development and find new ways to expand the market safely. 

Chairman JOHNSON. Senator Crapo. 

Senator CRAPO. Thank you, Mr. Chairman. I want to start out, 

I hope briefly, with the question that I raised in my opening commission relating to Congress’ tinkering with the guarantee fees. 

As I indicated in my opening comments, I have my opposition 

and there is bipartisan opposition on this Committee to using an 

increase in the guarantee fees to offset, in one case, tax cuts and, 

in the current proposal in the budget, spending increases. 

Do any of you believe that we ought to be offsetting Government 

spending, which may or may not even be related to housing policy, 

through increases in the guarantee fees charged by Fannie Mae 

and Freddie Mac? 

Mr. MARTINEZ. I clearly do not, sir, and I applaud the bipartisan 

bill that has been offered. 

Senator CRAPO. Thank you. 

Mr. Wallison? 

Mr. WALLISON. I am of the same view. I think it would be a big 

mistake to get the GSEs involved in paying for other aspects of the 

Government’s activities. 

Senator CRAPO. Ms. Ratcliffe? 

Ms. RATCLIFFE. I see that we have bipartisan consensus here, 

and I would agree. And I would suggest that we also be thinking 

about constructive ways that surplus g-fees could be used in some 

ways to start capitalizing for a new system of the future as well 

as thinking about the Housing Trust Fund and the Capital Magnet 

Fund that have still gone unfunded. 

Senator CRAPO. Well, thank you, and I would like all of you to 

respond to this. I am going to start with Mr. Wallison, but the next 

question I want to get into is how we correctly price risk and 
14 

whether there really is a consumer benefit if we correctly price 

risk. 

I think one thing we have learned is the Government is not very 

good at pricing risk, but some experts have suggested that if we assume the Federal Government was able to accurately price risk 

and actually charged fees that are high enough to fully offset that 

risk, then the pricing benefit that is traditionally associated with 

a Government guarantee would disappear. Instead, the Government would have to charge as much or nearly as much as the private sector would to assume this risk, and, thus, the only way to 

achieve lower pricing through Government guarantees would be by 

having the taxpayers subsidize risk. 

Could you comment on this point, Mr. Wallison? 

Mr. WALLISON. Yes. I do not think there is any evidence that the 

Government can effectively price for risk. There are several reasons 

for this. One is that the Government does not have the incentive 

that insurance companies have to price for risk. Another is that to 

protect against catastrophic events it is necessary to build up a 

fund. What we find all the time is that once the fund is created, 

the interests come in and argue that the fund is large enough, we 

do not have to charge any more, and Congress agrees. As a result, 

the fund never gets to the size that it should in order to deal with 

the catastrophes that eventually occur. 

We can see that, of course, because the Government just had to 

bail out the Flood Insurance Program because there was not 

enough money in that fund. That was an insurance fund. The 

FDIC was insolvent for a period of time after 2008 because it had 

not built a big enough fund. 

It will again be a mistake if we set up another fund. We will 

find, 10 years from now, when we have a problem, that the fund 

was not adequately funded. 

Senator CRAPO. Thank you. 

Ms. Ratcliffe, do you have an opinion on this? 

Ms. RATCLIFFE. Yes. First of all, we also have some evidence that 

the private sector has some problems pricing risk, so I do not think 

it is an either/or thing. 

To Peter’s point—and the commission’s proposal and our proposal both use the mechanism of putting private capital at risk, in 

our case private entities whose capital would have to be fully depleted before the backstop—first, the fund would be hit and then 

depleted before a backstop. So clearly this puts the onus on the private sector entities to figure out the right risk pricing. 

In contrast to the GSEs, you know, they had to hold 45 basis 

points of capital on the risk, and the commission’s plan and ours 

are similarly recognizing that, you know, the recent crisis gives us 

a pretty good idea of the high watermark that we need to be thinking about. Maybe it is a 4 to 5 percent kind of capitalization requirement. That would be many times higher than what the GSEs 

were carrying. 

So I think if you can put private entities in a meaningful first 

loss position that is not too highly leveraged, then you will have 

the combination, the best combination, of private sector discipline 

and public sector oversight. 

Senator CRAPO. Mr. Martinez? 
15 

Mr. MARTINEZ. We largely agree, particularly with the last comments Ms. Ratcliffe made, and I believe particularly in the sense 

that we are looking to well capitalize credit enhances that would 

be well regulated and well capitalized all along, putting the Government in the very last position. 

So, to me, I view—by the way, the FDIC is a good model as well. 

While they may have had a hiccup around 2008 when a lot of 

things were not going to exactly right, it ultimately righted its own 

ship. And I believe that the FDIC is a model that can be replicated 

in terms of funding a fund that will ultimately be there. 

One other thing that has not been touched on and I think is very 

important that we discuss in terms of the Government guarantor 

is the necessity for there to be a TBA market. The to-be-announced 

market is an essential ingredient of secondary mortgage markets, 

and without a Government guarantor, the TBA market would not 

exist. And I think before we think that it can be dispensed with, 

we should give a very close look to the importance of the TBA market and the importance the TBA market has in creating the kinds 

of liquidity and fungibility that mortgages have today that allows 

them to be traded forward. 

Senator CRAPO. Thank you. 

Chairman JOHNSON. Senator Reed. 

Senator REED. Well, thank you very much, Mr. Chairman. Thank 

you, panel, for your excellent testimony. And welcome back, Mr. 

Secretary. Good to see you. 

As the author of the National Housing Trust Fund and the Capital Magnet Fund, I was very pleased to see that your Housing 

Commission recommended retention of these two entities in a reformed housing system. Can you comment upon the basis of your 

recommendation and why we need to maintain these programs? 

Mr. MARTINEZ. Well, Senator, I think that there was a recognition that these programs, although still in—— 

Senator REED. Infancy. 

Mr. MARTINEZ. In the infancy, correct—were an important way 

in which, you know, we can create affordability and create accessibility to those that otherwise might not have it. And so there was 

not a lot of dissension in terms of that. I mean, obviously some 

would differ, but I think the consensus of the group was that it 

should be maintained and it should be left as it is. 

Senator REED. Thank you very much, Mr. Secretary, and, again, 

thank you for your service both here and over at HUD. Thank you 

very much. 

Mr. MARTINEZ. Thank you. 

Senator REED. Ms. Ratcliffe, I was pleased to see that in your 

comments you mentioned rental housing, because one of the perceptions is this is just about home ownership and that our housing 

goals have to embrace that. But you also indicate that we have to 

have responsible plans for financing affordable rental properties. 

Could you elaborate upon that? Again, I think one of the conclusions coming out of the last several years is that rental housing is 

for some people the best choice, not just the default choice. If you 

would comment? 

Ms. RATCLIFFE. Sure. Right, I agree that we really cannot get on 

track without a strong rental housing finance system. More than 
16 

a third of Americans live in rental housing, and more than half of 

them spend more than 30 percent of their income on housing, 

which is a much higher share than of homeowners’ spending that 

much of their income on housing. 

There has been a sharp drop in construction of multifamily rental residences, but it is quite—everybody projects an increase in the 

demand for rentals. So we only see this pressure on rental rates 

rising. 

Providing long-term, efficient, affordable capital for rental housing also results in long-term affordable, stable rental rates. And so 

we see the direct connection between the secondary market system 

for the multifamily market to that kind of stability for renters. 

Stability in housing and affordability in housing for renters is a 

way that they can start to create some space between their income 

and their monthly payment, that they can start building some assets and some economic stability. So we think it is critical that the 

system take that into account. And in some ways, you know, for 

renters, renting might be an option for now, but having that kind 

of stable rental where you can start to build some savings is also 

in a sense the first step on the ladder to home ownership. 

Senator REED. One of the other phenomena that we are beginning to recognize now is that there is a whole cohort, a whole generation of Americans that have extraordinary debt from their college education, from postsecondary education. In fact, the Pew report I think just last week indicated this could defer home purchases for several years from 25 to 35, which does several things: 

one, it impacts home ownership, which you are struggling with, 

that issue; but also I think it underscores the need, again, for rental housing, because there are going to be many young families who 

20 years ago would have had the downpayment, bought the house, 

et cetera, and now are going to be waiting 10 years as they pay off 

their college loans, and they will need rental housing. Is that another factor that we have to consider? 

Ms. RATCLIFFE. Absolutely. Yes, sir, we do. And I think just looking generally ahead at the demographic trends, the home buyers of 

the future or, for that matter, the renters of the future, the source 

of housing demand in the future is going to come from households 

that are less wealthy, younger, more likely to be households of 

color. So we need to be sure that our system serves that segment 

of the market. 

Senator REED. It goes back to this issue of affordability and not 

just, you know, having the market mechanisms in place. 

Mr. Secretary, do you have a comment? 

Mr. MARTINEZ. Yes, I just want to add to that. Anecdotally, you 

can also in the marketplace see that there is just not a lot of available, much less affordable, rental housing today. And I wanted to 

also add the elderly into the mix, which is a real difficult problem. 

Affordable housing for the elderly, and adequate housing, and 

aging in place and all of those things continue to be, I think, a tremendously important issue that we cannot overlook. 

Senator REED. Just a quick question. I am sorry, Mr. Wallison. 

Your testimony is always extremely thoughtful. There are two 

issues if we go—and this is very conceptual—into an exclusively 

private market. One of the problems, I think, we saw in 2008 and 
17 

2009 was very poor underwriting. And then when you get to the 

securitization market, credit rating agencies, they could not perform properly. 

Is the basis of one of your assumptions going forward with an essentially purely private model that these underwriting problems, 

which were notorious at Countrywide and other places, can be corrected, will be corrected? And does that imply much greater oversight by regulators like OCC and other Federal regulators and the 

underwriting process and also dealing with the credit rating agencies? 

Mr. WALLISON. Well, first of all, the reason that we had poor underwriting in those periods—and it is not just 2008 and 2009, but 

actually, again, in the mid-1990s—was because Fannie Mae and 

Freddie Mac were striving to meet the quotas that HUD was establishing for them under the affordable housing goals. 

Senator REED. But excuse me. Countrywide was being forced to 

write terrible loans even as their market share grew much more 

dramatically than Fannie Mae because of the affordable housing 

goals. 

Mr. WALLISON. Sure, but how—— 

Senator REED. They were not subject to those goals. 

Mr. WALLISON. Right, they were not partly responsible. But they 

had a buyer in Fannie Mae and Freddie Mac. They were the biggest suppliers to Fannie Mae. And the reason they created all those 

terrible loans was because Fannie Mae and Freddie Mac wanted 

them. 

We cannot just look at the originators. We should look at the customers that they had, and the customers were in the Government. 

Senator REED. Well, what about private securitizations of Wall 

Street which became hugely important, which did not have affordable housing goals, which essentially were going to Countrywide 

and saying, ‘‘You do not need Fannie and Freddie, you got us and 

we got you, and we got the credit rating agencies’’? They were not 

at all a problem? 

Mr. WALLISON. I agree that the private sector was also guilty 

here. 

Senator REED. Well, thank you. 

Mr. WALLISON. I am not saying the private sector was not partly 

responsible. But if you look at where those bad mortgages went, 74 

percent of them were on the books of the Government agencies in 

2008; 26 percent were on the books of private agencies, private organizations. So the main malefactor in our problems in 2008 was 

the Government. 

Senator REED. By 2008, 6.2 percent of these GSE mortgages—I 

think you were talking about it—were seriously delinquent versus 

28.3 percent of non-GSE securitized mortgages. So where did the 

bad mortgages go? To Fannie or to the private Wall Street crowd? 

Mr. WALLISON. With all respect, Senator, Fannie became insolvent, and so did Freddie. And the reason they became insolvent—— 

Senator REED. And Countrywide did, and—— 

Mr. WALLISON.——was because they acquired so many terrible 

mortgages. 
18 

Senator REED. And Countrywide did, and many others did, and 

one could argue that some of the major financial institutions in the 

United States would have been insolvent except for being bailed 

out by the Fed. 

Thank you. 

Chairman JOHNSON. Senator Martinez. 

Mr. MARTINEZ. You mean Menendez. 

[Laughter.] 

Senator REED. No comment. 

Senator MENENDEZ. We are both Cuban, Mr. Chairman, but he 

is better looking than I am. 

[Laughter.] 

Senator MENENDEZ. Let me thank you all for your testimony. 

You know, the one thing I hear pretty universally—maybe different 

views exactly, but there has to be some Government backstop here, 

or else the market as we know it, particularly for the aspirations 

of typical families would not be realized at the end of the day. 

I would like to ask you, Ms. Ratcliffe, there are nearly 12 million 

Government-sponsored borrowers who are current on their loans, 

but they are underwater and they cannot refinance under today’s 

lower mortgage rates. Both I and Senator Boxer have introduced 

legislation that would help these hard-working families to lower 

their payments and, in doing so, continue to be responsible borrowers, solidify a part of the housing market, and in my view, also 

unlock some economic potential because if I have the roof and it 

has been leaking and I cannot afford to replace it and I now have 

an additional $300 or $400 in my cash-flow because I have reduced 

my mortgage payments, I can replace the roof. That means I am 

going to hire somebody. That means it is going to have a ripple effect in the economy. 

What are your thoughts on the outcome of such legislation might 

be on the current market? 

Ms. RATCLIFFE. So, generally, we are supportive of principal reduction when it can be a win-win-win situation for the borrower 

and the investor and the community that they are in. Early research that we did has demonstrated that default rates and recoveries on loans where a principal reduction is granted are much 

more favorable than when you go ahead with the foreclosure. And 

it still escapes me why servicers are so eager to go ahead with 

short sales and other situations where they get back less for the 

sale of their property than when a principal reduction to the current owner might actually achieve a better economic outcome. So 

we have generally supported principal reduction where it can 

be—— 

Senator MENENDEZ. And I appreciate that. In our case, what we 

are just simply saying is let us remove the barriers to refinancing 

on the historically lower rates right now—— 

Ms. RATCLIFFE. And, absolutely, that even goes without saying, 

even further. The debt loads that people are carrying right now on 

their housing is one of the things that is holding back the housing 

recovery. So if you can alleviate that, I think it would be good for 

the economy. 

Senator MENENDEZ. Let me ask Senator Martinez: The Coalition 

for Sensible Lending recently presented to Congress its findings on 
19 

what the credit space would look like for first-time home buyers 

and minority families if the QRM rule incorporated even a 10-percent downpayment. The results were not encouraging considering 

that the average time for a medium-income African American family to save 10 percent on a medium-priced home was 31 years and 

20 years for a comparable white family. 

What does this mean for discussions on limiting the Government’s role or using a 20-percent downpayment as the gold standard? 

Mr. MARTINEZ. Senator, I think it would be very, very difficult 

to have a viable opportunity for home ownership for a whole lot of 

Americans, and I am thinking that a 20 percent goal would be really—it would just put way too many Americans out of the dream of 

home ownership. 

So in a responsibly actuarial way, with good underwriting, you 

know, verifying employment, and a whole lot of other things that 

ought to go into it that at some time in the recent past were abandoned, I think there still should be a place for there to be a low 

loan-to-value sort of mortgage for families that are struggling to 

reach the American dream. 

Senator MENENDEZ. And I think that you hit the nail on the 

head when you said looking at the variety of factors to consider in 

terms of risk and underwriting is incredibly important as well, not 

just a position on which you say 20 percent. 

Ms. Ratcliffe, in a countercyclical time, when private capital retreats from the market without a vehicle to provide mortgage credit, how would American families buy a home? And would that not 

have a profoundly negative effect on the economy in terms of recovery? 

Ms. RATCLIFFE. You raise a very challenging question for GSE 

reform, for the issues that lay ahead of you today. 

In our proposal, we would suggest—you know, the GSEs currently have this or used to have this portfolio function that they 

used a lot of times to address countercyclicality, and we do not call 

for that function to be continued in the reformed secondary market. 

We propose a mechanism where perhaps a special class of debt 

could be issued in times of crisis that would maybe move around 

a little bit the relationship between the Federal role and—the Government role and the private role of the fund and the private capital to keep a reliable flow of credit going in tough times. 

But I also wanted to come back to the point that what happens 

in tough times is largely a function of what you have allowed to 

happen as well in good times. If in times of strong markets, capital 

requirements are reduced, underwriting standards are loosened too 

much, you are basically setting up the failure during the tougher 

times. 

So it is very important to maintain strong capitalization of any 

risk-taking entities and strong risk management disciplines, and 

we see that this can be done if you establish specialized monoline 

entities to take that risk that are well regulated and well capitalized and well monitored, and that actually buildup capital in good 

times. So it is countercyclical in the good times as well as in the 

difficult times. 

Senator MENENDEZ. Thank you, Mr. Chairman. 
20 

Chairman JOHNSON. Thank you, Senator Menendez. 

Senator Corker? 

Senator CORKER. Thank you, Mr. Chairman. I am out of breath. 

I welcome all of you, and certainly I always enjoy having a bipartisan, sort of the to right/sort of to the left presentation on something that is very complicated. I want to thank each of you for 

your—sorry. 

[Laughter.] 

Senator CORKER.——for your support of the bill to at least begin 

making sure that g-fees are not being used to pay for other things 

and that we have the ability to know that, you know, we are going 

to do something different with the GSEs. 

The GSEs both—I am going to make more of a statement than 

ask a question, but the GSEs have been a political football for both 

sides for years. And each side has had a lot of fun with this political football. Certainly during Dodd-Frank, I know folks on our side 

did, and now we have an opportunity, I think, and I think the environment is right to actually do something very good, and I applaud 

all three of you for coming in and talking with us. And I certainly 

appreciate what each of you have done through the years to sort 

of help us think through this. 

I sort of feel the environment is getting right, and Ed DeMarco, 

who is at FHFA—you know, certainly I know some of my friends 

on the other side of the aisle have some issues with him, but as 

a technocrat, he has been pretty good at sort of laying—I see each 

of you nodding your head up and down, for the record. He has been 

pretty good. 

[Laughter.] 

Senator CORKER. He has been pretty good at the technical issues 

of walking through. I know that some of my friends do not like 

some of the policy decisions that he ha made, but even on those, 

it looks like he is coming around a little bit to their way of thinking 

on some things. 

But, regardless, my point is that the GSEs are very complex. 

Numbers of us have sat down in bipartisan meetings to walk 

through the things that have to be dealt with on the GSEs. It is 

very complex. It requires a lot of things to work together, so walking through a transition to a reformed situation is going to be very 

difficult. 

The Administration recently has floated a name through the 

press of a person to lead the GSEs, and let me just mention, you 

know, I am Ranking Member on Foreign Relations. We had almost 

a unanimous vote for a politician to lead the State Department. We 

have a politician leading Defense. And I am all for politicians going 

on to grander things. But I think the GSEs are a very unusual situation, and that is that we really need somebody with technical 

strength and with no political bias whatsoever to help us walk 

through this. And the last thing that we need is a politician that 

has actually been involved in these issues for years leading the organization. 

And I would just ask you, if you agree, that regardless of whose 

technocrat it is, that between now and the actual implementation 

of a changed program we would be better off having a technocrat 

at the head—it can be the Democrats’ technocrat or the Repub-
21 

licans’ technocrat, but somebody that actually understands these 

issues and knows that he is going to have to walk through the reform process fully, and if it is not done with tremendous grace, it 

could do a lot of damage to an industry that is very important to 

our country. 

You can answer that yes/no. 

[Laughter.] 

Mr. MARTINEZ. Senator, I think you are pretty accurate. I mean, 

I agree with you. I think it ought to be a very technical person, and 

I also agree that Ed DeMarco has done a great deal of—a great 

public service in his role, and I think someone that emulates his 

sort of nonpolitical role, who is well rooted in the intricacies of 

these very complicated entities, would be the ideal person. 

Mr. WALLISON. Yes, I would agree, Senator Corker. Ed DeMarco 

has been a remarkable public servant. One of the things that he 

has done is he has begun a process of preparing the GSEs for either some sort of Government program or a private program without siding with either of those. And he has also helped a little bit 

to make it possible for the private sector to compete with the GSEs 

by raising the g-fees. 

So we need another person like Ed DeMarco, if not Ed DeMarco 

himself. 

Ms. RATCLIFFE. So I think that depends somewhat on the extent 

to which the candidate understands the mortgage finance system 

and the intricacies and complexities that you described. And, of 

course, if they are from North Carolina, that would be a factor in 

my decision. 

[Laughter.] 

Ms. RATCLIFFE. But, seriously, I think the important thing about 

reform is not so much who is in the conservator’s seat with a conservator’s mandate, but the necessity of this body to come up with 

a plan for reform of the secondary market. 

Senator CORKER. I agree. And I think that, I mean, when you 

start going through the nuances of this, what really is going to 

happen—Mark Warner and I had a great meeting yesterday with 

someone to walk through—you are going to really end up depending upon that conservator. You cannot lay out every detail, and we 

saw that—I mean, my friends on the other side of the aisle understood that during Dodd-Frank. You cannot lay out every detail. You 

have got to leave it up to the regulators to have some discretion. 

Well, certainly, as we transition from where we are today to a 

new system, you are going to have to leave some of the guidelines 

somewhat broad so that there is discretion. 

So, again, I think making sure that we continue to have a neutral figure, if you will, one that is trusted, regardless of who it is, 

and has the ability to walk through the technical issues to me 

would be very important. 

I know my time is up. I thank you each. I know we have had 

multiple conversations. I look forward to more. And I do think— 

I hope, Mr. Chairman, that 2013 will not end without us doing 

something in a bipartisan way to reform these. I really do think 

that is possible, and I hope the Chairman and Ranking Member 

will decide to let that happen. So thank you. 

Chairman JOHNSON. Thank you. 
22 

Senator Tester. 

Senator TESTER. Yes, thank you, Mr. Chairman. And before I 

start with my questions, as long as Senator Corker is here, he is 

spot on, and I think Ms. Ratcliffe is spot on, along with the rest 

of you. We really need to tackle this problem, and I think the time 

is right. I think we played political football while the industries are 

out there looking at us and saying, ‘‘Why don’t you get after it and 

get it done?’’ And we will end up with something that not everybody is entirely happy with, but a hell of a lot better than we have 

now. 

And so I think that is really the crux of it, and that is why I really thank you guys for your testimony. And there was a lot of agreement up here, whether it is from the left or the right or the center, 

or wherever, on where we need to go. 

I am going to start out with you, Senator Martinez, and I want 

to thank you and the Bipartisan Policy Commission for specifically 

outlining the importance of housing in rural communities. And as 

the commission acknowledged, rural communities are home to 

about one-third of the U.S. population. They face unique challenges, which can include a dearth of quality housing and a significant number of household spending a substantial portion of their 

income on housing costs. 

And I also appreciate that you have explored the issue of rental 

housing. Critically important, I think it is absolutely important, especially in rural America, but maybe all over the country, and I 

think you have advocated USDA’s role in supporting rural households. 

There is another issue that I was wondering whether you looked 

into or not. It is an issue that, quite frankly, my wife and I dealt 

with 20 years ago when we built a house. We could have rehabbed 

our old one, but it made more sense and it was more cost-effective 

just to start over. That is not true in all cases. Sometimes 

rehabbing a house is much better, much more cost-efficient. 

Did you look into whether there might be opportunities to finance rehabilitation as a more efficient way to improve particularly 

rural housing stock? 

Mr. MARTINEZ. No, Senator, we did not really look at that. It is 

not an area that we delved into at all. 

Senator TESTER. Well, let me ask any of the panelists up there. 

Is this something that you think has merit, or should we stay away 

from it? And what I am talking about is rehabbing versus rebuilding. 

Ms. RATCLIFFE. Not only in the context of rural housing, if I may, 

but also in the context of community revitalization, clearly the role 

of—a need, a shortage of good financing for acquisition rehab, for 

example, has been identified, and so I would agree with you. 

And in terms of rural housing more generally, something else I 

would point to is HERA called for the GSE conservator to set ‘‘duty 

to serve’’ requirements on rural housing, manufactured housing, 

and affordable housing preservation, which touch on a number of 

issues for rural communities. And the idea behind this would be instead of having, you know, numeric goals, like the housing goals, 

there would be more of a strategic comprehensive plan that would 

lay out what the agencies would be expected to do to try to expand 
23 

service to those markets. And those three subsets were identified 

as places where there is big financing gaps. 

And so I believe there is a proposed rule on that, but it has not 

been finalized yet. 

