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FANNIE MAE AND FREDDIE MAC: 

HOW GOVERNMENT HOUSING POLICY 

FAILED HOMEOWNERS AND TAXPAYERS 

AND LED TO THE FINANCIAL CRISIS 

HEARING 

BEFORE THE

SUBCOMMITTEE ON CAPITAL MARKETS AND 

GOVERNMENT SPONSORED ENTERPRISES 

OF THE

COMMITTEE ON FINANCIAL SERVICES 

U.S. HOUSE OF REPRESENTATIVES 

ONE HUNDRED THIRTEENTH CONGRESS 

FIRST SESSION 

MARCH 6, 2013 

Printed for the use of the Committee on Financial Services 

Serial No. 113–5 

( 

(II) 

HOUSE COMMITTEE ON FINANCIAL SERVICES 

JEB HENSARLING, Texas, Chairman 

GARY G. MILLER, California, Vice Chairman 

SPENCER BACHUS, Alabama, Chairman 

Emeritus 

PETER T. KING, New York 

EDWARD R. ROYCE, California 

FRANK D. LUCAS, Oklahoma 

SHELLEY MOORE CAPITO, West Virginia 

SCOTT GARRETT, New Jersey 

RANDY NEUGEBAUER, Texas 

PATRICK T. MCHENRY, North Carolina 

JOHN CAMPBELL, California 

MICHELE BACHMANN, Minnesota 

KEVIN McCARTHY, California 

STEVAN PEARCE, New Mexico 

BILL POSEY, Florida 

MICHAEL G. FITZPATRICK, Pennsylvania 

LYNN A. WESTMORELAND, Georgia 

BLAINE LUETKEMEYER, Missouri 

BILL HUIZENGA, Michigan 

SEAN P. DUFFY, Wisconsin 

ROBERT HURT, Virginia 

MICHAEL G. GRIMM, New York 

STEVE STIVERS, Ohio 

STEPHEN LEE FINCHER, Tennessee 

MARLIN A. STUTZMAN, Indiana 

MICK MULVANEY, South Carolina 

RANDY HULTGREN, Illinois 

DENNIS A. ROSS, Florida 

ROBERT PITTENGER, North Carolina 

ANN WAGNER, Missouri 

ANDY BARR, Kentucky 

TOM COTTON, Arkansas 

MAXINE WATERS, California, Ranking 

Member 

CAROLYN B. MALONEY, New York 

NYDIA M. VELA ́ ZQUEZ, New York 

MELVIN L. WATT, North Carolina 

BRAD SHERMAN, California 

GREGORY W. MEEKS, New York 

MICHAEL E. CAPUANO, Massachusetts 

RUBE ́ N HINOJOSA, Texas 

WM. LACY CLAY, Missouri 

CAROLYN MCCARTHY, New York 

STEPHEN F. LYNCH, Massachusetts 

DAVID SCOTT, Georgia 

AL GREEN, Texas 

EMANUEL CLEAVER, Missouri 

GWEN MOORE, Wisconsin 

KEITH ELLISON, Minnesota 

ED PERLMUTTER, Colorado 

JAMES A. HIMES, Connecticut 

GARY C. PETERS, Michigan 

JOHN C. CARNEY, JR., Delaware 

TERRI A. SEWELL, Alabama 

BILL FOSTER, Illinois 

DANIEL T. KILDEE, Michigan 

PATRICK MURPHY, Florida 

JOHN K. DELANEY, Maryland 

KYRSTEN SINEMA, Arizona 

JOYCE BEATTY, Ohio 

DENNY HECK, Washington 

SHANNON MCGAHN, Staff Director 

JAMES H. CLINGER, Chief Counsel 

(III) 

SUBCOMMITTEE ON CAPITAL MARKETS AND GOVERNMENT SPONSORED ENTERPRISES

SCOTT GARRETT, New Jersey, Chairman 

ROBERT HURT, Virginia, Vice Chairman 

SPENCER BACHUS, Alabama 

PETER T. KING, New York 

EDWARD R. ROYCE, California 

FRANK D. LUCAS, Oklahoma 

RANDY NEUGEBAUER, Texas 

MICHELE BACHMANN, Minnesota 

KEVIN McCARTHY, California 

LYNN A. WESTMORELAND, Georgia 

BILL HUIZENGA, Michigan 

MICHAEL G. GRIMM, New York 

STEVE STIVERS, Ohio 

STEPHEN LEE FINCHER, Tennessee 

MICK MULVANEY, South Carolina 

RANDY HULTGREN, Illinois 

DENNIS A. ROSS, Florida 

ANN WAGNER, Missouri 

CAROLYN B. MALONEY, New York, 

Ranking Member 

BRAD SHERMAN, California 

RUBE ́ N HINOJOSA, Texas 

STEPHEN F. LYNCH, Massachusetts 

GWEN MOORE, Wisconsin 

ED PERLMUTTER, Colorado 

DAVID SCOTT, Georgia 

JAMES A. HIMES, Connecticut 

GARY C. PETERS, Michigan 

KEITH ELLISON, Minnesota 

MELVIN L. WATT, North Carolina 

BILL FOSTER, Illinois 

JOHN C. CARNEY, JR., Delaware 

TERRI A. SEWELL, Alabama 

DANIEL T. KILDEE, Michigan 

(V) 