Senator TESTER. OK. We will talk about smaller financial institutions. It has been talked about a lot already, and many of the questions have been answered. But particularly for Senator Martinez 

and Ms. Ratcliffe, in developing your plans, was there any analysis 

of the role smaller financial institutions play currently in the housing finance system and what impact a system that limited the access of these firms to the secondary market would have on mortgage costs and access to mortgage products in rural America? 

Mr. MARTINEZ. There is no question, Senator, that that was an 

important consideration. We felt that access for the smaller institutions into the secondary market was an essential ingredient, not 

only the community banks but also the credit unions. And it was 

something that we emphasized in our report. And I should also add 

that Senator Kit Bond, who is a great advocate of rural housing, 

a former colleague of ours, you know, his role on the commission 

was a great champion of the whole rural housing in small communities and the community enterprises as well to be participants in 

the marketplace. 

Senator TESTER. Ms. Ratcliffe, do you have anything to add to 

that? 

Ms. RATCLIFFE. I mean, I would agree completely. I would just— 

as a case study, I described the program we have been studying for 

the last 10 years with the 50,000 mortgages that were originated 

by banks around the country, and a lot of these banks were doing 

this to meet the needs of their local communities as they identified 

them. But without a way to sell those mortgages into the secondary 

market, it really limited their ability to provide that financing. 

So what this program did was it created a partnership with 

Fannie Mae to be able to sell these loans to the GSEs, and that 

enabled those institutions to provide that kind of financing at the 

level that their communities need it. 

Senator TESTER. Well, thank you, and I want to once again 

thank you all. And I also want to, as long as the Ranking Member 

is here with the Chairman, say how important I think this issue 

is. I talked in my opening remarks about how the housing market 

is coming back, and I think it is doing it in spite of us. And I think 

that if we were able to sit down and make this a priority for this 

Congress to get this through and get bipartisan support for a bill 

that will deal with the GSEs, I think it would be something we 

could all be proud of on this Committee and something whose time 

has come and passed, and so we need to deal with it. 

Thank you, Mr. Chairman. 

Chairman JOHNSON. Senator Warner. 

Senator WARNER. Thank you, Mr. Chairman. Let me take off 

where my friend Senator Tester left off and simply echo his views 

that, you know, I really do think this is the moment. There were 

clearly concerns about kind of the ‘‘do no harm’’ over the last few 

years. The housing market was slowly recovering. I have the fear 

that, as the housing market now may be recovering very quickly, 

we are going to see enormous profits starting to flow back into 
24 

Fannie and Freddie and the pressure to—you know, there is going 

to be this normal—well, let us just go back to the status quo, and 

maybe this is not a problem. And I think there are real challenges 

in this system that we have got right now, and that there is actually a lot more bipartisan accord than on many of the other issues. 

I would also say that one of the things that we have been looking 

at that I do not know, Senator Martinez—and it is great to see this 

panel back here again—whether you all looked at that there are 

certain almost utility-like functions that actually FHFA is trying to 

move forward with now and trying to bring more transparency 

around common standards in terms of appraisals, underwriting, 

you know, a single-securitization platform. 

There is a utility component in all of this that even my good 

friend Peter Wallison might say needs to be not done by a private 

sector entity but a utility function here. Did you look at all at that 

issue? 

Mr. MARTINEZ. Well, Senator, in the Government guarantor, as 

we call it, there would be regulatory functions, there would be— 

those kinds of functions would reside there without creating anything akin to the current models of the GSEs. But there would be 

some functions in terms of ensuring that the private sector actors 

were well capitalized, you know, the kinds of functions that I think 

you would expect there to be. 

Senator WARNER. I actually believe there may be something earlier on in the chain where there might be this kind of common information transparency platform that would be totally separate 

from any kind of Government backstop that currently Fannie and 

Freddie perform, but not very well. But it all starts, again, with a 

basis around transparency. 

Let me hit a couple other points. I have got a lot, unless we are 

going to get a second round. 

I do believe, as I think at least two out of the three panelists 

agree, that if we put enough tranches in front of any Government 

backstop, you know, home equity, mortgage insurance, risk reserves, a catastrophic FDIC-type fund, and then if all of that—an 

FDIC-type fund that would then be replenished from the industry, 

but there could still be some ultimate backstop during the moment 

of crisis. 

Now, I have spent a lot of time and have enormous respect for 

Peter Wallison in terms of our discussions, and, you know, I know 

never, ever, ever Government backstop anywhere messes up things. 

Here is my—here is my question to you: 

If we had—and just envision this as a potential; I want to hear 

all of you—but this Government backstop at some point, could you 

not, if that Government backstop, say, took 95 percent of the risk, 

even within that Government backstop, sell off some small slice, 

some small sliver, 2 to 5 percent of a private part of that reinsurance, that could be that kind of private market warning system if 

everything along the way was sliding into too much complacency. 

Do you want to start? And then if the others—— 

Mr. WALLISON. I think it is possible to do something like that. 

I have not seen it done, but I think it is possible. 

I would like to say this, though, about these private backstops: 

The problem with them is that the idea is to protect the buyer of 
25 

the mortgage-backed security. Once you have protected the buyer 

of the mortgage-backed security, that person is not worried anymore about the risks that are in the system, not worried about the 

quality of the mortgages, not worried about the capital of the issuer 

of that mortgage, or mortgage-backed security. And so you eliminate any kind of market discipline at that point. 

Now, the BPC plan and I think the other plan from CAP that 

we were talking about kind of assume that the Government is 

going to step in, and everyone in the industry will probably believe 

that, too. The people who are in mortgage insurers, the people who 

are the various corporations that are issuing these mortgages or 

mortgage-backed securities, will all assume that they are going to 

be bailed out if something happens in the market. And as a result 

of that, there will not be any kind of market discipline on any of 

them. We will end up with exactly the same process that we had 

with Fannie Mae and Freddie Mac. 

Senator WARNER. Well, I am never going to get you to yes, but 

I am going to—I would love to sit with you with these various layers, and there may be a way on that ultimate backstop to take a 

slice. 

I know my time has expired. I just want to make one last comment. One of the things that I know at least, Senator Martinez and 

Ms. Ratcliffe, you have talked about is taking away—on the affordable housing piece, taking it away from this mixed kind of implied 

effort inside Fannie and Freddie. The question is: If we are going 

to do it within a housing trust or some other entity, how will we 

fund that? And how do we make it clear—and my time has expired, 

and maybe on a second round I can get your thoughts on that. 

Ms. RATCLIFFE. Well—— 

Senator WARNER. I have gone over. 

Chairman JOHNSON. We will have a second round. 

Senator Warren? 

Senator WARREN. Thank you very much, Mr. Chairman, Ranking 

Member Crapo. Thank you all for being here today. 

We take up three issues today that all deal with certainty in the 

market and how we repair the markets that were so badly broken 

and demonstrated in this huge financial crisis. Obviously, with 

GSE reform, I very much agree with Senator Crapo and many of 

my colleagues, the urgency of the moment, we have got to get this 

resolved, and we have got to get it resolved now, and I think that 

is what—the bipartisan bill is a first step toward that. 

Also the nomination of Mary Jo White, if you listened to the 

hearing, was very much about the importance of getting the rules 

in place going forward in response to what we discovered was 

wrong during the financial crisis. 

The CFPB nomination is also the same. This is an agency that 

was designed to deal with the fact that the consumer credit market 

was not working and people were getting cheated. We now have a 

nominee whom I believe everyone has described as balanced and effective, and yet despite the fact that I think he deserves an up-ordown vote, what has happened is we have no vote on him, we cannot get somebody confirmed, and the consequence of that is to 

produce uncertainty in the market, which just seems to me to head 

in the wrong direction. We need a strong, effective consumer agen-
26 

cy. We need an honest consumer credit market, and that happens 

when we get a Director confirmed. 

You know, going forward on GSE reforms, I want to hit a couple 

of things we have not talked about because I think they are important. One of them is the role of complex financial agreements. We 

discovered, for example, in the consumer market that agreements 

about mortgage servicers were so loaded with fine print, lots of 

tricks, lots of variations on how they would be compensated, for example, that they left open the opportunity for misrepresentations, 

for deceptions, for outright fraud. And now the consumer agency 

has come up with uniform servicing agreements to try to deal with 

that and get an honest market where everybody knows what they 

are dealing with. You master the one agreement, you have got it. 

The question I have is about securitization agreements. 

Securitization agreements—I actually looked at some of those 

things—are complicated, very difficult to read and understand and 

to evaluate the risks associated with transactions there and I think 

the evidence shows left open the opportunity for misrepresentations, for deception, and for outright fraud. 

So the question I want to ask is: Would you support having a 

standardized security agreement? We will just go down the line. 

Ms. Ratcliffe, you are closest to me, so you can start. 

Ms. RATCLIFFE. Yes, I do. And may I—— 

Senator WARREN. Please, sure. 

Ms. RATCLIFFE. I mean, I do think—— 

Senator WARREN. When you are saying yes, you get to go longer, 

yes. 

[Laughter.] 

Ms. RATCLIFFE. The model, to your point about creating infrastructure and standards and transparency that should apply to all 

participants in the market, you know, when accessing the standard 

mainstream Fannie/Freddie market of old, you know, as a borrower, all I had to do was, you know, back in the day, look in the 

newspaper, and I knew what I was getting, and I was able to see. 

And by the same token, investors on the other end of that transaction knew exactly what they were getting, and so obviously there 

is a model to be learned from. 

Senator WARREN. Very good explanation. Thank you, Ms. 

Ratcliffe. 

Mr. Wallison? 

Mr. WALLISON. Yes, I would agree that it would be a good idea 

to have a standardized kind of securitization agreement. They are 

enormously complicated, so it is not the sort of thing that Congress 

can legislate. But if you get the lawyers together who do these 

things and you have commentary on the pattern that is adopted, 

I think it might be worthwhile. 

Senator WARREN. Good. That is very helpful. Thank you. 

Senator Martinez? 

Mr. MARTINEZ. Senator, we did not consider that issue as part 

of our commission report, but it strikes me as a very good idea. 

Senator WARREN. All right. Good. Thank you. 

I want to ask a question about risk pricing. You raised the point, 

Mr. Wallison, that you think the Government never gets it right. 

I think Senator Martinez said, ‘‘Wait a minute, I remember the 
27 

FDIC insurance model. I think they did a pretty good job.’’ So let 

us call it a mixed record. 

I want to ask the question in the other direction, and that is, the 

private market. I just went back and thought about this one. In the 

1900s, we had the mortgage title insurance company, a private insurer of mortgages. In the 1920s, we had the mortgage guarantee 

company. I think both of those ended up collapsing in a big scandal 

of fraud and deception and improper pricing. And then in the 

1920s—I am sorry, in the 2000s, we had the private label insurers, 

which I believe a significant number of those now are either already bankrupt or in the process of winding down, a lot of trouble. 

So the question I want to ask, if you want us to move entirely 

to a private market, do we have some good examples of when the 

private market has done a good job of insuring mortgage pools? 

And I think I should start with you, Mr. Wallison. 

Mr. WALLISON. Well, there are a number of things you have to 

look at when you consider this issue, unfortunately, because 

Fannie and Freddie had dominated the—— 

Senator WARREN. I am sorry. In the 1900s and the 1920s, I do 

not think we had Fannie and Freddie. 

Mr. WALLISON. OK. Let me say generally, then, simply that, yes, 

the private market fails from time to time, but the—— 

Senator WARREN. Did it ever—— 

Mr. WALLISON. But the taxpayers, if I may continue, do not have 

to bail them out. 

Senator WARREN. My question is: Can you give me an example 

of when the private market succeeded in correctly insuring mortgage pools and did not end up in collapse when the housing market 

reversed? 

Mr. WALLISON. I cannot do that because we have always had the 

same system of Government involvement in the housing finance 

business for the last 40 or 50 years. The problem that happened 

recently, after the 2008 financial crisis, is that, in order to provide 

mortgages for the residential market, these mortgage insurance institutions, had to agree to use Fannie and Freddie’s underwriting 

standards. 

Senator WARREN. Well, Mr. Wallison, we have heard your arguments about Fannie and Freddie. That is why I started with the 

examples when there were no Fannie and Freddie. I will just stop 

at the point you are asking us to bet the entire mortgage market 

on a model that has absolutely no proof that it will work, that may 

be a problem. My time is up I see, so I will go back to the Chairman. 

Chairman JOHNSON. Thank you. 

Does Senator Moran have any questions? 

Senator MORAN. Mr. Chairman, I have no questions. I do not 

want to delay the hearing, but I do appreciate the hearing being 

held. I think this is an important topic. The three witnesses have 

significant expertise and knowledge. I have read their testimony. 

I apologize for my presence on the Senate floor this morning instead of in this hearing room. But I am very interested in this 

topic, and I thank the Chair and the Ranking Member for hosting 

the hearing. 
28 

Chairman JOHNSON. Good. We will go to a second round, but I 

urge the Members to not use up the 5 minutes. 

Ms. Ratcliffe, when constructing the underwriting standards for 

the new system, is downpayment the strongest indicator of a sustainable mortgage? 

Ms. RATCLIFFE. I would say no, but I have to underscore that it 

is well known that downpayment does correlate with default. What 

our research shows—and, by the way, our program is not—the one 

we studied is not the only example. There is a program in Massachusetts where 15,000 mortgages were made with downpayments 

of 3 percent or less, and they have had default rates that have remained below prime mortgage default rates in that State. 

We also have the example of the State housing finance agencies. 

We have recently done a survey of the majority of those agencies 

and collected default information on them and found that their 

loans, which are typically low downpayment loans to first-time 

home buyers, have performed quite well in the crisis as well. 

So we believe that the risks associated with low downpayment 

lending can be mitigated. Probably the biggest mitigant for that 

risk is to provide a safe product, a 30-year fixed-rate mortgage, 

which has a predictable payment and over time builds equity in the 

home and also, you know, with even slight increases in income, the 

borrower is more and more able to—you know, their payment becomes more and more affordable over time. 

So having a good product, having it be something that is transparent and well understood by the borrower, having it underwritten for ability to repay, these things all can mitigate for the 

risk of low downpayment lending. 

Chairman JOHNSON. Senator Crapo. 

Senator CRAPO. Thank you, Mr. Chairman. I just have one question, and I will ask the witnesses to try to respond succinctly. This 

is a question that could use up my 5 minutes in your responses. 

Philosophically, I am predisposed to believe that the housing 

market in the United States can operate without the intervention 

of the Federal Government. Yet I have many people who operate 

in the industry and many experts, like two of you on the panel 

today, who tell me that it cannot, that we cannot have a housing 

market in the United States work effectively without that Government guarantee. 

And so my question to each of you is—and I will start with you 

last this time, Mr. Wallison, because you went first last time. You 

will get the last word this time. But my question is: Can you tell 

me succinctly why is it that a housing market in the United States 

cannot work or can work without a Government guarantee? Mr. 

Martinez? 

Mr. MARTINEZ. Senator, I would say if you make the judgment 

that you want a 30-year mortgage, you know, I do not think you 

will find another example of where it can be replicated. And so the 

30-year mortgage, the necessary length of time for investors and so 

forth to participate in a 30-year mortgage dictates that there be a 

Government guarantor as the ultimate backstop, which is why we 

put them in the last position and created some safety between the 

guarantor and the Government position and the credit enhancers 

and so forth. 
29 

So I will be, you know, as succinct as I—— 

Senator CRAPO. I know you can talk a long time on this. 

Mr. MARTINEZ. Right, right. I will leave it alone at that point, 

but—and if you consider also that the to-be-announced market, and 

that is an arcane sort of thing, but trust me, it is incredibly important for there to be a functioning secondary market. And the TBA 

market will not work without a Government guarantee. 

Senator CRAPO. Thank you. 

Ms. Ratcliffe? 

Ms. RATCLIFFE. Sure. Two points on that. 

We see that there could be a private market, but we believe it 

was be smaller, more volatile, more expensive, and as stated, much 

more likely to be predominantly adjustable rate mortgages. 

Another point I want to make is that a lot of times we think we 

are alone in having a Government support of the mortgage market, 

and that is because when you look at a mortgage-backed securities 

market, the U.S. is almost alone in having most of its mortgages 

funded through securitizations. But other developed countries 

across Europe, for example, fund their mortgages through deposits, 

through the banking institutions, and some to some degree through 

covered bonds. And those, in fact, enjoy very clear Government 

guarantees, both in some cases explicitly and in other cases implicitly, and we saw a lot of those guarantees acted on in 2008 in the 

financial crisis. 

So it is not quite accurate to say that other countries do not provide a Government guarantee of their mortgage financing market. 

Senator CRAPO. Thank you. 

Mr. Wallison? 

Mr. WALLISON. I am always amazed to hear people say that we 

need the Government to back a particular market. Our economy 

has worked for years, works today, with the private sector financing almost everything else other than housing. And what the private sector does finance turns out to be a stable market over the 

long term. 

If we look at what the Government has financed over the last 

few years, since World War II, the S&Ls collapsed, the only time 

we have ever had an entire industry collapse; Fannie and Freddie 

collapsed, and we had a financial crisis, a mortgage meltdown. 

These were all because of the Government’s involvement. 

Why people believe that housing, of all the activities in the U.S. 

economy, has to be supported by the Government is quite beyond 

me, especially in terms of the record that the Government has produced. 

Senator CRAPO. Thank you. 

Mr. MARTINEZ. May I just make a very brief comment, which is 

that we do not finance cars for 30 years, and we do not finance television sets or credit cards for 30 years. I am sure he has a comeback to that. 

Senator CRAPO. I will still give him the last word. 

Mr. MARTINEZ. He is much smarter than I am. 

Mr. WALLISON. Well, that certainly is not true, but what I would 

like to say is that if you go to Google and you put in ‘‘30-year fixedrate mortgage,’’ you will find that many mortgages are being offered without Government backing. They are jumbo mortgages, and 
30 

if they are jumbo mortgages, they are not backed in any way by 

the Government. 

There is such a thing as a 30-year fixed-rate loan. I found one, 

for example, just recently. Wells Fargo is offering a 30-year fixedrate jumbo mortgage for 12 basis points more than the Fannie Mae 

equivalent. 

So it is not true that you cannot have a 30-year fixed-rate mortgage without the Government’s backing. The 30-year loans are 

made all the time for business. There are hedging mechanisms that 

allow this to be done, and the idea that the Government has to be 

involved is just not accurate. 

Senator CRAPO. Thank you. 

Chairman JOHNSON. Senator Warner. 

Senator WARNER. Although I would add that those of us who are 

able to qualify for jumbo mortgages is a relatively small strip of the 

housing marketplace. But I do appreciate, Mr. Wallison, you are 

absolutely consistent on all of these issues around Government 

backstops. 

But let me just—I want to ask a question or put out again. I 

think there is a growing sense that we can find some commonality 

on this, that we can put—maybe not to the extent of all the panel 

will agree, but a number of backstops and a waterfall of preconditions before you would ever get to some kind of Government 

guarantee. I think we can even price some of that at the back end 

with maybe, again, this idea of this slice of a private component 

that would help be a market signal warning. 

One of the areas that could be problematic in trying to get to yes 

for all of us, though, is around this issue—and I think Senator 

Reed raised it and Senator Menendez raised it—around affordable 

housing, how we think about this, where that function resides 

when we think affordable housing, rental housing, and other areas, 

how it is funded. And, again, recognizing the Chairman’s request 

we do not want to take too long, I will maybe just ask Senator 

Martinez if you could talk for a moment about how you all approached this issue and where you deposited that, and how you 

funded it. I would appreciate it. 

Mr. MARTINEZ. Well, affordable rental housing is a very big 

issue, and I think we dealt with that in a very forthright way, and 

I think there are some proposals there. I am not as prepared to 

talk about those as I am on the finance side. But suffice it to say 

that the view of the commission was that there had to be mechanisms in place to provide funding for affordable rental housing. 

There was some debate on the vehicle, but, you know, the idea 

that the mortgage insurance deduction is a subsidy of sorts, and 

while it is very important, there was a lot of debate about whether 

that should be a function that should not only be utilized for supporting home ownership but also for rental. 

Senator WARNER. And I would only ask that that is an area that 

the more bipartisan consensus you can find from outside expertise 

to see, again, how it would be funded, where it sits, how we make 

sure it is a clearly defined, narrow mission that does not get into 

mission creep in the overall housing finance market is I think 

something that needs some more work. 
31 

Mr. MARTINEZ. And we keep it totally separate. We did not have 

any function along those lines. 

Senator WARNER. Thank you, Mr. Chairman. 

Chairman JOHNSON. Senator Warren. 

Senator WARREN. Thank you, Mr. Chairman. I just have two 

questions, but I will be quick with them. 

The first one is: I just wondered if any of you have dealt with 

or thought about the implications of using data tagging on mortgages so that over time we are able to create more robust information to develop a better insurance market, regardless of whether it 

is private or has a public backstop. Ms. Ratcliffe? 

Ms. RATCLIFFE. Well, we would love that, of course, at the university. That would allow us to do more research. But I did want 

to draw your attention to the fact that—— 

Senator WARREN. That is not a bad thing. 

Ms. RATCLIFFE.——the Home Mortgage Disclosure Act revisions 

actually are looking to have more of a mortgage identifier that 

could be linked so that you could find out about performance data 

over time. This is still being worked through, but there are some 

proposals on the table. It is an excellent idea. 

Senator WARREN. Mr. Wallison? 

Mr. WALLISON. No, that is not an issue I have looked at. 

Senator WARREN. OK. 

Mr. MARTINEZ. Nor us, no. 

Senator WARREN. All right. Good. Thank you. And then just one 

other question. We have seen so much bank consolidation over the 

past several years, and I am particularly concerned that whatever 

reforms we end up doing with the GSEs that it not disadvantage 

the small banks and credit unions in getting access to the funds 

they need so that they can continue to be in the home mortgage 

lending business. And I know you spoke somewhat about this, Ms. 

Ratcliffe, but if I could just have each of you with your proposals 

just give us a very short summary of how you would make sure 

that the smaller financial institutions will still have access to the 

market. Ms. Ratcliffe? 

Ms. RATCLIFFE. Thank you. As I mentioned specifically, we bar 

the large—any originator from owning, having an ownership stake 

of a CMI except under specialized circumstances like maybe some 

big cooperative type structure. And that would prevent the large 

originating institutions from accumulating all that risk on their 

balance sheets and from sort of using their market power to disadvantage and set the terms at which small institutions could access the secondary market. We think that that could actually have 

the effect of sort of re-creating Fannie- and Freddie-like institutions at the big banks who would also then be originators, 

servicers, and enjoy the backstop of the FDIC. 

Senator WARREN. I do not want to put too fine a point on it, and 

I know I am trying to be mindful of the time. But what you are 

effectively saying is that the largest financial institutions should 

not be able to aggregate, and that is what you will count on to give 

adequate access to the smaller financial institutions so that they 

are going to have adequate funding. You are confident that is going 

to give them enough funding access? 
32 

Ms. RATCLIFFE. If the structure does not allow originators to operate the credit-loss-taking function, then I believe so, yes. 

Senator WARREN. OK. Mr. Wallison? 

Mr. WALLISON. I think, first of all, you have to start with the fact 

that the real danger to smaller institutions, the thing that is driving them out of the mortgage business, is the Dodd-Frank Act and 

the—— 

Senator WARREN. Mr. Wallison, we—— 

Mr. WALLISON.——new regulations that have been put upon 

them or will be—— 

Senator WARREN. Mr. Wallison, we can have that debate, and we 

are going to disagree on that. 

Mr. WALLISON. All right. Of course, but—— 

Senator WARREN. But the question I have—— 

Mr. WALLISON. Those are costs that they have—— 

Senator WARREN.——is your proposal—— 

Mr. WALLISON.——to deal with. 

Senator WARREN. Excuse me, Mr. Wallison. Your proposal is to 

let the market take care of it. Is that right? Is there anything that 

assures that there will be access to the credit markets for the small 

financial institutions that do not have the same capacity to have 

securitized pools? 

Mr. WALLISON. There is not anything now, but as usual, if the 

Government removes itself from the business, people will offer the 

smaller institutions, which produce very good, high-quality mortgages, an opportunity to issue their mortgages through a 

securitization—— 

Senator WARREN. Do you have any evidence that that would 

work? 

Mr. WALLISON. You know, if you look at our economy, whenever 

there is an opportunity, a service is provided. If the Government 

is providing it, the private sector can’t compete. 

Senator WARREN. I will take that as a no. 

Mr. WALLISON. That is why you do not see much—— 

Senator WARREN. Senator? 

Mr. MARTINEZ. Senator, our proposal follows the model of—recommends a model similar to Ginnie Mae, and Ginnie Mae has currently in the area of 350 different issuers, and that is the model 

we would recommend. 

Senator WARREN. Good. Thank you, Senator. 

Thank you very much, Mr. Chairman. 

Chairman JOHNSON. I would like to thank all of the witnesses for 

being here with us today, and I look forward to continuing this discussion with my colleagues to build bipartisan consensus. 

This hearing is adjourned. 

[Whereupon, at 11:49 a.m., the hearing was adjourned.] 

[Prepared statements and responses to written questions supplied for the record follow:] 
33 

PREPARED STATEMENT OF SENATOR ROBERT MENENDEZ 

Introduction—Welcoming the Panel 

Thank you, Chairman Johnson and Ranking Member Crapo, and thank you to our 

panel of distinguished witnesses who have taken the time to be here today. We look 

forward to hearing their expert testimony and I applaud the efforts of this Committee in examining this issue that affects Americans every day, no matter their political beliefs. 

We are here today on a very serious matter that goes to the heart of our Nation’s 

economic growth engine and that preserves the prospects of the American dream 

found in home ownership; and to our commitment, for all families, who were hit 

hard in the recession. Some of these families I would add are still struggling to balance making ends meet while continuing to dream of a better tomorrow. 

Mr. Chairman, we have done best as a Nation when we make sure we are inclusive, not exclusive. As Americans, we have always believed that when our neighbor 

does well, we do well. With that in mind—I think we should be aware today as we 

hear testimony and consider how to move forward, that in our Nation’s past, we 

have already witnessed the prospects of a well-capitalized, wholly private housing 

finance system. 

Within this system, there was little prospect for growth and expanded prosperity, 

little chance for everyday people to not only live in America, but own a share of its 

bounty. 

No Mr. Chairman, it was the involvement of Government in one form or another 

that brought about a more robust housing industry, stability and liquidity for investors, and no doubt, this will continue to be the case for some time to come. We may 

surely debate in earnest though, how much or how little. 

Mr. Chairman, I again thank you for your leadership and for holding this hearing 

and I look forward to our discussion today in the hope that, in the end, we can all 

work to bridge differences and bring stability to our Nation’s housing finance system 

in the 21st century, much as the National Housing Act did for millions of Americans 

in the last century. 

Thank you, Mr. Chairman, for your concern and leadership on this issue. 

PREPARED STATEMENT OF MEL MARTINEZ 

CO-CHAIR, BIPARTISAN POLICY CENTER’S HOUSING COMMISSION

TUESDAY, MARCH 19, 2013 

Chairman Johnson, Ranking Member Crapo, and Members of the Committee, 

thank you for the opportunity to be here today to discuss housing finance reform. 

It is a pleasure to return to the Committee, and to see so many good friends and 

colleagues. 

I serve as one of the four co-chairs of the Bipartisan Policy Center’s Housing Commission. Founded in 2007 by former Senate Majority Leaders Howard Baker, Tom 

Daschle, Bob Dole, and George Mitchell, the BPC is a Washington-based think tank 

that actively seeks bipartisan solutions to some of the most complex policy issues 

facing our country. In addition to housing, the BPC has ongoing projects on health 

care, homeland security, energy, political reform, immigration, and the Federal 

budget. 

The Housing Commission was launched in October 2011 with the generous financial support of the John D. and Catherine T. MacArthur Foundation. Along with 

Senator Mitchell, former Senator Kit Bond and former HUD Secretary Henry 

Cisneros have joined me as commission co-chairs. In total, the commission has 21 

members from both political parties who bring to the table a wide variety of professional experiences. 

Over the past 16 months, the commission engaged in an intensive examination 

of a broad range of issues in housing. We held public forums in different parts of 

the country, convened numerous meetings with housing providers and practitioners, 

consulted with dozens of experts, and commissioned several informative research 

projects that are available online at www.bipartisanpolicy.org/housing. 

Late last month, we issued our report, Housing America’s Future: New Directions 

for National Policy, that covers topics such as home ownership, affordable rental 

housing, rural housing, and the housing needs of our Nation’s seniors. Today, I am 

going to highlight the report’s key recommendations on housing finance reform. 

Our Nation’s system of housing finance is broken. It’s been more than 4 years 

since Fannie Mae and Freddie Mac were placed under Government conservatorship, 

yet there is still no clear path forward. The commission felt there was an oppor-
34 

1 Under the Commission’s proposal, the issuer and mortgage servicer do not bear direct credit 

risk. That risk is borne by the private credit enhancer. However, the issuer and the servicer 

do bear other risks that help to shield the Government from loss. The issuer is responsible for 

the representations and warranties associated with the mortgage, and the servicer is responsible 

for the timely payment of principal and interest to investors out of corporate resources (as is 

currently the case with Ginnie Mae), although the servicer should eventually be reimbursed for 

this payment by the private credit enhancer. 

tunity to fill this policy void and offer a blueprint for a new system that can support 

both the home ownership and rental markets of the future. 

1. Recommendations on the Key Objectives of the New System 

The commission reached consensus on five key objectives for this new system. 

Our first objective is a far greater role for the private sector in bearing 

credit risk. The dominant position of the Government in the market is 

unsustainable. Yes, private capital is now flowing through the system, but it absorbs very little of the system’s credit risk. Instead, much of that risk lies with the 

government—nearly 90 percent of the single-family home ownership market remains Government supported. Reducing the Government footprint and encouraging 

more private participation will protect taxpayers while providing for a greater diversity of funding sources. 

The second objective is a continued, but more limited, role for the Federal Government as the insurance backstop of last resort. The commission 

recommends the establishment of an explicit, but limited, Government guarantee 

administered by a new entity that we call the ‘‘Public Guarantor’’ to ensure timely 

payment of principal and interest on qualified mortgage-backed securities (‘‘MBS’’). 

There is insufficient capacity on bank-balance sheets alone to meet our Nation’s 

mortgage finance needs. A strong, vibrant secondary market for these securities is 

essential to freeing up additional capital for mortgage lending and connecting our 

Nation’s local housing markets to global investors. 

Many investors in the secondary market require a Government guarantee protecting against catastrophic credit risk as a condition of their investment. These investors are willing to assume the risk of interest-rate volatility, but are unwilling 

to assume the credit risk associated with the mortgages that make up a security 

unless these mortgages are of the highest credit quality. In the absence of a Government guarantee, investor interest in the secondary market would wane, mortgage 

credit would become more expensive, and widespread access to long-term, affordable, fixed-rate mortgage financing would likely disappear. 

In our proposal, the Government stands in the ‘‘fourth loss’’ position behind three 

layers of private capital: mortgage borrowers and their home equity; private credit 

enhancers, ranging from capital market products to highly capitalized mortgage insurers; and the corporate resources of the securities’ issuers and mortgage 

servicers.1 (See Appendix A for an illustration of how the Government would stand 

in the ‘‘fourth loss’’ position under our proposal.) These private companies would be 

subject to stringent capital requirements that would enable them to weather losses 

similar in magnitude to those experienced during the Great Recession. 

The limited Government guarantee would kick in only after the private credit 

enhancers standing ahead of it had depleted all of their resources. Even then, these 

losses would be paid for through a fully funded catastrophic risk fund capitalized 

through the collection over time of insurance premiums, or guarantee fees, from 

mortgage borrowers. In many respects, this model is similar to that of Ginnie Mae. 

The third objective is the ultimate elimination of Fannie Mae and 

Freddie Mac over a transition period—perhaps 5 to 10 years. Like other observers, the commission believes the business model of the two Government-sponsored enterprises—publicly traded companies with implied Government guarantees 

and other advantages—should not be reproduced. 

The commission recognizes that a dynamic and flexible transition period will be 

necessary before the new, redesigned housing finance system is fully functioning. 

During this period of transition, it will be critical to avoid market disruption and 

to adjust course, when necessary, in response to shifts in the market and other critical events. The goal should be transition, not turbulence. 

As first steps toward the new system, we support the continuation of current efforts to reduce the Government footprint through reduced GSE loan limits and sale 

of the GSE portfolios. We also believe the GSE guarantee-fee pricing structure 

should move closer to what one might find if private capital were at risk. 

The transition to the new system could be facilitated by continued use of existing 

capabilities at Fannie Mae and Freddie Mac. They have skilled staff, established 

processes, and state-of-the-art technologies that could and should be tapped. We can 

also build on the good work of the Federal Housing Finance Agency (‘‘FHFA’’) in 
35 

2The TBA market was established in the 1970s with the creation of pass-through securities 

at Ginnie Mae. It facilitates the forward trading of MBS issued by Ginnie Mae, Fannie Mae, 

and Freddie Mac by creating parameters under which mortgage pools can be considered fungible. On the trade date, only six criteria are agreed upon for the security or securities that 

are to be delivered: issuer, maturity, coupon, face value, price, and the settlement date. Investors can commit to buy MBS in advance because they know the general parameters of the mortgage pool, allowing lenders to sell their loan production on a forward basis, hedge interest rate 

risk inherent in mortgage lending, and lock in rates for borrowers. The TBA market is the most 

liquid, and consequently the most important, secondary market for mortgage loans, enabling 

buyers and sellers to trade large blocks of securities in a short time period. 

laying out a plan for a single securitization platform and developing a model pooling 

and servicing agreement. 

The fourth objective is ensuring access to safe and affordable mortgages 

for all borrowers. This is a core principle for the commission—the housing finance 

system of the future must be one from which all Americans can benefit on equal 

terms. The commission also believes that access to the Government-guaranteed secondary market must be open on full and equal terms to lenders of all types, including community banks and credit unions, and in all geographic areas. Again, Ginnie 

Mae’s success in empowering smaller institutions to participate in its programs is 

instructive here. 

And, finally, our fifth objective is for the Federal Housing Administration 

(‘‘FHA’’) to return to its traditional mission of primarily serving first-time 

home buyers and borrowers with limited savings for downpayments. The recent concerns over the solvency of FHA’s single-family insurance fund only underscore the urgency of what the commission has proposed—that far more risk-bearing 

private capital must flow into our Nation’s housing finance system. A system in 

which private capital is plentiful will reduce the pressure that is sometimes placed 

on the FHA to act as the mortgage-credit provider of last resort and allow it to perform its traditional missions more effectively. 

Our proposals for reforming the rental, or multifamily, housing finance system are 

rooted in the same principles as single-family reform: the gradual wind down of the 

GSEs; a greater role for at-risk private capital; a continued Government presence 

through a limited ‘‘catastrophic’’ guarantee; and reform of FHA to improve administrative efficiency and avoid crowd-out of the private market. 

In addition, an ‘‘affordability’’ requirement for issuers of securities will ensure 

that the system primarily supports rental housing affordable to low- and moderateincome households. 

2. The Actors in the New System 

The commission’s report goes into considerable detail about the individual components of the housing finance system we envision. It describes the structure and responsibilities of the Public Guarantor that will administer the limited catastrophic 

backstop. And it outlines the roles of the other actors in this new system—the originators, mortgage servicers, issuers of securities, and the private entities that will 

‘‘credit enhance’’ these securities. Let me now take a moment to briefly describe the 

responsibilities of these actors in the new system we propose. More detail can be 

found in the commission’s report. 

a. Securitization-Approved Issuers 

As noted above, the commission recommends a model similar to Ginnie Mae, 

where approved lenders are the issuers of mortgage-backed securities. The functions 

of an issuer of securities include: 

• Obtain certification from the Public Guarantor that it is qualified to issue MBS 

based on such factors as (i) ability to meet credit and capital standards and 

cover all of the predominant loss risk through a separate well-capitalized credit 

enhancer, and (ii) capacity to effectively pool mortgages. 

• Ensure that the guarantee fee is paid for and collected from the borrower along 

with all other fees and fully disclosed to the borrower as a part of originating 

the mortgage. 

• Issue the mortgage-backed securities and, where appropriate, sell the MBS to investors through the To-Be-Announced (‘‘TBA’’) market.2

• Retain responsibility for representations and warranties under the terms specified by the Public Guarantor. 

b. Servicing 

Under our proposal, servicers would need to be qualified by the Public Guarantor. 

Responsibilities of a servicer include: 
36 

• Make timely payment of principal and interest should the borrower be unable 

to do so. The servicer will advance the timely payment of principal and interest 

out of its own corporate funds and will be reimbursed by the private credit 

enhancer at the time the amount of the loan loss is established. 

• Work with the borrower on issues related to delinquency, default, and foreclosure and advance all funds required to properly service the loan. 

c. Credit Enhancement 

The commission’s proposed single-family housing finance system depends on credible assurance that private institutions will bear the predominant loss credit risk, 

will be capitalized to withstand significant losses, and will provide credit that is 

generally unrestricted with little leverage. As such, private credit enhancers will 

bear the risk on the mortgages they have guaranteed until they go out of business 

or have met their full obligation, as defined by the Public Guarantor, to stand behind their guarantee. Private credit enhancers will generally be single-business, 

monoline companies and will be required to: 

• Provide regular reports to the Public Guarantor on the nature of the credit enhancement, who holds the risk, the amount and nature of the capital they hold, 

and other measures of credit strength. These measures would include a quarterly stress test to determine that available capital is adequate, with a ‘‘capital 

call’’ to assure there are sufficient reserves to protect the Government guarantee from being tapped except in extreme cases. 

• Establish underwriting criteria for the mortgages and mortgage pools they will 

be guaranteeing beyond the baseline underwriting criteria established by the 

Public Guarantor. 

• Reimburse servicers for their timely payment of principal and interest and other 

costs at the time the amount of the loan loss is established. This reimbursement 

is paid out on a loan-by-loan basis until the private credit enhancer runs out 

of capital and goes out of business. 

• Establish and enforce servicing standards (in conjunction with national servicing standards) in order to ensure that the interests of the private credit 

enhancer and servicer are fully aligned. 

• Provide credit enhancement with standard, transparent, and consistent pricing 

to issuers of all types and sizes, including community banks, independent mortgage bankers, housing finance agencies, credit unions, and community development financial institutions. 

• Meet credit enhancement requirements through one or a combination of the following options: (1) well-capitalized private mortgage insurance at the loan level 

for any portion of the loan where specific capital requirements are established 

and the servicer and/or Public Guarantor has the ability to demand margin 

calls to increase capital if there is an adverse move in house prices; (2) capital 

market mechanisms where the amount of capital required to withstand severe 

losses is reserved up front, either through a senior/subordinated debt model 

with the subordinated piece sized to cover the predominant risk or approved derivatives models using either margined Credit Default Swaps or fully funded 

Credit Linked Notes; and (3) an approved premium-funded reserve model, 

where a premium-funded reserve is established, either fully capitalized at the 

outset or where the reserve builds over time. 

These approaches to meet capital requirements are designed to ensure that private capital will stand ahead of any Government guarantee for catastrophic risk. 

The Public Guarantor will establish the minimum capital levels required to survive 

a major drop in house values and will require any private credit enhancer to have 

sufficient capital to survive a stress test no less severe than the recent downturn 

(e.g., a home price decline of 30 to 35 percent, which would correspond to aggregate 

credit losses of 4 to 5 percent on prime loans). 

d. Government Guarantee for Catastrophic Risk 

Under the commission’s proposal, the Public Guarantor would guarantee the timely payment of principal and interest on the MBS, but this guarantee would be triggered only after all private capital in front of the guarantee has been expended. The 

guarantee would be explicit, fully funded, and actuarially sound, and the risk would 

apply only to the MBS and not to the equity and debt of the entities that issue and/ 

or insure the MBS. Other functions of the Public Guarantor would include: 
37 

• Establish the level of capital necessary to ensure that private-sector participants 

in the housing finance system (issuers, servicers, and private credit enhancers) 

are all properly capitalized. 

• Establish the guarantee fees to be collected from the borrower to cover the operating costs of the Public Guarantor and to offset catastrophic losses in the event 

of a failure of the private credit enhancer and/or servicer failure. For both the 

single-family and rental housing markets, a reserve fund would be established 

for catastrophic risk that will build over time. 

• Ensure the actuarial soundness of the funds through careful analysis and the 

use of outside expertise, and report to Congress regularly regarding their financial condition. 

• Ensure access to the Government-guaranteed secondary market on full and equal 

terms to lenders of all types, including community banks, independent mortgage 

bankers, housing finance agencies, credit unions, and community development 

financial institutions. The Public Guarantor must ensure that issuers of securities do not create barriers using differential guarantee-fee pricing or other 

means to unfairly restrict or disadvantage participation in the Governmentguaranteed secondary market. 

• Provide one common shelf for the sale of Government-guaranteed securities to 

offer greater liquidity for the market as well as establish an equal playing field 

for large and small lenders. 

• Establish a single platform for the issuing, trading, and tracking of MBS. With 

multiple private issuers, this platform could provide greater uniformity and 

transparency, and therefore lead to greater liquidity. 

• Create and enforce uniform pooling and servicing standards governing the distribution of mortgage proceeds and losses to investors and ensuring compliance 

with relevant Federal tax laws. 

• Encourage loan modifications when a modification is expected to result in the 

lowest claims payment on a net present value basis. The Public Guarantor 

should require participants in the new Government-guaranteed system to structure and service securities in a way that would facilitate such loan modifications. 

• Qualify private institutions to serve as issuers of securities, servicers, and private credit enhancers of MBS. The Public Guarantor will also have the power 

to disqualify an issuer, servicer, or a private credit enhancer if it determines 

that requirements and standards are not met. 

• Establish loan limits, under the direction of Congress, so that the loans backing 

the Government-guaranteed MBS will be limited based on the size of the mortgage and any other criteria Congress may prescribe. 

• Set standards for the mortgages that will be included in the MBS, including 

baseline underwriting criteria, permissible uses of risk-based pricing, and clear 

rules of the road related to representations and warranties. 

• Specify standards for mortgage data and disclosures. 

For a graphic illustration of how the new system proposed by the commission 

would work, see Appendix B. 

The commission envisions the establishment of a single Public Guarantor with responsibility for both the single-family and rental housing markets. The Public Guarantor would consist of two separate divisions each with responsibility for administering its own separate catastrophic risk fund. Each division would also establish 

its own approval standards for lenders, issuers, servicers, and private credit 

enhancers as well as underwriting standards, predominant loss coverage requirements, and catastrophic guarantee fees. 

In the commission’s view, the Public Guarantor should be established as an independent, wholly owned Government corporation. As a Government corporation, the 

Public Guarantor will be a self-supporting institution that does not rely on Federal 

appropriations but rather finances the two catastrophic funds and its own operational expenses through the collection of guarantee fees. The Public Guarantor 

should operate independently of any existing Federal department and, with this 

greater independence, should be able to respond more quickly to contingencies in 

the market and operate with greater efficiency in making staffing, budgeting, procurement, policy, and other decisions related to mission performance. 

The commission recommends that the Public Guarantor be led by a single individual, appointed by the President of the United States and confirmed by the U.S. 

Senate, who would serve a director. The commission also recommends the establishment of an Advisory Council to the Public Guarantor consisting of the chairman of 
38 

3 Andrew Davidson & Co., Inc., has prepared a working paper on this topic that provides the 

details of their analysis. See Modeling the Impact of Housing Finance Reform on Mortgage Rates 

found on the BPC Housing Commission Web site at www.bipartisanpolicy.org/housing. 

the Board of Governors of the Federal Reserve System as chairman of the Council, 

along with the director of the Public Guarantor, the secretary of the U.S. Department of the Treasury, and the secretary of the U.S. Department of Housing and 

Urban Development. The Advisory Council would meet on at least a quarterly basis 

to share information about the condition of the national economy, marketplace developments and innovations, and potential risk to the safety and soundness of the 

Nation’s housing finance system. 

3. Potential Impact on Mortgage Rates 

While the new housing finance system proposed by the commission will minimize 

taxpayer risk, this protection will come at the cost of higher mortgage rates for borrowers. Three factors will contribute to the added costs: 

First, our proposal calls for a far greater role for the private sector in mortgage 

finance, with private capital taking the predominant loss risk and standing ahead 

of a limited Government guarantee. Private credit enhancers will charge a fee to 

cover the cost of private capital to insure against the predominant loss if a mortgage 

default occurs. 

Second, the Public Guarantor will charge an unsubsidized fee to cover catastrophic risk should a private credit enhancer be unable to fulfill its obligations to 

investors. 

Third, the Public Guarantor will be structured as an independent, self-supporting 

Government corporation that finances its activities through an operating fee. 

The borrower will indirectly pay for all three of these activities through a guarantee fee that is included in the mortgage rate. 

Analysis by Andrew Davidson & Co., Inc., using two research methods and a pool 

of nearly 5,000 conforming loans originated in 2012, provides a range of estimates 

of the possible costs of the commission’s recommendations. Utilizing this pool of 

loans, Davidson & Co. estimates the guarantee fees paid by a borrower with no 

mortgage insurance will range from 59 to 81 basis points.3 By comparison, the guarantee fees for mortgages now supported by Fannie Mae and Freddie Mac are currently in the range of 50 basis points (including a 10 basis point charge paid to the 

U.S. Treasury to finance the payroll tax deduction). Some of these mortgages with 

higher loan-to-value ratios are also supported by private mortgage insurance. 

4. A Path Forward 

The commission has proposed a plan to substantially reduce Government intervention in the housing market and protect the taxpayers, while ensuring the broad 

availability of affordable mortgage credit. I believe it strikes the right balance 

among competing policy goals, and deserves your consideration. 

The commission recognizes there may be sound alternative approaches to achieving the same objectives, but the key to success is first achieving bipartisan consensus on what these objectives are. It is our hope that the commission’s recommendations—the product of extensive deliberations and enjoying the broad bipartisan support of its 21 members—will offer a viable way forward and serve as a catalyst for action. 

As Members of the Committee know, the Federal Housing Finance Agency—under 

the able leadership of Acting Director Ed DeMarco—is engaged in an effort to prepare Fannie Mae and Freddie Mac for a post-conservatorship world. Without clear 

policy direction from Congress and the Administration, one possible and undesirable 

outcome of this effort is that the two institutions could become permanent wards 

of the State. Ironically, those who unrelentingly pursue a pre-Depression vision of 

a purely private mortgage market may end up hastening this outcome and strengthening the Government-dominated status quo. The idea of removing the Federal Government entirely from the housing market is not only bad policy; it is also unrealistic and politically unachievable. The goal should be to limit Government involvement and taxpayer exposure to the greatest extent possible, while ensuring that the 

system has sufficient liquidity to meet the mortgage needs of the American people. 

5. Short-Term Obstacles to Market Recovery 

As a final note, the commission has identified several factors that continue to stall 

a housing recovery in the immediate term. These factors are: 

• Overly strict lending standards, which now go well beyond those in place before 

the housing bubble; 

• Lack of access to credit for well-qualified self-employed individuals; 
39 

• Put-back risk—that is, the risk that lenders will be required to buy back a delinquent loan from Fannie Mae, Freddie Mac, or FHA; 

• Ongoing issues with appraisals, including calls for multiple reappraisals sometimes just days before closing that can derail home sales; 

• Application of FHA compare ratios; and 

• Uncertainty related to pending regulations and implementation of new rules. 

While not our primary focus, we believe these issues must be resolved before the 

housing market can fully recover. 

Thank you for your attention. I look forward to your questions. 
40 
41 

* The views expressed are those of the author alone and do not necessarily represent those 

of the American Enterprise Institute. 

PREPARED STATEMENT OF PETER J. WALLISON 

ARTHUR F. BURNS FELLOW IN FINANCIAL POLICY STUDIES

AMERICAN ENTERPRISE INSTITUTE * 

TUESDAY, MARCH 19, 2013 

Thank you for the invitation to testify before the Committee today, and to discuss 

the future of the U.S. housing finance system. 

Many have pointed out that the Dodd-Frank Act ignored the fundamental causes 

of the financial crisis it was supposed to address. They note that the act imposed 

new, costly and growth inhibiting regulations on the entire financial system, but it 

failed to reform the U.S. Government’s housing policies. These fostered the creation 

of 28 million subprime and otherwise weak loans by 2008 and the development of 

a massive housing bubble between 1997and 2007. When the bubble began to deflate, 

weak and high risk loans began to default in unprecedented numbers, driving down 

housing values and weakening financial institutions in the U.S. and around the 

world. 