C O N T E N T S 

Page 

Hearing held on: 

March 6, 2013 ................................................................................................... 1 

Appendix: 

March 6, 2013 ................................................................................................... 47 

WITNESSES 

WEDNESDAY, MARCH 6, 2013 

Ligon, John L., Policy Analyst, Center for Data Analysis, the Heritage Foundation .................................................................................................................... 9 

Rosner, Joshua, Managing Director, Graham Fisher & Co. ................................ 10 

Wachter, Susan M., Richard B. Worley Professor of Financial Management, 

Professor of Real Estate and Finance, and Co-Director, Institute for Urban 

Research, The Wharton School, University of Pennsylvania ........................... 12 

White, Lawrence J., Professor of Economics, Stern School of Business, New 

York University .................................................................................................... 14 

APPENDIX 

Prepared statements: 

Ligon, John L. ................................................................................................... 48 

Rosner, Joshua .................................................................................................. 62 

Wachter, Susan M. ........................................................................................... 72 

White, Lawrence J. ........................................................................................... 79 

ADDITIONAL MATERIAL SUBMITTED FOR THE RECORD

Bachus, Hon. Spencer: 

Inserts from the Charlotte Observer .............................................................. 99 

Letter to Hon. Barney Frank, dated September 28, 2006 ............................. 102 

Letter to GAO Comptroller General David M. Walker from Hon. Spencer 

Bachus and Hon. Barney Frank, dated April 25, 2007 ............................. 103 

GAO testimony before the U.S. Senate, dated December 4, 2008 ................ 104 

Garrett, Hon. Scott: 

J.P. Morgan insert dated May 3, 2011 ........................................................... 128 

Garrett, Hon. Scott, and Peters, Hon. Gary: 

Letter to Hon. Scott Garrett and Hon. Carolyn Maloney from NAFCU, 

dated March 5, 2013 ..................................................................................... 133 

Maloney, Hon. Carolyn: 

Fannie Mae update dated February 26, 2013 ................................................ 136 

Perlmutter, Hon. Ed: 

Financial Times article dated September 9, 2008 ......................................... 144 

Peters, Hon. Gary: 

Bipartisan Policy Center report entitled, ‘‘Housing America’s Future: New 

Directions for National Policy,’’ dated February 2013 ............................... 145 

(1) 

FANNIE MAE AND FREDDIE MAC: 

HOW GOVERNMENT HOUSING POLICY 

FAILED HOMEOWNERS AND TAXPAYERS 

AND LED TO THE FINANCIAL CRISIS 

Wednesday, March 6, 2013 

U.S. HOUSE OF REPRESENTATIVES, 

SUBCOMMITTEE ON CAPITAL MARKETS AND

GOVERNMENT SPONSORED ENTERPRISES, 

COMMITTEE ON FINANCIAL SERVICES, 

Washington, D.C. 

The subcommittee met, pursuant to notice, at 10:05 a.m., in room 

2128, Rayburn House Office Building, Hon. Scott Garrett [chairman of the subcommittee] presiding. 

Members present: Representatives Garrett, Hurt, Bachus, Royce, 

Neugebauer, Bachmann, Westmoreland, Huizenga, Grimm, Stivers, 

Mulvaney, Hultgren, Ross, Wagner; Maloney, Sherman, Moore, 

Perlmutter, Scott, Himes, Peters, Ellison, Watt, Foster, Carney, Sewell, and Kildee. 

Ex officio present: Representative Waters. 

Also present: Representative Miller. 

Chairman GARRETT. Good morning, everyone. Today’s hearing of 

the Capital Markets and Government Sponsored Enterprises Subcommittee is now called to order. Today’s hearing is entitled, 

‘‘Fannie Mae and Freddie Mac: How Government Housing Policy 

Failed Homeowners and Taxpayers and Led to the Financial Crisis.’’ 