In this testimony, I will outline the major provisions of a proposal for housing finance reform that I and two AEI colleagues, Alex Pollock and Edward Pinto, developed in response to a white paper issued by the Obama administration in February 

2011. Although no specific action was ever proposed by the Administration, the Administration white paper advanced three options for housing finance reform. One of 

those options was what I would call a completely free market system. The proposal 

I will describe today was embodied in a much longer paper, entitled ‘‘Taking the 

Government Out of Housing Finance: Principles for Reforming the Housing Finance 

Market,’’ that we issued in March 2011. That paper was intended to fill out the free 

market option that the Administration had proposed and respond to questions 

raised in its white paper. I respectfully request that the complete proposal I will 

summarize today be included with the records of this hearing. 

Our proposal is based on four principles that we believe should be the foundation 

of U.S. housing policy in the future. If these principles had been in place for the 

last 20 years, we would not have had a financial crisis in 2008. But that is water 

over the dam. We must now concentrate on reforming the U.S. housing finance system so that we do not face another housing-induced crisis in the future. 

The four principles are the following: 

I. The housing finance market—like other U.S. industries and housing finance systems in most other developed countries—can and should function without any direct Government financial support. 

Under this principle, we note that the huge losses associated with the S&Ls and 

Fannie and Freddie—as well as the repetitive volatility of the housing business— 

did not come about in spite of Government support for housing finance but because 

of Government backing. Government involvement not only creates moral hazard but 

sets in motion political pressures for further and more destructive actions to bring 

benefits such as ‘‘affordable housing’’ to constituent groups. 

Although many new ideas for Government involvement in housing finance are 

being circulated in Washington, they are not fundamentally different from the policies that have caused the losses already suffered by the taxpayers, as well as the 

losses still to be recognized through Fannie and Freddie. 

The fundamental flaw in all these ideas is that the Government can establish a 

risk-based price for its guarantees or other support. Many examples show that this 

is beyond the capacity of Government, and is in any case politically infeasible. The 

problem is not solved by limiting the Government’s risks to mortgage-backed securities (MBS); the fact of the Government’s guarantee eliminates an essential element 

of market discipline in this case—investors’ risk-aversion—so that the outcome will 

be the same: underwriting standards will deteriorate, regulation of issuers will fail, 

and taxpayers will take losses once again. 

II. To the extent that regulation is necessary, it should be focused on assuring mortgage quality. 

This principle is based on the idea that high quality mortgages are good investments and have a history of minimal losses. Instead of relying on a Government 

guarantee to assure investors as to the quality of mortgages or MBS, we should simply make sure that the mortgages made in the U.S. are predominantly prime mortgages. We know what is necessary to produce a prime mortgage; these are outlined 
42 

1Departments of Treasury and HUD, Reforming America’s Housing Finance Market, 27. 

in our proposal. Before the affordable housing requirements were imposed on Fannie 

and Freddie in 1992, these were the standards that kept losses in the mortgage 

markets at minimal levels. 

Experience has shown that some regulation of credit quality is necessary to prevent the deterioration in underwriting standards. The natural human tendency to 

believe that good times will continue—and ‘‘this time is different’’—will always 

spawn bubbles in housing as in other assets. Bubbles in turn spawn subprime and 

other risky lending, as most participants in the housing market come to believe that 

housing prices will continue to rise, making good loans out of weak ones. Bubbles 

and the losses suffered when they deflate can be minimized by interrupting this 

process—by inhibiting through appropriate regulation the creation of weak and 

risky mortgages. 

III. All programs for assisting low-income families to become homeowners 

should be on-budget and should limit risks to both homeowners and 

taxpayers. 

Our proposal recognizes that there is an important place for social policies that 

assist low-income families to become homeowners. But these policies must balance 

the interest in low-income lending against the risks to borrowers themselves and 

the interests of the taxpayers. In the past, affordable housing and similar policies 

have sought to produce certain outcomes—for example, an increase in home ownership—without concern for how this goal would be achieved. The quality of the mortgages made under social policies can be lower than prime quality—the taxpayers 

may take risks for the purpose of attaining some social goods—but there must be 

limits placed on riskier lending in order to keep taxpayer losses within boundaries 

set by Congress and included in the budget. 

IV. Fannie Mae and Freddie Mac should be eliminated as GSEs over time. 

Finally, Fannie and Freddie should be eliminated as GSEs and privatized—but 

gradually, so that the private sector can take on more and more of the secondary 

market as the GSEs depart. The gradual withdrawal of the GSEs from the housing 

finance market should be accomplished by reducing the GSEs’ conforming loan limits by 20 percent each year, according to a published schedule embodied in statute 

so that the private sector knows what to expect. These reductions would apply to 

the conforming loans limits for both regular and the high cost areas. Banks, S&Ls, 

insurance companies, pension funds and other portfolio lenders will be supplemented by private securitization, but Congress should make sure that it doesn’t 

foreclose opportunities for other systems, such as covered bonds. 

These principles are the underpinning of a plan that assumes that housing, like 

virtually every other sector of the U.S. economy, can and should be privately financed, and that the private market will produce a low-cost and stable system for 

financing homes. 

In the white paper it released in February 2011, the Obama administration recognized the advantages for the economy and the taxpayers inherent in a free market 

housing finance system: 

The strength of this option is that it would minimize distortions in capital 

allocation across sectors, reduce moral hazard in mortgage lending and 

drastically reduce direct taxpayer exposure to private lenders’ losses. With 

less incentive to invest in housing, more capital will flow into other areas 

of the economy, potentially leading to more long-run economic growth and 

reducing the inflationary pressure on housing assets. Risk throughout the 

system may also be reduced, as private actors will not be as inclined to take 

on excessive risk without the assurance of a Government guarantee behind 

them.1

I can’t improve upon this statement, especially when we consider the consistent failure of all Government-based efforts to assist home ownership. In the post-war period, despite all the changes in the U.S. economy, there have been only two instances in which an entire industry has collapsed, with terrible consequences for the 

economy and the American people as homeowners and taxpayers. These disasters— 

the collapse of the S&Ls in the late 1980s and the insolvency of Fannie and Freddie 

about 20 years later—were the result of Government policies established for the 

purpose of helping Americans buy homes. 

We could do it again. There are now many groups suggesting imaginative ways 

to get the Government back into the housing business while avoiding, they claim, 

the mistakes of the past. These are illusions; the Government’s involvement in the 
43 

housing finance business will always result in losses because it distorts incentives 

and creates moral hazard. 

The disaster of Fannie and Freddie is a case in point. The two GSEs, for good 

reason, were widely believed to enjoy the backing of the Federal Government. This 

was denied repeatedly by the Government, but in the end—when they became insolvent—the markets were correct that the Government would rescue them. Proponents of Government involvement have now turned this into a general principle 

that the Government will always step in to rescue the housing market—thus creating a reason for the Government to be there from the beginning. 

Because Fannie and Freddie enjoyed the implicit backing of the Government, they 

had access to funds at rates that were only slightly more than Treasury’s. This enabled them to dominate the housing finance market and provide substantial profits 

to their shareholders and large compensation packages for their officials. Moreover, 

and most important, because of their Government backing no one cared about the 

risks they were taking. This was moral hazard, and it is moral hazard that is the 

unavoidable accompaniment to every Government program that attempts to assist 

the housing system. 

The fact that the GSEs could use their Government support to produce slightly 

lower rates for middle class home buyers made them a target for the supporters of 

other groups, both inside and outside Congress. In 1992, under pressure from community activists, Congress passed legislation that was intended to extend the GSEs’ 

largesse to low-income borrowers, and in the 2000s—under pressure from lawmakers who represented well-to-do districts-these benefits were also extended to 

high income groups. This is the way the Government works in a democracy. It cannot be otherwise. Whatever benefits the Government provides to some groups will 

eventually be extended to others. This is one of the reasons that the Government 

should be kept out of the housing finance business. Even if a program is started 

on a reasonable basis, it is inevitably expanded and its costs and subsidies increased 

until it causes huge losses for the taxpayers and sometimes outcomes that are even 

worse. 

The affordable housing goals are a particularly good example. Enacted in 1992, 

they originally required that at least 30 percent of the mortgages Fannie and 

Freddie bought had to be made to borrowers at or below the median income where 

they lived. But this modest requirement, that was probably easy to meet, was extended and tightened by HUD over succeeding years, so that by 2000 the Clinton 

administration adopted a 50 percent goal and the Bush administration pushed this 

requirement to 55 percent. 

In order to meet these quotas, the GSEs had to abandon their traditional focus 

on prime mortgages and substantially loosen their underwriting standards. The rest 

is history, as they say. By 1995 they were buying mortgages with 3 percent 

downpayments, and by 2000 they were accepting mortgages with no downpayment 

at all. So by 2008, these two firms, with gold-plated franchises and the ability to 

dominate the largest market in the United States, became insolvent, requiring the 

taxpayers, thus far, to keep them operating with more than $180 billion in financial 

support. 

This or something like it will happen every time we put the Government into the 

housing finance business. As too many people have already said, too many times, 

it is a sign of insanity to do the same thing over and over while expecting a different 

result. 

How a private housing finance system would work 

How, then, would a private system work? Our proposal is based on the simple 

idea that the housing finance market will operate steadily and stably if a high preponderance of the mortgages it processes through securitization are prime loans. 

To achieve this will require a degree of regulation. That may come as a surprise 

to some who regard me and my AEI colleagues as ‘‘free market ideologues,’’ but in 

fact all believers in the superiority of free markets realize that regulation is necessary and appropriate in cases of market failure. 

We believe that the growth of housing bubbles, a natural phenomenon in free 

markets, is an example of market failure. Human beings simply cannot avoid the 

idea that this time it’s different—that the unprecedented growth they see around 

them is not a bubble but the reflection of a real change in how the world works. 

So they continue to buy until the bubble collapses. 

That is not terribly harmful in commodity markets; the players there can generally take their losses. But in the housing market, as we have seen since the collapse of the giant bubble that developed between 1997 and 2007, the development 

and ultimate collapse of a bubble can be very destructive. 
44 

2Data from Fannie Mae’s random—sample review covering single-family acquisitions for the 

period October 1988–January 1992, dated March 10, 1992. 3Fannie stopped acquiring low-doc or no-doc loans in 1990. Freddie followed suit in 1991. See 

‘‘Haste Makes . . . Quick Home Loans Have Quickly Become Another Banking Mess,’’ Wall 

Street Journal, July 5, 1991. 

The reason such a large bubble developed is that housing bubbles tend to suppress delinquencies and defaults. As long as housing prices are rising, people who 

are in danger of default can refinance or sell the home for more than the amount 

of the mortgage. As weaker and weaker mortgages do not seem to be producing 

more delinquencies and defaults, lenders go further and further out on the risk 

curve and investors in MBS do not get the signals that should tell them their risks 

are increasing. The way to stop this from happening is to assure to the extent possible that only prime loans are securitized. 

Our proposal, accordingly, would require that only prime mortgages be permitted 

into the securitization system. Subprime mortgages could be made, of course, but 

these would have to be held on private balance sheets and not securitized. Subprime 

lending can be a good business for people who understand the risks. 

This is the only regulation we propose, but we believe it will be the foundation 

of a stable mortgage system if Congress can restrain itself from loosening underwriting standards again. Before the advent of the affordable housing goals, when 

Fannie and Freddie would only buy prime mortgages, the housing finance system 

was stable over all. Local bubbles developed, but could not grow to national proportions because the market for subprime loans was small without the GSEs’ support. 

We believe a market like that can be recreated through regulation that assures only 

prime mortgages are securitized. 

Let’s be clear where the problem lies. Community activists, realtors and homebuilders want loose underwriting standards. Loose standards mean more people can 

buy homes, but none of these groups suffer the losses when the market collapses 

as it did in 2008. Who is visiting congressional offices asking for tighter mortgage 

underwriting standards? The answer is no one. Those who suffer are the taxpayers 

and the families that bought homes they couldn’t afford. 

The recent announcement of the Qualified Mortgage rule reflects an acceptance 

of the idea that the Government—which will accede to the wishes of the Housing 

Industrial Complex—will loosen underwriting standards. Under the rule, once a 

lender determines that a borrower can afford the mortgage, there is no need to impose any requirement for a downpayment or a good credit history. All that is required is to obtain the approval of the GSEs or FHA and the mortgage can be considered a prime loan. That puts the whole question of mortgage quality back in the 

hands of the Government, which has shown that it will worry more about increasing 

the availability of mortgage credit than creating a stable housing finance market. 

Reasonable underwriting standards will not limit the availability of mortgage 

credit for those who can afford to carry the cost of a home. When Fannie and 

Freddie were establishing the standards for prime loans, and accepting only prime 

loans, the homeownership rate in the United States was 64 percent. In 1991, the 

great majority of conventional loans (defined as being Fannie eligible, other than by 

loan size) had the following characteristics:2

• 98 percent were loans on properties occupied as a primary or secondary residence. 

• 94 percent were loans with a loan-to-value ratio (LTV) of 90 percent or less. 

• 98 percent were to borrowers with one or no mortgage late payments at origination and 85 percent had two or fewer nonmortgage late payments at origination. 

• 90 percent were loans with housing and total debt-to-income ratios of less than 

33 percent and 38 percent, respectively. 

• All loans had to be underwritten based upon verified income, assets, and credit.3

This was not, however, what the mortgage market looked like in 2008 after the effect of the affordable housing goals. Then, half of all mortgages—28 million loans— 

were subprime or otherwise weak because of low downpayments or other deficiencies. By 2008, the homeownership rate was almost 70 percent, but we paid a 

terrible price—a financial crisis—for adding that additional 5 percent to the home 

ownership totals. 

Where would financing come from? 

The next issue is who will buy mortgages and MBS that are not Government 

guaranteed. One of the most common objections to a fully private housing finance 
45 

4 ‘‘Mortgage Bankers Association chief economist Jay Brinkmann said the pricing strategies 

that Fannie and Freddie pursued contributed to the concentration of mortgage lending within 

the largest banks. The GSEs offered reduced ‘guarantee fees’ for their largest customers, which 

placed smaller lenders at a competitive ‘disadvantage,’ he told the NABE annual conference.’’ 

See ‘‘NY Fed Thinks Megabanks May Be the New GSEs,’’ National Mortgage News, March 16, 

2011. 

system is that the customary buyers of GSE MBS will not accept the risk of MBS 

that are not Government-backed. That may be true, but the customary buyers of 

Government-backed MBS are not the only possible buyers. As discussed more fully 

at the end of this testimony, where I deal with all the traditional objections to a 

private financing system, the natural buyers of private MBS will be insurance companies, private pension funds and mutual funds, all of which are looking for longterm investments to match their long-term liabilities. 

According to the Fed’s Flow of Funds data, these investors—which collectively 

have about $21.5 trillion to invest—do not buy any significant amount of GSE or 

Ginnie MBS today. The reason is that these investors get paid for taking credit risk, 

and in the case of Ginnie and GSE MBS the risks have already been taken—by the 

taxpayers. As a result, the yields on these securities are simply not large enough 

to pay for their long-term liabilities. Instead, today, they are buying low quality corporate debt, which is risky but pays well. 

If there were a steady flow of MBS based on prime mortgages, these financial institutions would be avid buyers as long as they can be assured of the quality of the 

underlying loans. 

That assurance, under our proposal, would be provided by mortgage insurance 

(MI), which places the insurer’s capital ahead of the investor’s. We believe that the 

MI industry can be resuscitated into a viable system for providing assurance to institutional and other buyers of MBS. Recently, several new MI companies have been 

formed and capitalized, and legacy carriers have raised substantial additional capital, showing that investors believe that mortgage insurance has a future in the 

housing finance business once the GSEs are wound down and FHA limited to lowincome first-time home buyers. 

Mortgage insurers do credit underwriting and place their capital at risk when 

they write their policies. This will provide assurance to institutional investors and 

others that the risks of buying private MBS have been assessed and covered by 

independent capital. We suggest that mortgage insurance provide coverage of mortgage defaults down to 60 LTV. Below that level, experience suggests that the losses 

are so few that credit enhancement is not necessary. 

In discussions with mortgage insurers, we were advised that the combined cost 

of MI for the coverage of prime mortgages included in any privately securitized pool 

would permit private MBS to fund a freely prepayable 30-year fixed-rate prime loan 

with an all-in annual cost about 20 basis points higher than Fannie’s cost for the 

same loan. This of course assumes a normal market, not one in which the Fed is 

buying GSE MBS. If the Administration continues to increase the GSEs’ guarantee 

fees in order to provide more protection for the taxpayers, and a normal market returns, that difference could narrow significantly. 

Accordingly, a private system of housing finance would operate at close to the cost 

of the current Government-dominated system, without involving the risk that the 

taxpayers will eventually have to come to the rescue. 

Small lenders and community banks. 

The Government’s involvement in the housing finance market through Fannie and 

Freddie distorted the market’s structure. Because the GSEs were able to bid more 

for mortgages than any competitors, they drove competitors from the secondary 

mortgage market and created a duopsony (a market with only two buyers). They 

were then able to discriminate among their suppliers, providing better returns to 

those, such as Countrywide,4 who provided the mortgages that they wanted, and penalizing those—primarily the small banks and S&Ls—that were unable to compete 

in the volume they could supply. Congress has now banned this behavior, but 

through the Dodd-Frank Act and the Consumer Financial Protection Bureau has 

now created more obstacles for community banks to overcome. 

The private market that will develop if our proposal is enacted will be entirely 

different from what existed before. Most mortgages will be prime loans—the kinds 

of loans that the small and community banks usually originate. These loans will be 

highly sought after because they will not only be good investments, but also the only 

kind of mortgage that could be securitized. Since most mortgages will have the same 

prime characteristics, the key function in this new market will be aggregating the 

mortgages into pools for securitization. 
46 

5 Larry Kudlow, ‘‘Barney Frank Comes Home to the Facts,’’ GOPUSA, August 23, 2010, 

www.gopusa.com/commentary/2010/08/kudlow-barney-frank-comes-home-to-the-facts.php#ixzz 

0zdCrWpCY (accessed September 20, 2010). 

This is a role that can be performed by the small and community banks, perhaps 

through the creation of a jointly owned and operated securitization facility, enabling 

the members to capture the profits that they previously had to give up to Fannie 

and Freddie or to their larger competitors. All that is necessary is regulatory approval to set up one or more joint ventures that will aggregate the mortgages produced by the members and prepare them for sale through securitization, or to institutional buyers who want to hold whole mortgages. 

The more competitors in this field, the more innovation there will be and the 

lower they will push mortgage rates. This will be possible because the approach we 

have described relies on prime loans, a core competency of community banks and 

risk-based pricing. 

FHA and low-income borrowers. 

There are good policy reasons for Government to assist low-income families to become homeowners, but the value of this policy has to be weighed against the failure 

rate imposed on those ostensibly being helped as well as the cost to the taxpayers. 

Referring to the affordable-housing requirements imposed on Fannie and Freddie, 

even former House Financial Services Committee chair Barney Frank (D–MA) has 

noted that ‘‘it was a great mistake to push lower-income people into housing they 

couldn’t afford and couldn’t really handle once they had it.’’5 Moreover, any program 

of this kind must be on budget and contain mortgage quality standards that do not 

create market conditions similar to those that brought on the financial crisis. 

One of the ways to do this is to rein in FHA by limiting the scope of its lending, 

making sure its losses are sustainable over the long term, and putting it on budget 

through a mechanism more effective in identifying risks and losses than the Federal 

Credit Reform Act. 

Government assistance to low-income families must not be undertaken without 

quality standards that limit the risks to homeowners, the Government, and taxpayers. By prescribing an outcome it wanted through the affordable housing goals, 

without controlling the means, the Government encouraged deteriorating underwriting standards. This inevitably led to greater lending with minimal 

downpayments along with lending to borrowers with impaired credit and higher 

debt ratios. 

Thus, if Congress wants to encourage home ownership for low-income families, 

then the mortgages intended to implement this social policy must be subject to a 

defined set of quality standards—not standards as high as those for prime mortgages, but standards that will ensure that working class families and neighborhoods 

are not subjected to excessive failure rates, as they did with Fannie and Freddie 

and the FHA, causing substantial burdens for taxpayers. The Nation’s experience 

with the FHA demonstrates not only that standards are essential, but also that 

Congress has to avoid the political and other pressures that tend to erode the standards over time. 

Elimination of Fannie and Freddie over time. 

A private housing finance market will never fully develop as long as Fannie and 

Freddie remain in existence, and yet it is obvious that they are essential to the current housing finance system. What is necessary, then, is a workable transition 

plan—one that allows the GSEs to continue to function but opens the housing finance system to private securitizers. 

A key transition feature that now appears to be generally accepted calls for a 

gradual reduction in the conforming loan limit that sets the maximum size of the 

mortgages that Fannie and Freddie can purchase. This idea is also in the BPC proposal. As this limit is reduced, Fannie and Freddie will be taken out of the market 

for loans above the limit, enabling private securitizers gradually to expand their activity. 

The elements of the transition away from GSE status should include: 

Reducing conforming loan limits. We recommend lowering the conforming 

loan limit by 20 percent of the previous year’s cap each year, starting with the current general limit for one-unit properties of $417,000 and the high-cost area limit 

of $625,500. These limits, for loans, mean house prices of over $500,000 and over 

$800,000, respectively, are financed by the Government. In contrast, according to 

the National Association of Realtors, the median U.S. house price is $178,900. The 

general limit for a one-unit property would decrease to $334,000 in year one, 

$267,000 in year two, $214,000 in year three, $171,000 in year four, and $137,000 
47 

6Supra. Housing and Economic Recovery Act of 2008 (HERA). HERA imposed a 4.2-basispoint fee on Fannie and Freddie’s mortgage purchases (currently suspended by FHFA). 

in year five. The high-cost area limit for a one-unit property would decrease to 

$500,000 in year one, $400,000 in year two, $320,000 in year three, $256,000 in year 

four, and $205,000 in year five. Final termination or ‘‘sunset’’ of GSE status would 

take place at the end of year five. 

Winding down investment portfolios. A useful approach to winding down the 

GSEs portfolios, without disrupting the market, would prohibit Fannie and Freddie 

from adding existing or newly acquired single-family or multifamily loans or MBS 

to their portfolios, with exceptions only for newly acquired loans held for a short 

period before securitization and the purchase of delinquent or modified loans out of 

an existing MBS. With no additions allowed, natural runoff should substantially reduce their portfolios over time. Under the current trajectory the portfolios will be 

down to about $500 billion by the end of 2018. To the extent a GSE has portfolio 

assets remaining at the fifth-year sunset, these should be put in a liquidating trust 

and defeased or sold to other investors. During the wind-down period, Fannie and 

Freddie should be allowed to buy only prime loans. 

Repeal affordable-housing goals and taxes. Consistent with Principles I and 

III above, repeal the GSE (including the FHLB) affordable-housing goals and affordable-housing support fees.6

Privatization. At the sunset date, the conservatorship will be converted to a receivership, the equity below the Treasury’s holdings will be wiped out, and the 

GSEs will be divided into good bank/bad bank structures. If there are buyers for 

the GSEs as going concerns (no longer in GSE form), or capital is available for their 

restructuring as fully private nongovernment entities, the good banks will be sold 

and the bad banks will be liquidated by creating a liquidating trust that contains 

all remaining mortgage assets, guaranty liabilities, and debt. The obligations of the 

trust will be defeased with the deposit of Treasury securities. 

Objections to a private housing financing system. 

Proposals for largely eliminating Government support for the housing market are 

usually met with a number of objections. None of them, in my view, should carry 

any weight when this Committee considers housing finance reform. 

1. The Government will step in anyway, so it should charge in advance 

to protect the taxpayers. Most recently, the Bipartisan Policy Center joined many 

others in arguing, in support of its housing finance proposal, that if there is ever 

a future disruption in the housing market the Government is going to step in at 

some cost to the taxpayers. In that case, BPC and others have argued, this ‘‘reality’’ 

should be recognized; the Government should create some kind of insurance system 

to cover the costs of its future actions and thus protect the taxpayers against loss. 

But the history of housing finance makes clear that the Government’s role in the 

housing market—even if only as a brooding presence ready to act if the market collapses—will so distort the market that the Government is eventually required to 

step in. This is a repeating pattern. For one example, the Government had to rescue 

the S&Ls in the late 1980s and early 1990s because the Government’s own support 

for and regulation of the S&L industry had made it impossible for the industry to 

survive the changes in market structure that are inevitable in an evolving financial 

system. Similarly, the reason we are here today, and considering what to do about 

the GSEs, is the result of Government housing policies that forced Fannie Mae and 

Freddie Mac to degrade their underwriting standards in order to comply Government housing policies. 

It does not matter how light the Government’s touch. In the proposal of the Bipartisan Policy Center that you will hear today, the Government will have only a 

standby role in the housing market, stepping in only when the market is in trouble. 

Otherwise, the market will consist of private companies that will securitize mortgages and mortgage insurers that will insure them. 

But it’s easy to see that even the limited Government role suggested by the BPC 

will have effects that will make a taxpayer rescue more likely. If the Government 

is ultimately insuring the mortgage-backed securities (MBS) issued by private companies, the buyers of those MBS will not care about the quality of the underlying 

mortgages or the health of either the issuers or the mortgage insurers. That will 

remove from the market one major incentive for market discipline, and is one of the 

reasons the buyers of the GSEs’ debt securities didn’t care about either the quality 

of the mortgages they were securitizing or the GSEs’ financial condition. 

Then there are the firms that will be issuing the MBS in the BPC plan. These 

firms will have shareholders and creditors. Will the creditors believe that the firms 

will be allowed to fail? That’s doubtful. The whole premise of the BPC system is 
48 

that the Government will step in if the market falters. It proposes a fund that will 

be available to back up the Government’s obligations. This sounds like a kind of 

FDIC, and we know how successful that’s been. Like the FDIC, these elements will 

diminish, if not eliminate, the market discipline that might be exercised by the 

creditors of the MBS issuers in the BPC plan. 

In addition, because the Government is taking a risk in backing the issuers of the 

MBS, it will be regulating them. In the BPC plan, this will be done by something 

called the Public Guarantor. Prudential regulation by this Government agency will 

be another reason that investors in those firms or in the MBS they issue will not 

exercise market discipline—the Government, they will believe, is doing that job. 

However, the collapse of the S&Ls, the failure of thousands of banks in the late 

1980s and early 1990s, and the most recent financial crisis, not to speak of the collapse of the GSEs themselves, should be ample evidence that Government prudential regulation provides no assurance whatever that the regulated entities will not 

fail. It is important to keep in mind that only 2 months before the GSEs were taken 

over their regulator reported that they were adequately capitalized. 

The mortgage insurers will also have both equity investors and creditors. Again, 

the interest these groups may have in the health of the MIs will be tempered by 

the Government’s presence. If the mortgage insurers should fail, the insurers’ investors will believe, the Government will rescue them. Again, that is the very premise 

on which the BPC’s proposal is based. So if the BPC and others who make this argument are correct that the Government will step in to protect the market, it is unlikely that investors in the MIs will pay much attention to their health, believing 

that the Government will bail them out if they should get into trouble. That, in 

turn, will mean that the MIs will be likely to fail because they have insured the 

low quality mortgages that the issuers were able to sell to investors because of the 

Government back-up. 

The idea that the Government can protect the taxpayers by charging a premium 

for its guarantees also does not stand up to analysis. The Government doesn’t have 

the incentives to charge a premium that fully compensates it for the risks it is taking, and Congress is often willing to respond to complaints from the industry that 

the premiums are too high and are operating as a tax on consumers. Thus, Congress 

just had to bail out the National Flood Insurance Program to the tune of $9.7 billion. The NFIP had been charging premiums for flood insurance for many years, but 

when the fund was really needed it wasn’t large enough. If the Government wants 

to do it as a matter of policy, OK, but Congress should realize that it will always 

end up as a cost to the taxpayers. 

The history of Government insurance programs is consistently dismal. The FDIC 

became temporarily insolvent in the 2008 financial crisis because Congress limited 

the amount it could charge for deposit insurance; the FHA is already insolvent and 

will have to be bailed out, the Pension Benefit Guarantee Corporation is also on its 

way to insolvency if not already insolvent. The pathology is always the same. The 

Government accumulates a fund, but the fund was too small for the occasional catastrophic event. The reason the fund is too small is that the private sector interests 

that are supposed to be protected want to lower their costs, and persuade Congress 

that the fund is large enough. So premiums are lowered, or not increased as costs 

rise, or stopped altogether as occurred at the FDIC. When the catastrophe occurs, 

as it always does when the Government is involved, the taxpayers have to pick up 

the tab. 

And then there is moral hazard. The fact that the Government would insure 

building in flood zones made it possible for people to do so. In the case of housing 

finance programs like that proposed by the BPC, the fact that the Government— 

i.e., the taxpayers—is there as final guarantor will mean that the whole system will 

operate without taking full account of, and paying for, the risks it is creating. As 

a result, there will be greater demand for the product—more and more and bigger 

and bigger homes—and the financing will get riskier and riskier. In these cases, in 

theory, the Government should add to the price of the insurance but is reluctant 

to do so. When the catastrophe comes, there will not be enough money in the fund 

to solve the problem and the weary taxpayers will have to pay up. 

Finally, the idea that the Government will step in to protect the housing market 

is a self-fulfilling prophesy. As noted above, the existence of the Government backing—because of moral hazard—makes default more likely. Once a fund of some kind 

is established, any restrictions on its use will fade away. A wholesale collapse of the 

industry will not be necessary; the failure of a single insurer or issuer will be 

enough to bring on a rescue. After all, what is the fund for but to protect the investors in the MBS? This in itself will prove to the market that the whole system is 

guaranteed by the Government, removing any vestige of market discipline that 

might have previously existed. 
49 

2. Only the Government can assure the existence of a 30-year fixed-rate 

mortgage. The first thing to say about this is that the Government should not be 

encouraging 30-year fixed-rate mortgages. They are harmful to most families that 

accept them. The second thing is that, if home buyers actually want 30-year fixedrate mortgages, the private sector already makes them available without any Government support. 

There are several commonly cited advantages of a 30-year fixed-rate mortgage. It 

protects the borrower against rate hikes for 30 years, reduces the monthly payment, 

and increases the tax-deductibility of the monthly payment in the early years when 

most of the monthly payment consists of interest. Finally, in almost all cases the 

mortgage can be refinanced without penalty into another 30-years fixed mortgage 

at a lower interest rate if market conditions permit. 

These sound like significant advantages, but that is illusory. First, most families 

do not stay in a home for 30 years; the average is about seven, so when families 

take out 30-year fixed-rate mortgages they are paying for the lender’s 30-year risk 

when they will not ever need it. A shorter maturity mortgage is less expensive and 

better meets the needs of most families, which would be well served by a 5-, 10- 

, or 15-year fixed period, with a 20-, 25-, or 30-year amortization. Last week, Wells 

Fargo was offering a 30-year fixed-rate conforming (i.e., nonjumbo) mortgage at a 

rate of 3.75 percent, and a 15-year conforming mortgage at almost a full point less, 

at 2.875 percent. The point is that a private market would mix and match the elements of a mortgage to better meet the needs of particular families for the lowest 

possible cost. 

In addition, when a family that has taken out a 30-year fixed-rate mortgage finally sells its home to buy another they will not have accumulated very much equity. Most of their payment has been interest, and this interest rate has been higher 

than if they had chosen a 15-year loan. It is true that they have received a tax deduction for this interest payment, but that is only if they itemize their deductions, 

and only 33 percent of families itemize. 

The idea that Government backing is required for a 30-year, fixed-rate loan has 

some surface plausibility. Many people who don’t follow the financial markets might 

assume that lending money for that long a period at a fixed-rate would be too risky 

for the private sector. Just about everyone in Congress seems to have been visited 

by a representative of the Housing Industrial Complex claiming that the 30-year 

mortgage would not exist without Government backing. 

However, anyone can prove this assumption is wrong, simply by going to Google 

and typing in ‘‘30-year jumbo fixed-rate mortgage.’’ The word ‘‘jumbo’’ is mortgage 

market jargon for loans that are too large to be bought by Fannie or Freddie, or 

insured by the Federal Housing Administration. That means a jumbo mortgage is 

not backed in any way by the Government. Still, a Google search will return many 

offers of jumbo fixed-rate loans. I found one offered by Wells Fargo last week at 

3.875 percent, about 12.5 basis points higher than the 30-year fixed-rate conforming 

(i.e., nonjumbo) loan that Wells was offering at the same time. 

In other words, Government backing is not necessary to make this loan available 

to homeowners, although the Government subsidy that comes with the conforming 

loan—where the taxpayers are taking the risk-could well be responsible for the 12.5 

basis point difference in rate. 

We should have no objection, of course, if homeowners want this type of loan. The 

question is whether the taxpayers should take on the risk of backing the entire 

housing finance structure in order to provide a 12.5 basis point subsidy to home 

buyers, most of who don’t need the 30-year fixed-rate mortgage they are assuming. 

Finally, we have just come through a period where everyone has seemed to recognize the dangers of leverage. Many in Congress preach fervently against excessive 

leverage. Perhaps they don’t realize that a 30-year fixed-rate mortgage is one of the 

principal ways that leverage is built into the housing system. As noted above, it 

takes many years before a homeowner builds up equity in the home through a 30- 

year fixed-rate mortgage. This means that for all this time the homeowner is using 

credit—leverage—to carry the home. If there is a market downturn during this period, the homeowner is likely to be underwater and unable to sell the home, a victim 

of leverage encouraged by the Government’s promotion of the 30-year fixed-rate 

mortgage. 

3. The investors in MBS are rate buyers. They do not want to take credit 

risk. Without Government backing, and the assurance of a risk-free investment, it 

is argued, we would not be able to find investors for MBS in the U.S. and around 

the world. 

This argument confuses cause and effect. It is true that most of the buyers of GSE 

and Ginnie MBS do not want to take credit risk. According to the Fed’s Flow of 

Funds data, the principal buyers of Ginnie Mae and GSE MBS are U.S. banks, for-
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eign central banks, and Federal, State and local pension funds. These entities are 

buyers because they are looking for returns without risk. If there were no Ginnie 

or GSE MBS, they would be buyers of Treasuries. This means that Treasury is paying more for its outstanding debt because it competes with GSE securities. In a recent memorandum, Steve Oliner, an AEI economist, and I estimated this cost to the 

Treasury at about $22 to $28 billion per annum, more than what the Government 

is now receiving in GSE dividends. 

In the private sector, however, investors are compensated for taking risks. They 

are not generally buyers of Ginnies and GSE MBS because the taxpayers are taking 

the risks associated with those securities and the yields are too low to meet their 

long-term obligations. 

Insurance companies, private pension funds and mutual funds should be the natural buyers of mortgages and MBS. These are long-term assets that would match 

their long-term liabilities. But as shown again by the Fed’s Flow of Funds data, they 

are not buyers of Government-backed MBS, probably because the yields are too low 

when the taxpayers are assuming the risks (and not being compensated for it). In 

the absence of private MBS, these investors are generally buying low quality corporate securities. 

If there were a steady flow of private mortgage credit in the form of whole mortgages and MBS, insurance companies, private pension funds and mutual funds— 

which together have about $21.5 trillion to invest—would be steady buyers. This 

would set up a financial win-win, in which there would be adequate credit for mortgages and a sound investment for long-term investors. 

4. Without Government backing there would be no TBA market and interest rates for all mortgages would rise. This is also incorrect. The TBA (To Be 

Announced) market is a hedging mechanism, which allows lenders to hedge the possibility of interest rate changes between the time they lock in a rate for a borrower 

and the time the loan actually closes. This is done by selling the pool of mortgages 

forward, just as a farmer might sell his wheat or corn crop forward. Then, if the 

price changes, he is protected. The buyer is speculating that wheat will be worth 

more when delivered than it is on the date of the forward sale. So in the same way, 

the mortgage lender sells its pool of mortgages forward to a buyer who is speculating that the mortgages will be worth more in the future when they are ultimately 

delivered. There are two keys to the effective operation of a TBA market—market 

liquidity and a general agreement on the principal terms of the mortgages in a MBS 

pool. 

In the current TBA market, in which the GSEs are the principal players, the liquidity is created by a convention among market participants about what they will 

accept as sufficient information about a particular mortgage pool. The agreement 

covers six factors—issuer, maturity, coupon, price, par amount and settlement date. 

Participants in the market agree to buy a pool of mortgages that all fall within certain previously agreed parameters. It’s the agreement on these parameters not creates the liquidity, not the Government guarantee of the credit risk. The credit risk 

is occasionally a factor, but the purpose of the TBA market is to hedge interest rate 

risk, not credit risk. 

Once the private market become active enough so that there is a liquid market 

for the purchase and sale of mortgage pools the TBA market will function. 

5. Without Government involvement, a steady flow of credit to housing 

cannot be guaranteed. Why should housing, as opposed to all other industries, 

be guaranteed a steady flow of credit? Every other industry has to live with the 

prospect that interest rates will rise and credit will be tight. This encourages prudence and care in making commitments, reduces overbuilding and the use of leverage that has contributed to housing bubbles in the past. A steady flow of credit to 

housing has, ironically, been the cause of much of the volatility in the housing market in the past. 

That concludes my prepared testimony. 
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1Mortgage Finance Working Group, ‘‘A Responsible Market for Housing Finance’’ (Washington: Center for American Progress, 2011), available at http://www.americanprogress.org/ 

issues/housing/report/2011/01/27/8929/a-responsible-market-for-housing-finance/. 2 Bipartisan Policy Center Housing Commission, ‘‘Housing America’s Future: New Directions 

for National Policy,’’ (2012), available at http://bipartisanpolicy.org/library/report/housing-fu- ture. 3See the Federal Home Loan Bank Act, Pub.L. 72–304, 47 Stat. 725. 

4 Bipartisan Policy Center Housing Commission, ‘‘Housing America’s Future’’. 

5 U.S. Department of Housing and Urban Development, ‘‘U.S. Housing Market Conditions Historical Data,’’ available at http://www.huduser.org/portal/periodicals/ushmc.html. 6 Ibid. 

7 U.S. Department of Housing and Urban Development and U.S. Department of Treasury, 

‘‘The Obama Administration’s Efforts to Stabilize the Housing Market and Help American 

Homeowners,’’ (2013), available at http://portal.hud.gov/hudportal/documents/huddoc? 

id=HUDJanNat2013SClFINAL.pdf. 8 National Association of Realtors Realtor Confidence Survey, available at National Association of Realtors Realtor Confidence Survey. 9Susan Berfield, ‘‘What Crash,’’ Bloomberg Businessweek (March 2013). 

PREPARED STATEMENT OF JANNEKE RATCLIFFE 

SENIOR FELLOW, CENTER FOR AMERICAN PROGRESS ACTION FUND

TUESDAY, MARCH 19, 2013 

Good morning Chairman Johnson, Ranking Member Crapo, and Members of the 

Committee. I am Janneke Ratcliffe, a Senior Fellow at the Center for American 

Progress Action Fund and the executive director for the Center for Community Capital at the University of North Carolina at Chapel Hill. I am also a member of the 

Mortgage Finance Working Group, a group of housing experts convened by CAP 

back in 2008 to chart a path forward for the mortgage market. The working group 

originally released our comprehensive ‘‘Plan for a Responsible Market for Housing 

Finance’’ back in January of 2011.1 Since then, we have continued to offer comment 

on a variety of regulatory developments. While I will present recommendations from 

that plan, I speak only for myself today. 

We are here today to discuss not just the future of the housing finance system, 

but the future of housing and economic opportunity for Americans. To quote from 

the Bipartisan Policy Commission, ‘‘restoring our Nation’s housing sector is a necessary precondition for America’s full economic recovery and future growth.’’2

As technical as this debate can be, we encourage you not to lose sight of the ultimate impact of the housing finance system on households, communities, and the 

economy. Research and our lived experiences confirm the link between housing and 

economic opportunity in this country, from the importance of decent and affordable 

rental housing and the many benefits of home ownership to the central role of the 

housing economy on economic vitality. 

What I want to stress, and what the BPC report articulates so well, is that much 

of the benefit derived from housing depends on the way in which housing is financed. That is why, since 1932,3 the Government has sought to foster a mortgage 

marketplace that is stable, safe, efficient and affordable. One visible hallmark of 

Government’s involvement is the long-term fixed-rate mortgage. Partly as a result, 

home ownership has served as a crucial building block of a strong middle class in 

the 20th century.4 The mechanisms have evolved over time and in response to crises, from the creation of the Federal Home Loan Bank System and Federal deposit 

guarantees to the more recent bailouts of private institutions and the conservatorship of the Government-Sponsored Enterprises. Now we have the opportunity to put 

in place a system that will serve the next generations even better than the systems 

that have preceded it. 

The State of the Housing Market Today 

As the market struggles to right itself, I suggest we remain mindful of the urgency and importance of the task ahead. Our national mortgage market today is significantly smaller than it was in the early 2000s.5 The homeownership rate has 

dropped from close to 70 percent to 65 percent,6 and while the housing market’s recent performance is heartening, we fear the fundamentals are not yet there for a 

robust, accessible and sustainable market to develop. 

To start, approximately three quarters of mortgage originations in 2012 were refinances, not home purchases.7 Among the purchases that are occurring, the National 

Association of Realtors estimates that investors represented 20 percent in 2012, 

high above their historic norm of 10–12 percent.8 This investor presence may support housing prices and perhaps even inflate them,9 but will not necessarily sta-
112 

10George S. Masnick, Daniel McCue, and Erick Belsky, ‘‘Updated 2010–2020 Household and 

New Home Demand Projections,’’ Working Paper W10–9 (Harvard Joint Center for Housing 

Studies, 2010), available at http://www.jchs.harvard.edu/sites/jchs.harvard.edu/files/w10- 

9lmasnicklmccuelbelsky.pdf. 11 National Association of Realtors, ‘‘Profile of Home Buyers and Sellers 2012’’ (2012); FHA 

Annual Report to Congress Fiscal Year 2012 Financial Status FHA Mutual Mortgage Insurance 

Fund, available at http://portal.hud.gov/hudportal/documents/huddoc?id=F12MMI 

FundRepCong111612.pdf. 12 HUD, ‘‘U.S. Housing Market Conditions Historical Data’’. 13 United States Census Bureau, American Housing Survey. 14 Bipartisan Policy Center Housing Commission, ‘‘Housing America’s Future’’. 15For a summary of plans, see John Griffith, ‘‘The $5 Trillion Question: What Should We Do 

with Fannie Mae and Freddie Mac?’’ (Washington: Center for American Progress, 2013), available at http://www.americanprogress.org/wp-content/uploads/2013/03/NewGSEReform 

Matrix.pdf. 

bilize neighborhoods or pave the way for move-up buyers or home ownership in the 

future. 

In the meantime, first-time home buyers, young home buyers and home buyers 

of color—the future of home ownership in the United States 10—have largely been 

shut out of the conventional mortgage market. The Federal Housing Administration 

backed financing for 46 percent of first-time buyers in 2012 and about half of home 

purchases obtained by home buyers of color in 2011.11 Homeownership rates for 

young people (ages 25–34) are among the lowest in decades.12 This decline in home 

ownership has led to an increase in renters. With rents rising, this is only putting 

more pressure on the Nation’s renters, more than half of whom are ‘‘rent impoverished,’’ or spending more than one-third of their income on housing.13 These figures 

do not suggest well-functioning single and multi-family housing finance markets. 

What’s more, it has now been close to 5 years since Fannie Mae and Freddie Mac 

went into conservatorship. The GSEs are slowly deteriorating, with no clear plan 

for a restructured secondary market. In the absence of direction from Congress, the 

Federal Housing Finance Agency is unilaterally making significant policy decisions 

and investments. Some of these we support, and some we oppose. For example, of 

the decisions that have been disclosed by the agency, we agree that it makes more 

sense to invest in a single securitization platform for the mortgage giants rather 

than to retool the companies’ own systems, while we strongly disagree with the decision not to pursue some form of principal forgiveness for delinquent loans or the 

decision to not fund the Affordable Housing Trust fund or Capital Magnet Fund. 

Other important decisions are not even to be found in the strategic plans, and are 

opaque to the public, such as decisions regarding how and when to extend credit 

to first-time home buyers. 

But it doesn’t matter whether we agree or disagree. What matters is that these 

decisions will impact American families broadly whether they own their home, hope 

to become homeowners someday, or are seeking affordable rental options-and will 

lay the foundation for the shape of the market for many years to come. I believe 

these decisions are far too important to leave to one single agency whose deliberations largely take place behind closed doors, and whose officials are not elected, appointed, or confirmed. 

A Bipartisan Way Forward 

It is time to set a clear direction for the future state of the mortgage secondary 

market—one that considers the interests of all stakeholders, and does so in the context of broader, long-term considerations and priorities. 

You’ve asked whether there is a bipartisan way forward on housing finance reform. There is. The Bipartisan Policy Center’s housing recommendations are based 

on a view shared across the political spectrum that home ownership is a desirable 

option when viable, and that those who do not buy a home ought to have access 

to affordable, quality rental housing.14 More specifically, this group agrees that the 

30-year, fixed-rate product is the gold standard for a safe and sustainable mortgage 

market; that there is a critical need for a reformed multi-family finance system to 

meet the demand for affordable rental; and that the system must provide access to 

safe and affordable mortgages for all creditworthy borrowers, including those of low 

and moderate income. 

Perhaps most important, the bipartisan plan recognizes the need for the Government to retain a guarantor role in the core portion of the GSE-supported market 

going forward. At this point, the Bipartisan Policy Center’s reform plan is one of 

18 proposals (including several bipartisan ones) that call for some explicit Government support for the segment of the market traditionally served by the GSEs, while 

only a few plans propose no Government role beyond FHA.15
113 

16 Ethan Handelman, David A. Smith, Todd Trehubenko, ‘‘Government-Sponsored Enterprises 

and Multifamily Housing Finance: Refocusing on Core Functions,’’ (Washington: National Housing Conference, 2010), available at http://www.nhc.org/media/files/NHClGSElcore lfunctionslv8l2l101001.pdf. 

In other words, while a couple of outlier proposals still call for withdrawal of all 

support, we see a very broad consensus emerging. It is time to move on from this 

question because ironically, until we do so, the Government will continue to provide 

a 100 percent guarantee for the vast majority of mortgages. 

The Commission’s recommendation is a critical first step, but it is just a beginning. Now it is time to have a robust, in-depth conversation about how to structure 

the secondary mortgage market with an explicit, paid for and actuarially sound Government backstop. 

For these reasons, I’m very excited about today’s hearing, and I hope it signals 

Congress’s readiness to enter into a serious conversation about re-visioning our 

housing finance system. 

Principles of a Responsible Housing Finance System 

In 2008, the Mortgage Finance Working Group brought together experts to collectively strengthen their understanding of the causes of the crisis and to discuss possible options for public policy to shape the future of the U.S. mortgage markets. The 

Group’s vision of a well-functioning and responsible market that protects taxpayers 

is grounded in five principles similar to those that underpin the proposal of the Bipartisan Policy Commission: liquidity, stability, transparency, access and affordability, and consumer protection. 

Liquidity: The system needs to provide a reliable supply of capital to ensure access to mortgage credit for both rental and homeownership options, every day and 

in every community, during all kinds of different economic conditions, through large 

and small lenders alike. The capital markets have come to play an essential role 

in mortgage finance, but as the past decade so stunningly demonstrated, capital 

markets on their own provide highly inconsistent mortgage liquidity, offering too 

much credit sometimes and no credit at other times. These extremes can have a 

devastating impact on the entire economy. 

Stability: Private mortgage lending is inherently procyclical. Stability for the 

market requires sources of countercyclical liquidity even during economic 

downturns. For families, stability means that they will not experience wild fluctuations in home values, allowing them to plan financially for their families, education, 

businesses, or retirement. Stability also requires sustainable products and capital 

requirements that are applied equally across all mortgage financing channels for the 

long cycle of mortgage risk. As we saw in the previous decade, capital arbitrage can 

quickly turn small gaps in regulatory coverage into major chasms, causing a ‘‘race 

to the bottom’’ that threatens the entire economy. 