Before we begin, without objection, I move that the Chair can put 

the committee into a recess at any time. Without objection, it is so 

ordered. Also note that we are starting today, pretty close to on 

time, which is 10 a.m., and I appreciate everyone being here despite the weather. We may have—I was told that the votes may 

have been moved up. So we will try to move things along expeditiously. 

Again, I thank the panel. We will begin with opening statements, 

and then go to the panel. So at this point, I yield myself 41⁄2 minutes for an opening statement. 

So, today’s hearing does what? It seeks to examine in greater detail the role that Fannie Mae and Freddie Mac played in facilitating the 2008 financial crisis. Over the last 4 years, there has 

been a great deal of discussion as to what the main causes of the 

financial crisis were. However, I believe there is one similar fundamental trait that connects every analysis and that is bad mortVerDate Nov 24 2008 15:18 Jun 14, 2013 Jkt 080871 PO 00000 Frm 00007 Fmt 6633 Sfmt 6633 K:\DOCS\80871.TXT TERRI
2 

gages. No matter what part of the financial crisis is discussed, it 

always comes back to bad mortgages. 

Our friends on the other side of the aisle sometimes love to discuss a wide variety of other reasons that they believe led to this 

crisis, however, for each instance, the underlying message is bad 

mortgages. Some of their favorite things to highlight are: opaque 

and complicated derivatives; an overreliance on incompetent credit 

rating agencies; off-balance sheet and synthetic securitizations; 

procyclical accounting standards; and greedy Wall Street banks. 

However, all those things are symptoms and not the actual disease. The disease was bad mortgages. The derivatives were written 

on bad mortgages. The rating agencies were rating bad mortgages. 

Securitization, the collateral of bad mortgages. The accounting 

standard market, the market had bad mortgages. Failing Wall 

Street banks were holding bad mortgages. 

All of these symptoms led to the same disease: bad mortgages. 

So we have to ask ourselves, how did this disease infect the country? The evidence indicates the disease began back in the 1990s 

with the adoption of the Affordable Housing Goals for the Government-Sponsored Enterprises (GSEs) and the Clinton Administration’s push to rapidly expand homeownership opportunities. And 

they did so by systematically reducing underwriting standards. 

In May of 2001, Michael Zimbalist, a global head of investment 

strategy for J.P. Morgan’s Asset Management business, who had 

originally believed that the private sector had underwritten a majority of the bad mortgages, wrote this to his clients, ‘‘In January 

of 2009, I wrote that the housing crisis was mostly a consequence 

of the private sector. Why? Because U.S. agencies appeared to be 

responsible for only 20 percent of the subprime, Alt-A and other 

mortgages. However, over the last 2 years, analysts have dissected 

the housing crisis in greater detail. 

‘‘And what emerges from new research is something quite different. Government agencies now look to have guaranteed, originated, and underwritten 60 percent of all non-traditional mortgages for a total of $4.6 trillion. What’s more, the research asserts 

that the housing policies instituted in the early 1990s were explicitly designed to require U.S. agencies to make riskier loans with 

the ultimate goal of pushing private sector banks to adopt the same 

standards. To be sure, private sector banks and investors were responsible for taking the bait. And they made terrible mistakes. But 

overall, what emerges in an object lesson in well-meaning public 

policy gone spectacularly wrong.’’ 

So if my colleagues on the other side had taken the time and 

done the same due diligence that Mr. Zimbalist and others did to 

actually diagnose the appropriate causes of the financial crisis, 

they may have seen the same thing. But instead, they rushed forward with a 3,000-page Dodd-Frank Act which basically included 

a liberal’s wish list of policy changes that have been pent up over 

the last 12 years, that had absolutely nothing to do with the crisis. 

They are not the issues that are strangling the economy, nor negatively impacting job creation. Unfortunately most of Dodd-Frank 

only dealt with the symptoms and not the actual disease, bad mortgages. 

3 

Many of the interest groups that directly benefit from large subsidization of the housing market continue to state that Fannie and 

Freddie fell victim to the bad private market participants. This is 

completely false. It was government housing policy coupled with 

loose money from the Federal Reserve, that caused the housing 

bubble. And those are the areas where we must focus on first. 

One of my esteemed panelists, Mr. Rosner, points out so precisely and with many specific examples in his book, ‘‘Reckless 

Endangerment,’’ ‘‘Fannie and Freddie systematically reduced underwriting standards to meet government regulatory requirements 

and to curry favor with the political class. Fannie and Freddie are 

the essence of crony capitalism. And if we recreate them in some 

form or fashion as so many in the industry and across the aisle 

want to do, we are doomed to repeat the same terrible outcomes 

that our Nation has experienced over the last 4 years.’’ 