Transparency: Underwriting and documentation standards must be clear and 

consistent across the board so consumers, investors, and regulators can accurately 

assess and price risk and regulators can hold institutions accountable for maintaining an appropriate level of capital. Secondary market transparency and standardization lower costs and increase availability, and are a fundamental precondition for 

the re-emergence of a private mortgage-backed securities market. 

Access and Affordability: The lower housing costs produced by the modern 

mortgage finance system (before the recent crises) helped more families become 

homeowners, which enabled them to live in a stable community, to build equity, and 

to pass on assets to their heirs. Similarly, the Government-backed mortgage finance 

system has provided developers of affordable multifamily rental housing with a 

source of long-term, fixed-rate mortgages, while the purely private market 

prioritizes market-rate rental housing.16 The Government guarantees, along with 

associated regulatory and consumer protections, confer significant benefits to households who can access it—and that should include all credit-worthy borrowers. Left 

to its own devices, participants tend to ‘‘cream’’ the market, leaving perfectly creditworthy lower wealth, lower income or minority segments underserved. With appropriate incentives and tools, these segments can be well-served, to the benefit of the 

entire system. 

Consumer Protection: The purchase of a home is a far more complicated, highly 

technical transaction than any other consumer purchase and occurs only a few times 

in a consumer’s life. Mortgage consumers are at a severe information disadvantage 

compared to lenders. In addition, a mortgage typically represents a household’s largest liability. As the current crisis has demonstrated, consumer protection is inextricably linked with financial institution safety and soundness. Along with regulators such as the Consumer Financial Protection Board, any structure supporting 
114 

17For a side-by-side comparison and links to 22 plans, see matrix on CAP Web site at http:// 

www.americanprogress.org/wp-content/uploads/2013/03/NewGSEReformMatrix.pdf. 

the Nation’s housing market must share a commitment to ensuring that the system 

supports rather than undermines the financial health of the consumer. 

Basic Structure of Our Proposal 

The Mortgage Finance Working Group’s proposal creates a system that preserves 

the traditional roles of originators and private mortgage insurers, but assigns functions previously provided by Fannie Mae and Freddie Mac to three different actors: 

(1) issuers; (2) chartered mortgage institutions, or CMIs; and (3) a catastrophic risk 

insurance fund. Our plan seeks to use the least and most remote public guaranty 

necessary to leverage the greatest amount of private capital in a first loss position, 

which in turn will provide interest rate investors the assurance to fund long-term 

mortgages. 

Issuers: Issuers are purely private entities that originate or purchase and pool 

loans and issue mortgage-backed securities (MBS). 

Chartered Mortgage Institutions (CMIs): Issuers will purchase credit insurance on MBS that meets certain standards from CMIs. These entities also will be 

fully private institutions, but will not be owned or controlled by originators. They 

will be chartered and regulated by a Federal agency and their function would be 

to assure investors of timely payment of principal and interest on those securities 

that can qualify to be covered by the Catastrophic Risk Insurance Fund. 

Catastrophic Risk Insurance Fund (CRIF): This on-budget fund would be 

similar to the FDIC’s Deposit Insurance Fund, i.e., run by the Government and 

funded by premiums on CMI-guaranteed MBSs. In the event of a CMI’s financial 

failure, the explicit guarantee provided by the CRIF would protect the holders of 

qualified CMI securities. The Government would price and issue the catastrophic 

guarantee, collect the premium, and administer the fund. The fund would establish 

the product structure and underwriting standards for mortgages that can be put 

into guaranteed securities and the securitization standards for MBSs guaranteed by 

the CMIs, and also establish reserving and capital requirements for CMIs that 

would be at higher levels than those presently held by Fannie and Freddie. In addition, the CRIF would regulate pooling and servicing standards to ensure a liquid 

market for the MBS and appropriate treatment of delinquent loans to protect the 

fund and consumers. 

Under our plan, there will be several layers of protection standing ahead of the 

CRIF: borrower equity, the CMI’s capital, and in some cases private mortgage insurance. All of these private sources of funds would need to be exhausted before the 

CRIF would have any exposure to loss. And the CRIF would have to fail before any 

taxpayer funds would be required to meet the Government’s guarantee to security 

holders. 

In addition, to provide tools that encourage safe and sound innovation and access, 

we propose establishment of a ‘‘Market Access Fund’’ which would support research 

and development, provide limited credit enhancements, and offset the costs of support services such as housing counseling. This fund would be supported by a perloan contribution from all securitized loans, as the entire system benefits from the 

provision of prudent and affordable lending to enable more households to advance 

up the housing ladder. In addition, the Capital Magnet Fund and the National 

Housing Trust Fund, both of which were created in 2008 and intended to be funded 

by Fannie Mae and Freddie Mac, would become funds within the Market Access 

Fund. 

Comparing our Proposal to Other Proposals 

In your invitation to testify today, you identified the essential objectives policymakers should aim for as they seek to structure the future mortgage markets: the 

continued availability of the standard affordable long-term fixed-rate mortgage, 

equal access to the secondary market for all lenders, equal access for all qualified 

borrowers and market segments, availability of stable liquid and efficient funding 

for both multi-family and single-family housing, the protection of taxpayers, and the 

impact on economic recovery and stability. 

A comparison of our plan with others illustrates several considerations for how 

to structure a well-functioning secondary mortgage market that achieves these objectives.17 Our proposal is just one of many proposals, including the proposal of the 

Bipartisan Policy Commission, recognizing the need for Government support of the 

core mortgage market. Although there are differences in the structural details, such 
115 

18 Roberto G. Quercia, Janneke Ratcliffe, and Allison Freeman, Regaining the Dream How to 

Renew the Promise of Homeownership for America’s Working Families (Washington: Brookings 

Institute Press, 2011). 19Lei Ding, Roberto G. Quercia, Wei Li, and Janneke Ratcliffe, ‘‘Risky Borrowers or Risky 

Mortgages: Disaggregating Effects Using Propensity Score Models,’’Journal of Real Estate Research 33 (2) (2011): 245–278, available at http://www.ccc.unc.edu/documents/ 

Risky.Disaggreg.5.17.10.pdf. 20 Richard K. Green and Susan M. Wachter, ‘‘The American Mortgage in Historical and International Context,’’ Journal of Economic Perspectives 19 (4) (2005): 93–114, available at http:// 

papers.ssrn.com/sol3/papers.cfm?abstractlid=908976. 21David C. Wheelock, ‘‘The Federal Response to Home Mortgage Distress: Lessons from the 

Great Depression,’’ Federal Reserve Bank of St. Louis Review 90 (3) (2008), pp. 133–48, available at http://research.stlouisfed.org/publications/review/08/05/Wheelock.pdf; Green and 

Wachter, ‘‘The American Mortgage in Historical and International Context.’’ 22 Richard K. Green, Testimony before the Senate Banking Committee, ‘‘Housing Finance Reform: Should there be a Government Guarantee?’’ September 13, 2011, available at http:// 

www.banking.senate.gov/public/index.cfm?FuseAction=Files.View&FileStorelid=56068079- 

9c03-40d4-b36a-72913d3850b4. 23Peter Wallison, ‘‘Going Cold Turkey,’’ (Washington: American Enterprise Institute, 2010), 

available at http://www.aei.org/outlook/economics/financial-services/housing-finance/goingcold-turkey/. 

proposals share the common principals of liquidity and stability that are required 

for a well-functioning housing system. 

Preserve the standard affordable long-term fixed-rate mortgage 

The explicit Government guaranty—even a remote one, such as our plan calls 

for—preserves the long-term, self-amortizing, fixed-rate mortgage, which maximizes 

affordability and economic security for the majority of American homeowners. 

This type of mortgage, which is generally a 30-year, fixed-rate mortgage, provides 

borrowers with cost certainty regardless of market conditions. Adjustable rate mortgages expose borrowers to interest rate risk. Shorter-duration products with balloon 

payments that are designed to be refinanced every 2 to 7 years expose borrowers 

not only to ordinary interest-rate risk, but also to the risks that they may not be 

able to refinance when they need to due to other adverse changes in market conditions. 

Research conducted at the UNC Center for Community Capital confirms the important role that safe and sustainable products play in making home ownership 

work better for more households. A longitudinal study of nearly 50,000 families, 

with a median income of around $35,000 who purchased homes in the decade leading up the bubble and bust, has found relatively low default rates, despite the fact 

that most of these borrowers put down less than 5 percent on their home purchase 

and about half had credit scores below 680. Although these borrowers would be very 

unlikely to get approved for a mortgage in today’s tight market, they turned out to 

be good credit risks even through a major recession, and they even managed to build 

some equity at the median. These loans were prime-priced, fully underwritten loans, 

extended by banks around the country and sold to Fannie Mae.18 Comparison with 

similar borrowers receiving adjustable-rate and other nontraditional loan features 

via the purely private market, who defaulted at rates three to five times as high, 

highlights the important role that good products play in reducing credit risk.19

Providing borrowers with that kind of stability also has benefits for the economy 

as a whole. Prior to the introduction of the major housing and finance reforms of 

the 1930s, the United States had a mortgage system that closely resembled the 

purely private system conservatives are arguing for today. Mortgages were typically 

for a term of 5 years and depended on regular refinancing.20 That system failed 

spectacularly when the Great Depression hit and half of all homeowners defaulted 

on their mortgage (although foreclosure rates remained lower than today due to the 

Government’s creation of the Home Owners’ Loan Corporation).21

Without Government involvement of some kind, the 30-year, fixed-rate mortgage 

is likely to be a product of the past.22 Some have asserted that the significant development of the financial sector since the 1930s means that a purely private mortgage 

system could effectively serve the mortgage needs of Americans today. They point 

to the nascent recovery in the so-called jumbo mortgage markets, an area that lacks 

any Government support because these mortgages are for the high end of the housing market, as evidence supporting the idea that the purely private markets can capably serve the mortgage markets.23

However, the fact that the purely private markets may be able to meet the mortgage needs of a small, wealthy slice of home buyers does not mean that they will 

be able to meet the mortgage needs of all Americans. This argument ignores the 

limited investor appetite for long-term debt investments—the type of investments 
116 

24 Bryan J. Noeth and Rajdeep Sengupta, ‘‘Flight to Safety and U.S. Treasury Securities,’’ The 

Regional Economist 18 (3) (2010):18–19 available at http://www.stlouisfed.org/publications/re/ 

articles/?id=1984; see also Ben S. Bernanke, ‘‘Housing, Housing Finance, and Monetary Policy,’’ 

August 31, 2007, available at http://www.Federalreserve.gov/newsevents/speech/ 

bernanke20070831a.htm. 25The TBA, or ‘‘To be Announced,’’ market is a type of futures market for mortgage-backed 

securities that allows lenders to provide consumers with interest rate forward commitments or 

‘‘locks’’ on their mortgage interest rates before the final mortgage is signed and sealed. For more 

information on the importance of the TBA market, see Mortgage Finance Working Group, ‘‘A 

Responsible Market for Housing Finance’’. 

that fund home mortgages-in the absence of a Government backstop. While investor 

demand for long-term sovereign debt is enormous, totaling many trillions of dollars 

for U.S. Treasuries alone, the demand for privately issued long-term mortgage obligations that don’t carry a Government backstop is small in comparison.24 What’s 

more, the jumbo market is enabled by the existence of the conventional market, as 

lenders need to compete with a product that wealthier borrowers could access with 

a larger downpayment. The conventional market also provides transparent pricing 

information and benchmark prices and rates that the jumbo market can piggyback 

on. 

As noted, any plan that maintains a Government guaranty will give a broad class 

of investors the confidence to invest in the U.S. housing finance system at efficient, 

fixed rates. In our view, similar to the proposal of the Bipartisan Policy Commission 

as well as several others, this Government guaranty needs only to cover the catastrophic level to serve this function as well as to support the TBA market,25 provided there is sufficient standardization. Proposals that call for the investors to 

share in some tail risk are unlikely to achieve this end. On the other hand proposals 

that call for the Government to take a larger share of the risk, for example through 

a single, Government-owned entity that takes both predominant and catastrophic 

risk (similar to the way the GSEs are functioning now, or FHA and Ginnie Mae 

combined) may result in marginally greater efficiencies to the extent that greater 

homogeneity drives greater liquidity. For example, even today, with full Government support, Fannie Mae and Freddie Mac securities do not trade the same. 

Ensure that both large and small lenders have access to secondary market 

finance to help ensure broadly available access to credit in all communities. 

A diverse lending market is crucial for ensuring broad access to credit for all borrowers and communities, including rural communities, communities of color, and 

communities that have been hard-hit by the recession. A secondary market that enables lenders of all sizes in all communities to offer mortgages on equal and well 

understood terms is one of the major beneficial functions of Fannie Mae and Freddie 

Mac that, going forward, the reformed system must retain and even improve on. 

Our proposal recognizes the risks of building a system that favors large, well-capitalized banks (and their affiliates) and leaves small originators at the mercy of 

their larger competitors as to whether and under what terms they can access the 

Government-guaranteed market. In our proposal, multiple chartered mortgage institutions (CMIs) would perform the predominant credit risk-taking function of Fannie 

and Freddie. These entities would enhance competition and ensure equal access by 

small lenders to the secondary market. Originating lenders would not be allowed to 

own a CMI, except as part of a broad-based mutually owned entity designed to ensure access at equitable prices to smaller lenders such as community banks, credit 

unions and community development finance institutions. In that context, and to assist in the achievement of public policy outcomes that may not coincide with the interests of private owners of CMIs, consideration might also be given to permitting 

CMIs established by Government entities, such as housing finance agencies, individually or collectively. 

Some proposals would explicitly allow banks and originators to perform the predominant credit risk-taking function. In a marketplace already characterized by extreme concentration of origination and servicing in entities that have both explicit 

Government guarantees (on deposits) and implicit guarantee (‘‘too big to fail’’), this 

structure would only extend the large banks’ market power and encourage the accumulation of risk with an implicit Government guaranty. In effect it would be recreating Fannie and Freddie, except under the control of the largest originators. While 

proponents point to the Ginnie Mae model where originators are also issuers, they 

ignore the fact that the credit risk-taking function is not provided through Ginnie 

Mae or the issuers, but through FHA on a per-loan basis, universally available on 

equal terms. In the case where issuers themselves are determining the risk param-
117 

26 Bipartisan Policy Center Housing Commission, ‘‘Housing America’s Future,’’ p. 57. 

eters and pricing for the predominant credit risk, such a transparent and level playing field will be hard to achieve. 

Some of those proposals do identify this market power risk but would manage it 

administratively rather than structurally. Such plans would prohibit discriminatory 

pricing by issuers or credit-risk-takers. For example, the BPC plan calls for the Public Guarantor to set rules of the road that would prevent issuers (who are charged 

with choosing how to cover the credit risk) from creating ‘‘barriers using differential 

guarantee-fee pricing or other means to unfairly restrict or disadvantage participation in the Government-guaranteed secondary market.’’26 However, managing that 

risk administratively may be easier said than done. 

By contrast, cooperatively owned and ‘‘utility’’ models deliberately seek to equalize 

small lender access through structural mechanisms. At the far end of the spectrum, 

proposals that call for a single entity such as a nationalized secondary market 

would go even further to minimize this risk. 

Ensure that all creditworthy borrowers and market segments have access to 

the mainstream housing finance system. 

As noted previously, many of the benefits we associate with stable and affordable 

housing options stem from the way in which that housing is financed. Left to its 

own devices, the market will tend to deliver the best loans where it is easiest to 

do so and to channel higher cost loans where borrowers are easier to exploit and 

have fewer options. Such cherry-picking practices result in the benefits flowing primarily to private shareholders and to a narrow group of advantaged borrowers, 

rather than the economy as a whole. To further the goal of access and affordability, 

CMIs in the new housing finance system would be responsible for providing an equitable outlet for all primary market loans meeting the standards for the guarantee, 

rather than serving only a limited segment of the business, such as higher-income 

portions of that market. 

This obligation would have four parts: 

• CMIs would be expected to mirror the primary market (roughly) in terms of the 

amount and the geography of single-family low- and moderate-income loans 

(other than those with direct Government insurance) that are securitized and 

are eligible for the CMI guarantee. They would not be allowed to ‘‘cream’’ the 

market by securitizing limited classes of loans. (This approach relies on effective 

implementation of the Community Reinvestment Act, which requires banks and 

thrifts to serve all communities in which they are chartered; note that the Community Investment Act likely requires some updating for it to function optimally, and the Federal banking regulators have been engaged in a lengthy process to do this.) 

• CMIs that guarantee multifamily loans would be expected to demonstrate that 

at least 50 percent of the units supported by securitized multifamily loans during the preceding year were offered at rents affordable to families at 80 percent 

of the relevant area median income, measured at the time of the securitization. 

• CMIs would be required to provide loan-level data on securitizations to the Government (which will be required to make these data public) that are more robust than those of the Public Use Database currently produced by the Federal 

Housing Finance Administration. 

• All CMIs would participate in a yearly planning, reporting, and evaluation process covering their plans for and performance against both the single-family and 

multifamily performance standards and Government-identified areas of special 

concern, such as rural housing, small rental properties, and shortages created 

by special market conditions such as natural disasters. 

Like all other secondary market participants, CMIs would be required to abide 

by nondiscrimination and consumer protection laws. Substantial underperformance 

by a CMI could lead to fines and possible loss of its CMI license. 

Provide credit enhancement or other programs to serve those who cannot be 

served by purely private markets. 

While rules against discriminatory lending and anti-creaming provisions, such as 

those we have proposed for CMIs, will help, they will not fill all the gaps left by 

a national history of discrimination and wealth disparities. These gaps are especially important to fill in the aftermath of the housing crisis, where many communities saw equity stripped by subprime lending or were hit very heavily by the recession and unemployment. These neighborhoods most in need of capital to rebuild 
118 

likely will be the last to get it from a private market left to its own devices. The 

Community Reinvestment Act is too limited in scope to be expected to generate the 

level of support required solely through banks’ balance sheet lending. 

However, many prospective homeowners and owners of rental homes who are not 

easily served by private markets demanding competitive rates of return can be well 

served with limited amounts of credit enhancement, or ‘‘risk capital.’’ These borrowers inhabit a ‘‘grey zone’’ between fully private credit and fully insured credit 

through agencies like the FHA, VA and USDA’s Rural Housing Services (RHS). During their most effective years, Fannie Mae and Freddie Mac generated some of this 

innovation through their own risk capital by relying on standard, fully documented 

loans; their large market shares; and broadly priced credit products, using limited 

pilots or trusted partners Banks subject to the Community Reinvestment Act also 

do some of this on a limited scale, both internally and through support of missionoriented intermediaries such as Community Development Financial Institutions 

(CDFIs). 

We therefore propose establishment of a Market Access Fund, which would have 

three broad functions: 

• Provide support, both grants and loans, for research, development and pilot 

testing of innovations in product, underwriting and servicing geared to expanding the market for sustainable home ownership and for unsubsidized affordable 

rental. 

• Provide limited credit enhancement for products that expand sustainable home 

ownership and affordable rental but that, without such credit enhancement, 

cannot be piloted at sufficient scale to determine whether they can be sustained 

by the private market, or, alternatively, are best served by FHA, VA and/or 

USDA or by the States. 

• Provide incentive grants to encourage development of self-sustaining support 

services, such as housing counseling, that have proven effective in expanding 

safe and affordable home ownership, but that so far have not developed a sustainable business model that combines lender support, client fees and limited 

Government and philanthropic subsidy. 

We propose that the Market Access Fund be funded through a small (e.g., 10 basis 

points) assessment on all securitized mortgages, whether or not an issue receives 

a Federal catastrophic guarantee. The fee would be structured as a ‘‘strip’’ from the 

mortgage coupon, in the same way that servicing fees are charged, and would continue for the life of the mortgage. This fee could be easily collected by the SEC on 

behalf of the Fund, or, if proposals for a single mortgage backed securities platform 

are implemented, by the platform. 

The Fund should be on-budget, allowed to grow over time, and its credit activities 

subject to credit scoring. Using 2000 as a ‘‘normal’’ year for mortgage-backed securities issuance, a 10 basis point assessment would generate approximately $630 million annually while only costing individual mortgage borrowers a negligible 

amount—about $250, or about $20 per month, on a $250,000 mortgage. Assuming 

mortgage backed securities remain outstanding for an average of 4 years and MBS 

issuance remain at the 2000 level, by the fifth year after initiation, the fee would 

be generating a steady revenue of $2.5 billion. 

By creating and using the Market Access Fund in this manner, all participants 

in the mortgage market will be contributing to the stability of that market and of 

the economy. That will be a marked contrast to the pre-crash system in which the 

so-called private market was able to use the credibility and stability of the U.S. capital markets to simultaneously abuse lower wealth borrowers and communities and 

make huge profits. 

In addition, the Capital Magnet Fund and the National Housing Trust Fund, both 

of which were created in 2008 and intended to be funded by Fannie Mae and 

Freddie Mac, would be relocated within the Market Access Fund. The National 

Housing Trust Fund allows the States to expand the supply of rental housing for 

those with the greatest housing needs. The Capital Magnet Fund enables CDFIs 

and nonprofit housing developers to attract private capital and take affordable housing and community development activities to greater scale and impact. 

Several other plans, including that of the Bipartisan Policy Commission, recognize 

the value of access and affordability in principal. There are plans that call for the 

secondary market entity(s) to maintain a portfolio—at a much smaller scale than 

Fannie and Freddie—for the purpose of funding niche and harder-to-securitize loans 

that expand access and affordability for single-family or affordable multi-family activities. 
119 

However, to our knowledge, no other plan spells out specific mechanisms for 

proactively ensuring broad access for all qualified, creditworthy households to the 

mainstream mortgage market, rather than to FHA. Other proposals call for all lowand moderate-income lending to be served through the FHA. This approach ignores 

the fact that much of this segment can be well and safely served by the core conforming conventional market, and that the primary market’s conventional lending 

to such segments, through CRA and otherwise, depends on a reliable secondary 

market outlet. Instead, it would institutionalize a dual mortgage market, with less 

choice and higher costs for borrowers who would most benefit from access to the 

prime conventional market, and it would unnecessarily and inefficiently drive credit 

risk onto the Government’s balance sheet. 

We argue that access and affordability objectives can be achieved whether the 

GSEs are replaced by numerous private credit-risk takers, a public utility, or a nationalized secondary market. That said, the more centralized the credit-risk-taking 

entity (s), and the more authority it has, the easier it is to align the delivery of the 

guaranty with broader housing policy objectives. 

Provide access to reasonably priced financing for both home ownership and 

rental housing so families can have appropriate housing options to meet 

their circumstances and needs. 

The need for affordable housing is growing more urgent for families in the United 

States. Over half of U.S. households spend more than 30 percent of their income 

on housing, and one in four U.S. households spends over half of its income on housing. We applaud the attention paid by the Bipartisan Policy Commission to the crisis in affordable rental housing for working-class households, a segment that is not 

effectively served today by either the Government or the private market. 

Our plan will address the affordability crisis by supporting broad access to affordable mortgage credit in the multi-family markets. The Mortgage Finance Working 

Group’s plan uses a carefully deployed and targeted Government guarantee to encourage private capital to bear risk ahead of the Government for affordable multifamily finance as well. We envision that CMI’s, most likely specializing in multifamily, would take predominant risk ahead of the CRIF for permanent financing. 

These CMI’s would be required, on an annual basis, to demonstrate that 50 percent 

of the units financed by securities it guarantees are affordable to a family making 

80 percent of median income. 

Some alternative proposals are silent on multifamily finance, or eliminate a Government guarantee, or call for splitting the secondary market for multifamily off 

from that of the single-family market. But any responsible plan must address the 

critical gaps in financing for affordable rental properties, a goal which has gone too 

long ignored in U.S. housing policy. 

Protect taxpayers from unnecessary risk 

The Mortgage Finance Working Group envisions a system that is capitalized with 

as much private capital at risk as possible while still serving the Nation’s housing 

needs. That will require Federal Government support, but only in a remote, catastrophic-backstop position, one that is well-buffered by several layers of private capital. The first layers of risk would be absorbed by owners’ equity and, on lowerdownpayment loans, by traditional private mortgage insurance. The next layer— 

what the Bipartisan Policy Commission refers to as the predominant credit risk— 

would be borne by private institutions specifically chartered for that purpose 

(CMIs). These entities would be regulated to hold adequate capital and reserves, 

and subject to strict standards for risk management. The next layer, which would 

be accessed only after failure of a CMI, would be covered by the Catastrophic Risk 

Insurance Fund, similar to the FDIC’s Deposit Insurance Fund. This guarantee will 

be paid for by premiums set at rates designed to cover losses should a CMI fail. 

The Government guaranty of MBS would be specific and limited to investments in 

qualified mortgage backed securities, and would not protect the shareholders or 

creditors for the CMIs. 

At a high level, our plan is similar to the Bipartisan Policy Commission and several others that call for private capital in the predominant loss position with a fund 

standing behind that. Analysis presented by the Bipartisan Policy Commission finds 

that a 4 to 5 percent aggregate loss cushion would absorb credit losses in a scenario 

of the severity just experienced (with a 30 to 35 percent decline in house prices) 

(p56). This cushion is a massive increase over the old minimum capital require-
120 

27This was the minimum statutory capital requirement for off balance-sheet obligations, with 

a 2.5 percent minimum for on-balance sheet assets; the regulator could and on occasion did require an additional factor (at its highest, +30 percent). The GSEs were also subject to risk-based 

capital requirements, but these were often lower than the statutory requirement. 

ments on Fannie and Freddie of .45 percent on credit risk.27 All these plans recognize that mortgages would cost somewhat more, but estimate that the net effect will 

not be of a magnitude that would disrupt the market. 

However, these plans differ as to the form that private capital would take. Some, 

like ours, call for specialized monoline institutions, while other plans envision a role 

for structured transactions. In my view, the institutional solution has significant advantages. It is easier to regulate and manage for safety and soundness, and it is 

more efficient at pooling and spreading risks. Structured transactions, to the extent 

that they cover a single or limited number of pools, cannot provide the benefit of 

a secondary market that can allocate risks and reserves across years, regions, lenders, and so on. The structured transactions approach also tends toward greater complexity and less transparency for purposes of pricing and regulation. 

Of course, for all these private-risk-capital proposals, one big unknown is whether 

and at what terms adequate private capital will be available. Under plans that call 

for a smaller role or no role at all for private capital, this question is of course less 

important. 

Promote economic recovery and housing market stability 

A healthy mortgage secondary market is required for a healthy economy. This is 

true both with regard to shorter-term economic stability, and long-run stability. 

In the short term, uncertainty about the future state will continue to dampen 

lending activity, creating a self-fulfilling drag on recovery. At the same time, 

though, our tentative recovery would be derailed by disruptions to the current state. 

The Bipartisan Policy Commission calls for a congressionally adopted model coupled 

with a ‘‘dynamic, flexible transition’’ for winding down the GSEs and moving toward 

the new model. The transition may take 5 to 10 years, and it can be eased by building the new model on the valuable infrastructure currently residing with Fannie 

and Freddie. This approach will help the market recover and transition to a new 

normal. 

We also must keep our eye on long-term economic stability, which derives from 

appropriate Government support of financial systems. While our plan calls for private capital to bear all but tail risk, we also recognize that the more central a role 

is played by private capital, the more instability is introduced. Private capital is inherently procyclical, meaning that it tends to be plentiful and cheap during good 

times and scarce and expensive during downturns, thus inflating bubbles and deepening downturns. While this is a challenging problem, we suggest that there are two 

keys to solving it. 

The first is to build in countercyclical capability in an intentional and effective 

way, through a series of dials that can be adjusted in times of economic stress when 

private capital simply flees. In addition to ramping up FHA activity, the other moving dials could include regulatory interventions and a shift in split of risk bearing. 

Our plan explicitly does not provide a guaranty for the GSE’s historical portfolio 

function. Instead, we envision that in times of economic crisis, a Government guarantee of a specific class of senior debt (similar to the limited FDIC bank debt guarantee program of 2009) could accomplish this without reinstating the implied U.S. 

Government guarantee of all CMI debt. 

The second key to countercyclicality is to recognize that what is done in good 

times is just as important as what is done in times of stress. Adequate reserving 

and building up of capital is critical and can best be achieved using institutional 

risk taking solutions (rather than structured transactions). Regulatory discipline 

around pricing and risk management also needs to be imposed on the private market, and should be the charge of a strong regulator. 

In any event, the future state model should prioritize what is in the best interest 

of the overall economy over the long run. These decisions should not be left to a 

conservator, who has a substantively different mandate. 

Comparison to a completely private market 

A completely private market alternative is one where all credit risk is borne by 

private capital. (Technically, the source of funding for all mortgages is ‘‘private,’’ but 

most of it relies on some form of Government credit guarantee in the event of default.) 

As the Bipartisan Policy Commission report documents, financing America’s housing requires some 10 trillion dollars; attracting adequate capital without a Govern-
121 

28 Bipartisan Policy Center Housing Commission, ‘‘Housing America’s Future,’’ p. 39. 29 Center for American Progress calculations based on Federal Reserve ‘‘Mortgage Debt Outstanding’’ data, available at http://www.Federalreserve.gov/econresdata/releases/mort 

outstand/current.htm. 30 Richard K. Green, Testimony before the Senate Banking Committee, ‘‘Housing Finance Reform: Should there be a Government Guarantee?’’ September 13, 2011, available at http:// 

www.banking.senate.gov/public/index.cfm?FuseAction=Files.View&FileStorelid=56068079- 

9c03-40d4-b36a-72913d3850b4. 31Larry D. Wall, W. Scott Frame, and Lawrence J. White, ‘‘Will Taxpayers Get a Truly Fair 

Deal with Housing Finance Reform?’’ Center for Financial Innovation and Stability Notes from 

the Vault, March 2013, available at http://www.frbatlanta.org/cenfis/pubscf/nftvl1303.cfm. 32 Ibid. 

ment backstop at that scale would surely be challenging. Commercial banks and 

savings institutions, which have Federal deposit insurance and, for larger institutions, implicit ‘‘too big to fail’’ backing, only constitute a quarter of this debt, and 

according to the report, ‘‘there is simply not enough capacity on the balance sheets 

of U.S. banks to allow a reliance on depository institutions as the sole source of liquidity for the mortgage market.’’28 Today, the more purely private market is funding less than 20 percent of the rest.29

A completely private market would mean a smaller market and a riskier one, and 

one that would not meet the fundamental requirements of stability and liquidity to 

support a robust housing market in this country. History has shown us that a housing finance system that relies on private risk-taking will be subject to a level of volatility that is not systemically tolerable, given the importance of housing to the 

economy and the American family. Moreover, completely private proposals would 

not achieve stability and, in fact, would expose taxpayers to even more risk from 

boom-bust cycles such as the one that triggered the financial crisis and that was 

fueled by recklessness in the private market. 

Importantly, even a well-regulated private market would predominantly offer 

loans with shorter durations and higher costs, while the long-term fixed-rate mortgage would not be available under terms affordable to most families.30 Likewise, 

rental housing would be less available to working families and would cost more, 

even as there is growing demand for it. 

Finally, there is the fact that, as demonstrated by the recent financial crisis, the 

Government has demonstrated that it will step in to prevent a systemic financial 

collapse regardless of structure. Even champions of a pure-private solution admit, 

that if that is the case ‘‘explicit guarantees with some taxpayer protection may be 

better than implicit guarantees with no protection.’’31 They go on to suggest that 

‘‘taxpayers should evaluate all proposals for continuing guarantees with their eyes 

wide open and do what they can to reduce the extent to which they are unwittingly 

exploited in the future.’’32

We could not agree more. It is time to get to work on devising a system that provides the benefits of Government insurance with minimal risk to taxpayers through 

the structuring of a stable mix of public and privately administered credit insurance. 

Conclusion 

From the 1930s through the end of the last century, the United States enjoyed 

a vibrant, stable, housing market that evolved to provide liquidity for mortgages in 

all parts of the country through every business cycle. The system was not perfect, 

but it contains valuable lessons for us as we look to rebuild. By applying those lessons to meet the goals outlined in this testimony, we have the opportunity to build 

a mortgage market that is fair, accessible, affordable, and fiscally sound, one that 

works better for more households and communities than ever before. 

Thank you for inviting me to talk about the work my colleagues and I have done 

and I would be happy to answer any questions. 
(122) 

RESPONSE TO WRITTEN QUESTIONS OF SENATOR MENENDEZ 

FROM MEL MARTINEZ 

Q.1. Currently, the U.S. housing finance system is largely comprised of loans insured by the Federal Housing Administration, 

loans guaranteed by the GSEs, and loans completely underwritten 

by private capital. Can you explain for us how the Commission’s 

proposed policy would affect the agency-insured, conventional and 

jumbo loan spaces? 

A.1. The commission expects that the single-family housing finance 

system of the future will have three distinct segments: 

1. Mortgages that are not covered by any Government guarantee 

(including loans held in portfolio and private-label mortgagebacked securities) would comprise a substantial share of the 

overall market. 

2. The market share of mortgages insured or guaranteed by the 

Federal Housing Administration (‘‘FHA’’), the U.S. Department of Veterans Affairs (‘‘VA’’), and the U.S. Department of 

Agriculture (‘‘USDA’’) would return to pre-crisis levels. 

3. Mortgages covered by the new, limited Government guarantee 

proposed by the commission would make up the balance. 

After a suitable transition period, the commission recommends 

that the loan limits for the two Government-guaranteed markets 

(#2 and #3 above) be established for each metropolitan area using 

a formula that takes into account the median house price in that 

area. Future policy choices by the Administration and Congress 

will determine the actual loan limits, but looking at historical loan 

limits before the crash, for many areas these loan limits might be 

in the range of $150,000 to $175,000 for the share of the market 

served by FHA, VA, and the USDA, and in the range of $250,000 

to $275,000 for the share of the market covered by the new, limited 

Government guarantee proposed by the commission. 

The commission believes a dynamic, flexible transition over an 

extended period of time (5 to 10 years) will be needed to unwind 

the single-family operations of Fannie Mae and Freddie Mac in an 

orderly fashion and rebalance capital flows as the private sector 

steps in and the Government footprint becomes smaller. A gradual 

approach will minimize market disruptions and safeguard against 

the sudden potential loss of access to mortgage credit. 

During this transition period, several ‘‘policy dials’’ could be utilized to help reduce the size of Government involvement in the single-family mortgage market. A gradual reduction in the maximum 

loan limits for Fannie Mae, Freddie Mac, FHA, and VA should 

serve as the primary policy dial and will provide an indication of 

the private market’s appetite for unsupported mortgage credit risk. 

Other policy dials have already been set in motion. The Federal 

Housing Finance Agency (‘‘FHFA’’) has recently increased the guar-
123 

antee fees charged by Fannie Mae and Freddie Mac, in order to 

help move the Government pricing structure closer to the level one 

might expect if mortgage credit risk were borne solely by private 

capital, making the private market more competitive. The FHFA 

has also accelerated the reduction in the portfolios of Fannie Mae 

and Freddie Mac from 10 percent annually to 15 percent annually. 

In addition, FHFA has announced its intention to begin experimenting with single-family mortgage-backed security (‘‘MBS’’) 

structures to allow a portion of the credit risk currently held by 

Fannie Mae and Freddie Mac to be sold to the private sector. Although only first steps, experimentation along these lines will enable greater private-sector involvement and set the stage for the 

transition to the new system. 

Another major action that would encourage a greater role for the 

private sector in the housing finance system would be clarifying the 

rules of the road going forward. Despite the Consumer Financial 

Protection Bureau’s promulgation of final rules on Qualified Mortgages (‘‘QM’’) and mortgage servicing, regulatory uncertainty continues to hold back private-sector involvement. The pending rule 

regarding Qualified Residential Mortgages (‘‘QRM’’), along with 

other outstanding questions related to the Dodd-Frank legislation, 

must be resolved for the private sector to return to the mortgage 

market in a more robust manner. 

Q.2. The Commission’s proposal goes beyond ownership and calls 

for more Government assistance for rental, especially in low and 

extremely low-income households. How might the subsidies be 

structured? Through the tax code? Direct spending? 

A.2. More than one-third of all households in the United States 

rent their homes. The Nation’s 41 million renter households account for 35 percent of the U.S. population, and their numbers are 

likely to grow significantly in the coming years. 

With rental demand increasing, rents are rising in many regions 

of the country. As a result, our Nation’s lowest-income renters find 

themselves spending larger shares of their incomes on housing 

than ever before. Our Nation’s most vulnerable households—those 

with ‘‘extremely low incomes’’ of 30 percent or less of area median 

income—are squeezed even further by the huge mismatch between 

their numbers and the limited number of affordable rental units 

that are available in the market. In all, Federal rental assistance 

programs currently help approximately five million American 

households afford housing. However, because of the lack of resources, only about one in four renter households eligible for Federal rental assistance actually receives it. 

The commission proposes to respond to this problem with a multilayered approach that involves improving the performance of existing rental assistance programs, targeting most ‘‘direct spending’’ 

support to our Nation’s most vulnerable households, and utilizing 

the tax code to support the production, preservation, and rehabilitation of rental units affordable to low-income households. 

1. Improving Performance. The commission recommends a new 

performance-based system for delivering Federal rental assistance that focuses less on process and more on achieving positive results for residents. This new system will evaluate a 
124 

housing provider’s success in achieving outcomes like improved housing quality, enabling the elderly and persons with 

disabilities to lead independent lives, and greater economic 

self-sufficiency for assisted households capable of work. This 

proposed system would devolve responsibility from the Federal Government to State and local decisionmakers, as well as 

reward high-performing housing providers with substantial 

deregulation, providing greater freedom to innovate and depart from standard U.S. Department of Housing and Urban 

Development (‘‘HUD’’) practices and rules. Substandard providers, on the other hand, would be subject to a competitive 

process and potential replacement. 

2. Helping the Most Vulnerable Households. The commission recommends limiting eligibility for the Housing Choice Voucher 

program to the most vulnerable households, those earning 30 

percent or less of area median income. Given today’s resourceconstrained environment, the commission believes that as 

families currently enrolled in the program turn back their 

subsidies and new vouchers are issued, it is appropriate to 

target assistance to households at the lowest end of the income scale. We recognize this deeper targeting shrinks the 

pool of eligible beneficiaries, but it was our judgment that this 

tradeoff is worth making if it means that a greater number 

of our Nation’s most vulnerable households would be assured 

access to assistance if they need it. To address the needs of 

families above this income threshold, the commission also recommends providing short-term emergency assistance to lowincome renters (those with incomes between 30 and 80 percent of area median income) who suffer a temporary setback 

such as a health crisis or job loss. This assistance would be 

delivered through the HOME Investment Partnerships program and could help cover the payment of security deposits, 

back-rent and other housing-related costs. 

3. Utilizing the Tax Code to Increase the Supply of Affordable 

Rental Housing. The commission supports increasing the supply of affordable rental housing by expanding the Low Income 

Housing Tax Credit (‘‘LIHTC’’) by 50 percent over current 

funding levels and providing additional Federal funding to 

help close the gap that often exists between the costs of producing or preserving LIHTC properties and the equity and 

debt that can be raised to support them. The commission also 

recommends additional Federal funding beyond current levels 

to address the capital backlog in public housing. 

In light of today’s very difficult fiscal environment, the commission recognizes that a transition period will be necessary before 

these recommendations can be fully implemented. The commission 

supports the continuation of tax incentives for home ownership, but 

as part of the ongoing debate over tax reform and budget priorities, 

the commission also recommends consideration of modifications to 

these incentives to allow for increased support for affordable rental 

housing. Any changes should be made with careful attention to 

their effects on home prices and should be phased in to minimize 

any potential disruption to the housing market. 
125 

As a final note, the commission recommends retaining in a reformed housing finance system the fee adopted by Congress in the 

Housing and Economic Recovery Act of 2008 and intended to be 

collected by the GSEs, to apply only to mortgages guaranteed by 

the Public Guarantor. Revenue generated should be used to fund 

the National Housing Trust Fund and the Capital Magnet Fund, 

with eligible activities to include housing counseling for first-time 

home buyers and support for affordable rental housing. 

Q.3. The Commission’s policy recommendation leans toward a system that is comparable to the Ginnie Mae platform that currently 

securitizes Government insured loans. That model utilizes about 

300 lenders who must meet stringent capital requirements to be in 

the Government-backed securitization market. How might this 

work in a reformed housing finance framework? Will there be adequate competition and opportunity for small community banks and 

credit unions? 

A.3. That is correct. The housing finance model endorsed by the 

commission is similar to the Ginnie Mae model. 

The commission strongly believes that access to the Governmentguaranteed secondary market must be open on full and equal 

terms to lenders of all types, including community banks and credit 

unions, and in all geographic areas. Ginnie Mae’s success in empowering smaller institutions to access the secondary market 

through its Ginnie Mae II program is instructive here. Under this 

program, one or more lenders may pool mortgages in the same security, which allows for a greater diversity of lenders to access the 

secondary market. The Ginnie Mae II program also enhances access for smaller financial institutions by allowing 1) securities to be 

issued with fewer mortgage loans than under the Ginnie Mae I program; 2) the pooling of adjustable rate mortgages and mortgages 

with a wider range of mortgage interest rates; and 3) the guaranteeing of securities backed by pools of manufactured housing loans 

where the interest rates can vary within a fixed range. 

The commission’s proposal would also allow for the Federal 

Home Loan Banks to serve as master issuers of mortgage-backed 

securities for their community bank members, who would continue 

to act as the originators and servicers of mortgages. 

Q.4. How much more might the risk premium charged to investors 

need to be in a normally operating market where private capital 

is in the first-loss position, than is currently charged by the GSEs? 

Would the FHA supplement this system or another entity? If so, 

would it do so at all times, or in cases of severe credit constriction? 

A.4. While the new housing finance system proposed by the commission will minimize taxpayer risk by placing risk-bearing private 

capital in the ‘‘predominant loss’’ position, we recognize there is no 

such thing as a free lunch and that mortgage rates will rise as a 

result. Private credit enhancers will charge a fee to cover the cost 

of private capital to insure against the predominant loss if a mortgage default occurs. In turn, the Public Guarantor described in the 

commission’s report will charge an unsubsidized fee to cover catastrophic risk should a private credit enhancer be unable to fulfill 

its obligations. This approach is far different from past practice in 

which there was little, if any, connection between actual risk and 
126 

the guarantee fees charged by the two GSEs. The Public Guarantor 

will also charge a fee to cover the cost of its operations. 

According to an analysis performed by the well-respected financial research firm, Andrew Davidson & Co., Inc., the commission’s 

proposal would increase mortgage costs for borrowers with no mortgage insurance by approximately 59 to 81 basis points above the 

baseline interest rate. By comparison, the guarantee fees for mortgages now supported by Fannie Mae and Freddie Mac are approximately 50 basis points above the baseline interest rate (including 

a 10 basis point charge paid to the U.S. Treasury to finance the 

payroll tax deduction). What this means is that the actual net cost 

increase incurred by borrowers under our proposal would likely be 

in the range of 9 to 31 basis points. 

While the commission recognizes the need for further work on 

the cost implications of its proposal, the estimates we have seen so 

far represent an acceptable tradeoff between increased costs and 

greater taxpayer protection. 

Since its creation during the Great Depression, the FHA has periodically been called upon to act as a stabilizing force within the 

single-family market. The FHA has also traditionally been an important source of mortgage credit for first-time home buyers and 

borrowers with low wealth. Looking ahead, the commission envisions an FHA that continues to play these two roles. 

Under normal economic conditions, the commission supports a 

more targeted FHA that returns to its traditional mission of primarily serving first-time home buyers. This goal can be achieved 

through the gradual reduction in FHA loan limits to those that existed before the collapse of the housing market. The recent concerns over the solvency of FHA’s single-family mortgage insurance 

fund only underscore the urgency of what the commission has proposed—that far more risk-bearing capital must flow into our Nation’s housing finance system. A system in which risk-bearing capital is plentiful will help reduce the pressure that is sometimes 

placed on the FHA to act as the mortgage-credit provider of last 

resort and allow it to perform its traditional missions more effectively and at lower risk to the taxpayer. 

Q.5. How do we consider reforming the housing finance system considering that the recent CFPB rules on Qualified Mortgages have 

exempted agency insured and securitized loans? For better or 

worse, doesn’t this imply that the GSEs in their current form 

would continue to exist for the next several years? 

A.5. The commission supports the gradual winding down and elimination of Fannie Mae and Freddie Mac over a multiyear transition 

period. Although the commission’s report does not address the QM 

exemption for mortgages insured and securitized by the two GSEs, 

my personal view is that this exemption could be narrowed during 

the transition period (for example, by reducing the GSE loan limits) as a way of reducing any regulatory advantage that the GSEbacked mortgage market may enjoy over the purely private market. 

Alternatively, as the operations of the two GSEs are wound down, 

a QM exemption could also be provided to mortgages that have met 

the baseline underwriting standards established by the Public 

Guarantor described in the commission’s report. 
127 

On a related issue, and speaking for myself only, it is critical 

that the QM rule and the pending QRM rule be aligned so that 

what constitutes a QM also qualifies as a QRM. Aligning the QRM 

and QM standards so that they work together—and not at crosspurposes—will reduce uncertainty, while promoting prudent mortgage lending. However, if Federal regulators ultimately decide to 

maintain the stringent downpayment and other restrictive requirements found in the proposed definition of QRM, they will add to 

the confusion in the marketplace and encourage more private capital to retreat to the sidelines. 

Q.6. We already have a number of Federal regulatory agencies that 

oversee the housing and mortgage finance, as well as related State 

laws and agencies. In terms of overseeing a reformed housing finance platform—whether wholly private or with Government involvement—how should regulation be handled? 

A.6. The commission proposes to replace the GSEs with an independent wholly owned Government corporation, the ‘‘Public Guarantor,’’ that would provide a limited catastrophic Government guarantee for both the single-family and rental markets. Unlike the 

GSEs, the Public Guarantor would not buy or sell mortgages or 

issue mortgage-backed securities. It would simply guarantee investors the timely payment of principal and interest on these securities. As you point out, the model endorsed by the commission is 

similar to Ginnie Mae, the Government agency that wraps securities backed by federally insured or guaranteed loans. Other than 

the Public Guarantor, all other actors in the new system—originators, issuers of securities, credit enhancers, and mortgage servicersshould be private-sector entities fully at risk for their own finances 

and not covered by either explicit or implicit Government guarantees benefiting their investors or creditors. 

In this new system, the Public Guarantor would have significant 

standard-setting and counterparty oversight responsibilities. These 

responsibilities include qualifying institutions to serve as issuers, 

servicers, and private credit enhancers; 2) ensuring that these institutions are well capitalized; 3) establishing the guarantee fees to 

cover potential catastrophic losses; 4) ensuring the actuarial soundness of the two catastrophic risk funds for the single-family and 

rental segments of the market; and 5) setting standards (including 

loan limits) for the mortgages backing Government-guaranteed securities. With respect to rental finance, the Public Guarantor would 

also have the authority to underwrite multifamily loans directly 

and would be responsible for establishing an affordability threshold 

that would primarily support the development of rental housing 

that is affordable to low- and moderate-income households. 

As a Government corporation, the Public Guarantor will be a 

self-supporting institution that does not rely on Federal appropriations but rather finances the two catastrophic funds and its own 

operational expenses through the collection of guarantee fees. The 

Public Guarantor should operate independently of any existing 

Federal department and, with this greater independence, should be 

able to respond more quickly to contingencies in the market and 

operate with greater efficiency in making staffing, budgeting, pro-
128 

curement, policy, and other decisions related to mission performance. 

To ensure continuity and build on existing Government capabilities, Ginnie Mae—enhanced with greater authorities and flexibilities—could assume the role of the Public Guarantor. In that case, 

Ginnie Mae would be removed from HUD, spun out as a separate 

and independent institution, and given the necessary authorities so 

that it could successfully discharge its responsibilities, including 

performing its traditional function as the guarantor of MBS backed 

by loans insured by the FHA, VA, USDA, and HUD’s Office of Public and Indian Housing. 

The commission recommends that the Public Guarantor be led by 

a single individual, appointed by the President of the United States 

and confirmed by the U.S. Senate, who would serve a director. The 

commission also recommends the establishment of an Advisory 

Council to the Public Guarantor consisting of the chairman of the 

Board of Governors of the Federal Reserve System as chairman of 

the Council, along with the director of the Public Guarantor, the 

secretary of the U.S. Department of the Treasury, and the secretary of HUD. The Advisory Council would meet on at least a 

quarterly basis to share information about the condition of the national economy, marketplace developments and innovations, and 

potential risk to the safety and soundness of the Nation’s housing 

finance system. 

RESPONSE TO WRITTEN QUESTIONS OF SENATOR MENENDEZ 

FROM PETER J. WALLISON 

Q.1. You speculate that the Treasury’s ownership of preferred 

stocks in the GSEs has potentially limited the ability of either 

Fannie or Freddie to retain enough earnings to grow their operations and ultimately move out of conservatorship. Could you 

elaborate for us? 

A.1. The key question is whether Fannie and Freddie can move out 

of the conservatorship as GSEs. The longer they remain in the conservatorship and central to the liquidity of the housing market, the 

more likely it will be that Congress will eventually restore them to 

their former roles as GSEs. To do that, they will have to be capitalized. The fact that all their earnings are now paid to the Treasury 

means that they cannot generate any capital internally. Thus, to 

return as GSEs they will have to be attractive enough as investments to find private capital. On the other hand, if they were able 

to retain their profits, they would become very valuable. They 

would not need to raise private capital to operate. The common and 

preferred stock (that is, the preferred stock not held by treasury) 

are still outstanding and are owned by speculators who have been 

and will be urging Congress to restore their franchise as GSEs. If 

that happens, these speculators will reap substantial profits. But 

if Fannie and Freddie have no capital and have to be recapitalized 

before they can leave the conservatorship, the speculators will lose 

interest and there will be less pressure on Congress to restore their 

GSE franchises. 

Q.2. You critique proposals that include a Government back-stop to 

a mostly private system, as being a driver of lower quality mort-
129 

gages; mainly because it would reduce investor risk. How does this 

idea hold up in a post QM/QRM secondary market? Isn’t mortgage 

underwriting already more rigorous today than what existed prior 

to the finance meltdown? 

A.2. To some extent, yes. Negative amortization mortgages, no doclow doc mortgages and interest only mortgages are now prohibited. 

However, it is an illusion to believe that subprime and other lowquality mortgages have been prohibited by QM. In fact, they have 

been encouraged. The traditional prime mortgage had a substantial 

downpayment, a good borrower credit score at 660 or above, and 

a low debt-to-income ratio in the mid-to-high 30s at the back end. 

Mortgages like this had less than a 1 percent default rate. However, the QM requires neither a downpayment nor a good credit 

score, and the DTI is now as high as 43 percent. The only question 

under QM (apart from the price of the loan) is whether the buyer 

can afford the mortgage at the time of the commitment. That does 

not take account of any of the vicissitudes of life, such as job losses, 

illness, recessions, divorce, etc that occur after the closing. Moreover, the lender gets safe harbor protection for an even higher DTI 

if the mortgage is approved by the automated underwriting systems of the GSEs or FHA. This means that as long as the lender 

can get the approval of a Government AUS it can make a mortgage 

to a borrower who makes a 3 percent downpayment, and has a 580 

credit score and a 50 percent DTI at the back end. The FHA insures these mortgages today. Loans like this used to be called 

subprime loans, and have a 25 percent default ratio over the usual 

10 year cycle. In a competitive market, that’s where the lenders 

will go, and the Government will approve these mortgages through 

the GSEs and FHA, so the lenders can claim the safe harbor. We 

also know that the Government will institute polices to push for 

even weaker credit standards. We have just recently seen evidence 

of this as the FHA actively encourages lenders to originate loans 

that have a 15, 20, even, 25 percent chance of foreclosure-all of 

which will receive the benefit of the safe harbor. Over time, because of the poor quality of the mortgages that will result, we will 

have another meltdown like 2007 and 2008. A Government backstop, as I said in my testimony, will only make things worse, since 

it eliminates any reluctance on the part of investors to buy MBS 

based on these subprime and low-quality mortgages. The investors 

know that the Government will bail them out. 

Q.3. In a recent Wall Street Journal article, you offer that some of 

the origins of the subprime meltdown were the 1992 Community 

Reinvestment Act (CRA) and recent increases in the mortgage limits at the GSEs and FHA. While there is no doubt larger than normal volumes of nonperforming loans in these organization’s portfolios, doesn’t research show that CRA and higher value loans actually perform quite well? 

A.3. No. Actually, to be precise, CRA was only one of the factors 

that contributed to the mortgage meltdown and the financial crisis. 

The affordable housing goals placed on the GSEs were a larger and 

more important factor. Nevertheless, in my view, the analyses that 

have been done of CRA loans are wrong, and I believe were skewed 

to satisfy the supporters of CRA in Congress and elsewhere. First, 
130 

the analyses covered only high cost loans, but most banks that 

make CRA loans have to cross-subsidize them, so the loans are not 

high cost and were not considered in the Fed’s study. Second, the 

conclusion of the Fed’s study was that CRA loans didn’t perform 

any worse than subprime loans generally. That isn’t what anyone 

would call ‘‘quite well.’’ Third, if you want to know how CRA loans 

perform look at the CRA-eligible loans acquired by Fannie and 

Freddie. These two firms became insolvent and had to be bailed out 

by the taxpayers even though they made efforts to buy only the 

best of the subprime loans available to them, and actively sought 

to acquire CRA loans from banks. 

Q.4. Is it not accurate to say that Fannie and Freddie were not 

originating subprime loans, but were simply buying subprime 

backed, private label securities for the same reason other buyers 

were in the mid-2000s, because they were profitable in the shortterm, not because of Government mandates? As a prime mover in 

the past mortgage securities bubble, shouldn’t we be more suspect 

of purely private housing finance systems? Hasn’t the private market shown at least an equal inability to accurately price risk with 

the public sector, whether through negligence or even worse, a 

tendency to misstate risk for gain of profit? 

A.4. I do not defend what the private sector did in the years leading up to 2008, but I contend—and the data show—that the primary cause of the mortgage meltdown and the financial crisis was 

the Government’s housing policies. In fact, without these policies I 

do not believe there would have been a financial crisis. The private 

sector makes mistakes and always will, but when their mistakes 

are serious enough they go into bankruptcy and disappear; only the 

Government can create a problem so large that it causes a financial 

crisis. What the private sector was doing, apart from the Government’s activity, was simply too small to affect the larger economy. 

By 2008, half of all mortgages in the United States—28 million 

loans—were subprime or Alt-A. Of that 28 million, 74 percent were 

on the books of Government agencies like the GSEs and FHA. That 

shows where the demand for these loans came from, and they 

wouldn’t have been made without that demand. It should be obvious that you can’t just originate junk and sell it; there has to be 

a willing buyer, and in the overwhelming number of cases that 

buyer was the Government, particularly Fannie and Freddie. The 

private MBS based on subprime and Alt-A loans helped the GSEs 

meet the affordable housing goals. If these loans were so profitable, 

Fannie and Freddie would have bought as many as they could, but 

the data shows that as the AH goals rose their purchases of 

subprime loans also rose, never exceeding the applicable goal by 

very much. And in the end, of course, they became insolvent from 

buying these ‘‘profitable’’ loans. It is also an urban myth that the 

only subprime loans they bought were in private MBS. In reality, 

by 2008, the GSEs held or had guaranteed a total of $1.84 trillion 

in subprime and Alt-A loans. These were whole loans that they had 

purchased and either held in portfolio or securitized. At the same 

time, they held only $121 billion in subprime loans and $72.6 billion in Alt-A loans (a total of $193.6 billion) that were backing privately issued MBS. In other words, the subprime and Alt-A loans 
131 

in privately issued MBS were only a little more than 10 percent of 

the total exposure of Fannie and Freddie to these low quality loans. 

Q.5. What role would quality housing counseling play in a reformed housing finance system? Couldn’t it help with ensuring that 

mortgage consumers don’t face an ‘information disadvantage’ like 

they faced in the subprime crisis? 

A.5. It could help, but it’s marginal. People want to buy homes and 

if they are offered the opportunity and believe they can afford it, 

they will ignore counseling or rationalize it. 

Q.6. How do we consider reforming the housing finance system considering that the recent CFPB rules on Qualified Mortgages have 

exempted agency insured and securitized loans? For better or 

worse, doesn’t this imply that the GSEs in their current form 

would continue to exist for the next several years? 

A.6. Yes, but the law can be changed. Dodd-Frank, the CFPB and 

Qualified Mortgages are not immutable. If Congress were to require, for example, that the GSEs can only approve or acquire 

prime mortgages, much would change. 

Q.7. We already have a number of Federal regulatory agencies that 

oversee the housing and mortgage finance, as well as related State 

laws and agencies. In terms of overseeing a reformed housing finance platform—whether wholly private or with Government involvement—how should regulation be handled? 

A.7. The answer depends entirely on what form of housing finance 

system is adopted. If the BPC system is adopted, a lot of new regulation will be required, because all the issuers of the MBS backed 

by the Government will have to be regulated to make sure that 

they remain well-capitalized. This is necessary because the investors in the MBS will not care about the quality of the underlying 

mortgages, nor will the creditors of the issuers, who will assume 

that they will be bailed out by the Government if one or more of 

the issuers fails. The BPC itself proposes that the guarantor of the 

MBS would be the regulator. On the other hand, if the plan I outlined were to be adopted, the only regulation necessary would be 

a requirement that only prime loans be securitized. That could be 

done by FHFA. 

RESPONSE TO WRITTEN QUESTIONS OF SENATOR MENENDEZ 

FROM JANNEKE RATCLIFFE 

Q.1. Can you describe for us the role of ‘‘shadow banking units’’ in 

the mortgage finance space prior to 2008? What effect did they 

have on mortgage underwriting standards? 

A.1. This interesting question has been the subject of much literature on the crisis and financial sector. While purely private 

‘‘shadow banking units’’ had little to do with the Government-Sponsored Entities (GSEs), shadow banks did have a significant role in 

the crisis. 

Shadow banks were part of what the Financial Crisis Inquiry 

Commission Report calls ‘‘the runaway mortgage securitization 
132 

1http://fcic.law.stanford.edu/report (FCIC Report). 2FHFA, Data on the Risk Characteristics and Performance of Single Family Mortgages Originated from 2001 through 2008 and Financed in the Secondary Market. September 13, 2010. 

http://www.fhfa.gov/webfiles/16711/RiskChars9132010.pdf. 

train.’’1 The shadow banking system’s lack of transparency, huge 

leverage and debt loads, short-term loans, and risky assets were 

the rickety foundation that crumbled when housing prices fell and 

mortgage markets seized up. It is most likely true that if shadow 

banks had not provided the liquidity and capital to buy up mortgage securities and real estate backed assets, the market would not 

have been quite so frenzied, and mortgage-underwriting standards 

would not have fallen quite so dramatically. 

Meanwhile, as the chart below shows, the GSE’s lost share to the 

pure private sector during the bubble period. 

One illuminating aspect of the housing bubble and crisis was 

that the Government-Sponsored Enterprises (GSE) maintained 

somewhat higher mortgage underwriting standards than the rest of 

the market, and the mortgages they securitized and loans they held 

defaulted at a much lower rate than the private market. From 

2004 to 2006 in particular, well over 70 percent of GSE purchases 

were low risk loans, compared to well under half of private label 

securitized loans, while the PLS sector originated a greater share 

and volume of high-risk loans than the GSEs. While it is thus not 

surprising that the PLS market experienced default levels three to 

four times the those of the GSEs for those years’ books of business, 

what is instructive is that even within each risk category (of LTV, 

credit score and loan type) the GSE’s loans performed better than 

PLS loans within the same risk category.2

Moreover, loans originated through the shadow banking system 

were more likely to be adjustable rate, option-ARMS, broker originated, and to carry risky features such as no documentation and 

prepayment penalties. Analysis by UNC finds that these features 

are strongly associated with higher likelihood of default, compared 
133 

3Ding, Lei, Roberto Quercia, Wei Li and Janneke Ratcliffe. Risky Borrowers or Risky Mortgages. Disaggregating Effects Using Propensity Score Models. Journal of Real Estate Research 

2011, Vol. 33, No. 2, pp. 245–278 May, 2010. 4Quercia, Roberto, Allison Freeman and Janneke Ratcliffe. Regaining the Dream: How to Restore the Promise of Homeownership for America’s Working Families. The Brookings Institution. 

2011. 5Moulton, Stephanie and Roberto Quercia, 2013, forthcoming. Access and Sustainability for 

First Time Homebuyers: The Evolving Role of State Housing Finance Agencies. 

to similar borrowers who are given prime, well underwritten, fixedrate mortgages.3

The evidence suggests that unregulated shadow banks helped 

fuel the lowering of mortgage underwriting standards and the subsequent default crisis. 

Q.2. Are a 20 percent downpayment, established credit, and low 

debt-to-income the best indicators of loan performance? Can well 

documented, prime loans be written for households that cannot 

meet these traditional loan requirements, and still perform? 

A.2. The headline takeaway from this hearing should be that many 

good, safe loans have been (and can be) made with low 

downpayments and nontraditional ways to verify creditworthiness. 

There is some correlation between loan performance and established traditional credit and high downpayment. While these characteristics may seem appealing as indicators of loan performance, 

they should not be taken as the only way, and certainly not the 

best way, to measure the safety and soundness of loans. 

As a case in point, the UNC Center for Community Capital has 

tracked the performance of nearly 50,000 loans to low wealth, 

lower income borrowers, funded beginning in 1999, through a special program offered by a community development financial institution (Self-Help) and Fannie Mae. These loans were originated by 

banks around the country. The median borrower earned around 

$35,000 at origination, and more than half the borrowers put down 

less than 5 percent. Yet this portfolio has performed relatively well, 

especially considering the circumstances the borrowers have lived 

through over the last several years. The default rate on these loans 

has been below that for prime ARM loans, and well below that for 

subprime loans. These low downpayment borrowers have broadly 

managed to maintain home ownership and even build some equity, 

depending on their timing, even during a period of extreme volatility in real estate values and economic conditions.4

That is not the only case of low downpayment mortgages being 

done safely. For example, the Nation’s State housing finance agencies (HFAs) have served low downpayment, first-time home buyers 

for decades. The chart below compares the performance of HFA 

mortgage revenue bond loans (HFA MRB) to other types of loans, 

and shows that despite the high loan to values, the HFA loans 

have performed on a par with all loans and much better than 

subprime.5
134 

6Quercia, Roberto, Lei Ding, Carolina Reid. Balancing Risk and Access: Underwriting Standards for Qualified Residential Mortgages. January, 2012. http://www.ccc.unc.edu/abstracts/ 

QRMunderwriting.php. 

% Loans 90+ Days Delinquent as of June 30, 2012 

Source: Mortgage Bankers Association (MBA) National Delinquency Survey Q3, 

2012; compared to HFA self-reported loan performance data per 2012 author survey 

of State HFAs; N=30 HFAs with loan performance data. Moulton and Quercia 

(2013). 

As we consider what makes loans healthy and the housing market sustainable, we must recognize that there is a crucial tradeoff 

between risk and access. Mandating simplistic, one-dimensional 

underwriting rules ignores the balance between risk and access. 

The UNC Center for Community Capital estimated that requiring 

a 20 percent downpayment would exclude 60 percent of creditworthy borrowers from the housing market.6 Putting too much 

stock into the 20 percent downpayment, or onto a specific agency’s 

estimated credit score has the potential to seriously block the home 

ownership hopes of millions of families without accumulated wealth 

and easy access to credit and prevent them from getting a sustainable and low-risk mortgage. Instead, lenders should be encouraged 

to underwrite carefully and to offer safe products to mitigate the 

risks facing borrowers with smaller equity cushions. 

Q.3. Millions of Americans face foreclosure, many with fixed-rate 

loans, due to economic reasons beyond their control. That is, they 

did not take out exotic or unreasonable loans—but are feeling the 

market effects from those that did—due to high unemployment and 

foreclosure. Considering this point, is it possible that our housing 

finance market needs some flexible lending products like lease-purchases, risk shared loans, or shared equity loans that might preserve affordability and spread risk between the investor and borrower—without fully relying on Government backing? 

A.3. High unemployment brought about by the foreclosure crisis is 

certainly negatively impacting the lives of millions of Americans. 

Nevertheless, many homeowners successfully sustained home own-
135 

7http://www.americanprogress.org/wp-content/uploads/issues/2008/04/pdf/ 

sharedlequity.pdf. 8http://www.jchs.harvard.edu/sites/jchs.harvard.edu/files/hbtlllubell.pdf, at pp 10. 9http://www.americanprogress.org/wp-content/uploads/issues/2010/02/pdf/ 

sharedlequity.pdf. 10 http://www.americanprogress.org/issues/housing/report/2011/01/27/8929/a-responsiblemarket-for-housing-finance/ (MFWG Proposal). 

ership throughout this crisis, even those with low downpayments 

and nontraditional credit histories and that having a safe product 

has proven to provide some protection. 

Lending products like lease-purchases, risk shared loans, or 

shared equity loans are certainly one set of solutions that could 

allow some households to safely navigate home ownership, but they 

are not the products on which to build the entire U.S. housing market. These innovative products work best in niche markets that 

complement the standard loan market. There are a number of 

homeowners who are otherwise fully qualified for ownership (stable 

income, good credit, etc.) but lack family wealth for the downpayment. In the shared equity approach, a governmental or nonprofit 

finance source partners with that homeowner by providing some or 

all of the necessary downpayment, and shares in future appreciation of the home. The terms of the arrangement are intended to be 

a balance between a reasonable long-term share of appreciation to 

the homeowner, while keeping the house affordable to the next low/ 

moderate-income home buyer. This approach can also be used for 

underwater borrowers as part of a restructuring.7

During the foreclosure crisis, shared equity home ownership consistently showed very low foreclosure rates even though the borrowers were similar in income, wealth and other characteristics as 

many of the homeowners subject to predatory lending. Community 

land trusts in particular reduced foreclosure rates to under 1 percent.8

One study by the Center for American Progress estimated that 

if even a reasonable amount of annual Federal spending on home 

ownership were channeled into shared equity ownership over the 

course of 5 years, ‘‘a one-time investment of $5 billion could make 

home ownership possible for between 600,000 and 1.5 million families over a 30-year period, based on typical rates of turnover, and 

depending upon size of initial subsidy.’’9

This is just one example of the need for avenues for safe innovation through research and development, activities that can be fostered with a properly structured secondary market. The Mortgage 

Finance Working Group proposes creating a new Market Access 

Fund that provides funding and a platform to quickly and efficiently collect data on such innovative loan products, which will 

allow market participants to build best practices and a foundation 

of experience for offering these new products.10

It is also important to remember that the housing crash was 

much worse than it had to be, and one important reason it was so 

devastating is that mortgage servicing was not up to the task. 

Much has been learned about how to service distressed loans to 

minimize foreclosures and investor losses. Many who lost their 

homes were not given access to lower rate refinances, principal reductions, and other loss mitigation actions. In fact, even at this 
136 

11http://bipartisanpolicy.org/sites/default/files/BPClHousing%20Reportlwebl0.pdf (BPC 

Report). 12http://www.housingamerica.org/RIHA/RIHA/Publications/76378l10554lResearchl RIHAlCollinslReport.pdf. 13 Agarwal, Sumit, Gene Amromin, Itzhak Ben-David, Souphala Chomsisengphet, and Douglas 

D. Evanoff. 2009. Do Financial Counseling Mandates Improve Mortgage Choice and Performance? Evidence from a Legislative Experiment. SSRN eLibrary. 14Zorn, Avila, & Nguyen. The Benefits of Pre-Purchase Homeownership Counseling. 15http://www.nw.org/network/newsroom/documents/ExperianMayerlFullReport.pdf. 16http://huduser.org/portal/publications/hsglcounsel.pdf. 

time, more can and should be done to enable performing borrowers 

to get out of onerous loan terms. 

Q.4. What role would quality housing counseling play in a reformed housing finance system? Couldn’t it help with ensuring that 

mortgage consumers don’t face an ‘information disadvantage’ like 

they faced in the subprime crisis? 

A.4. Housing counseling could play an important role in a reformed 

housing finance system. In particular, the Bipartisan Policy Center’s Housing Commission identifies the HUD Housing Counseling 

Assistance Program as an exemplary public-private partnership, 

which shows how to use counseling as a credit enhancer to help underserved communities access credit and home ownership.11 The 

housing counseling system, as it exists today, is a great tool, or enhancement, for getting people into safe mortgages. 

Counseling can reduce the risk of default. Previous studies suggests that counseling is effective at reducing default and delinquency, though the magnitude and explanations were mixed.12 13

Two newer studies provide empirical evidence that prepurchase 

counseling can reduce default rates by around 30 percent. Brand 

new research from Freddie Mac shows large and significant effects 

of housing counseling on reducing delinquency. Zorn et al. (2013) 

(Freddie Mac) found that counseling reduces delinquency by 29 percent for first-time home buyers, and estimated the dollar benefit of 

counseling in reducing risk to be about $1,000.14 Similarly, Mayer 

et al. found that clients who used Neighborworks housing counseling were one third less likely to become 90+ days delinquent on 

their homes.15

Counseling and education is not a simple solution, however. 

While housing counseling is beneficial, it cannot substitute for good 

products, good servicing, and consumer protection. Counseling also 

faces significant resource limitations. Despite the demand for counseling increasing from 250,000 to nearly 2 million annual counseled 

households over the past 15 years, the counseling system, which is 

characterized by nonprofit, HUD-approved counselors, often lacks 

financial resources.16 The challenge for the future will be obtaining 

sufficient funding and scaling up infrastructure to meet growing 

demand for counseling. 

Q.5. How do we consider reforming the housing finance system considering that the recent CFPB rules on Qualified Mortgages have 

exempted agency insured and securitized loans? For better or 

worse, doesn’t this imply that the GSEs in their current form 

would continue to exist for the next several years? 

A.5. This is a very important question to consider when constructing a reformed housing finance system. CFPB’s Qualified 

Mortgage rule was written with the current system, notably the 
137 

17FCIC Report. 18Ding, Lei, Roberto Quercia, Carolina Ried and Alan White. August, 2010. The Impact of 

Federal Preemption of State Anti-Predatory Lending Laws on the Foreclosure Crisis. http:// 

www.ccc.unc.edu/documents/PreemptionlfinallAugust%2027.pdf. 19MFWG Propopsal. 20 BPC Report. 

GSE’s, in mind. We generally applaud the acceptance of loans underwritten through the AUS systems of the GSEs as Qualified 

Mortgages, provided those AUS systems are carefully monitored for 

quality and fairness and that the underwriting exceptions are coupled with proven, safe product features. Though it may need to be 

rewritten, the QM rule’s core could be extended into a post-GSE 

world as long as it accepts underwriting decisions made by a qualified Automated Underwriting System. The key is to ensure that 

there is strong independent validation and oversight of any such 

approved system, coupled with real risk exposure on the part of the 

sponsor of such systems. 

Q.6. We already have a number of Federal regulatory agencies that 

oversee the housing and mortgage finance, as well as related State 

laws and agencies. In terms of overseeing a reformed housing finance platform—whether wholly private or with Government involvement—how should regulation be handled? 

A.6. We have seen the results of markets with patchwork, conflicting regulation on multiple levels, and it failed. The Financial 

Crisis Inquiry Report details the way that Government permitted 

financial firms to choose which regulators oversaw them in what 

was described as ‘‘a race to the weakest supervisor.’’17 As irresponsible lending and fraud became pervasive, the Federal Reserve was 

slow to act, State regulators were often preempted by Federal 

agencies,18 and the Office of the Comptroller of the Currency and 

the Office of Thrift Supervision held turf wars over regulation. 

An important principle of housing finance reform should be unifying regulatory oversight over the whole market. The Mortgage Finance Working Group (MFWG) and BPC’s Housing Commission 

have similar conceptualizations for how to handle regulation.19 20

Both see three important levels with slightly different names: 

mortgage and securities issuers, Chartered Mortgage Institutions/ 

private credit enhancers, and a Catastrophic Risk Insurance Fund/ 

Public Guarantor. In both cases, the Government entity responsible 

for insuring catastrophic risk would also set standards for product 

structure, underwriting and servicing, in line with national servicing standards. The BPC’s Government entity would also provide 

a charter or qualification for issuers, servicers, and credit 

enhancers. The private credit enhancers would provide regular and 

detailed reports to the Government entity, which would also administer quarterly stress tests to ensure they have a sufficient 

amount of capital to withstand shocks to housing prices. Both scenarios also propose funding the Government entity through guarantee fees on insured securities, which could serve as the funding 

mechanism for the overarching market regulator.