An analysis that I read before said finally, ‘‘As regulators and 

politicians consider actions designed to stabilize the financial system and the housing mortgage market, reflection on the role that 

policy played in the collapse would seem like a critical part of the 

process.’’ 

I only hope so. And that is what we are about to do today. With 

that, I yield back. And I yield to the gentlelady from New York for 

4 minutes. 

Mrs. MALONEY. Thank you. I thank you for calling this hearing 

and I thank all the panelists for getting here. I mentioned that Dr. 

White is from the great City and State of New York. We are so 

pleased that you are here. And all of you, getting here in the middle of a snowstorm, I applaud you. 

We are here on really one of the most important issues the subcommittee will be working on over the next 2 years. Many economists believe that 25 percent of our overall economy is housing and 

related industries. So getting this segment figured out and stable 

and moving forward is critical to the economic growth and security 

of our country. 

I personally do not want to play the blame game. The title of this 

hearing is very confrontational. I hope we can work together in 

ways to find solutions and go forward. But since it was raised, I 

do want to point out the findings from the Financial Crisis Inquiry 

Report—this was an independent report, the final report of the National Commission on the Causes of the Financial and Economic 

Crisis in the United States. They interviewed 700 people, had 19 

days of public hearings, and went through reams of materials from 

the private and public sector. 

And on page 323, in their conclusions they state, ‘‘GSE mortgage 

securities essentially maintained their value throughout the crisis 

and did not contribute to the significant financial firm losses that 

were central to the financial crisis.’’ 

Fannie and Freddie themselves have come out with a report that 

I would like to place in the record on delinquent rates, comparing 

their work with the private sector. And in this report, the private 

sector had roughly 35 percent delinquency, whereas Fannie and 

Freddie were roughly at 3 to 5 percent. So anyway, I just wanted 

to put that into the record. 

Chairman GARRETT. Without objection, it is so ordered. 

4 

Mrs. MALONEY. Okay, but now we are 4 years after the financial 

crisis and the GSEs are still in conservatorship. The hemorrhaging 

has stopped. The GSEs have even been profitable over the last few 

quarters. But we all agree that the current situation is not sustainable. There are a number of proposals that have come forward. One 

from FHFA came out to combine Fannie and Freddie, certain functions, and to standardize their securitization platform. There are 

others from the Bipartisan Policy Center. 

I for one, look forward to reviewing them with my colleagues, 

and I truly do believe if Mr. Garrett and I can agree on anything, 

then we can get it passed in the entire Congress and we can move 

forward. Homeownership has played a critical role in the American 

Dream in our country. Nowhere in the world are mortgage products 

like the 30-year fixed-rate mortgage available without some form 

of government involvement. And I believe we need to be mindful 

of that as we look forward at the various plans. 

We had roughly 70 years of a stable housing finance system with 

credit available to new home buyers, lower-income borrowers, and 

all types of borrowers in between. And I, for one, do not want to 

see the 30-year fixed-rate mortgage disappear. So while I agree 

that the current status is not sustainable, I do believe that at the 

very least, the GSE should return to what they did at their inception, be a source of liquidity to the markets to ensure that issuers 

have the cash to continue to lend in a prudent way to credit-worthy 

borrowers. 

So I look forward to moving forward toward solutions. And I hope 

that we set a better tone for a path forward than the title of this 

hearing represents. I yield back, and again I welcome all of my colleagues and the witnesses. 

Chairman GARRETT. And I thank the gentlelady. We turn now to 

the vice chairman of the subcommittee for 11⁄2 minutes. 

Mr. HURT. Thank you, Mr. Chairman. Mr. Chairman, thank you 

for holding today’s subcommittee hearing on how Fannie Mae, 

Freddie Mac, and Federal housing policy failed taxpayers and 

helped to lead to the financial crisis of 2008. One thing that I hear 

as I travel across my rural Virginia district, the 5th District, is 

that Congress must end Washington bailouts. I believe it is our responsibility to end the bailouts of Fannie Mae and Freddie Mac 

and enact reforms that will protect the American taxpayer and 

strengthen our housing finance system. 

With almost $190 billion in taxpayer funds provided to Fannie 

Mae and Freddie Mac to date, this has become, by far, the costliest 

bailout of the financial crisis. As this committee begins its work on 

housing finance reform, it is important that we understand what 

caused these historic losses. Before the housing market collapse 

precipitated a wider crisis, Federal housing mandates required 

Fannie Mae and Freddie Mac to buy riskier and riskier loans. 

These aggressive actions by the GSEs, aided by their implicit 

government backing, fed the housing bubble and facilitated the explosion of the market share of subprime and Alt-A mortgages. As 

Fannie Mae and Freddie Mac purchased and securitized more of 

these loans, loan originators took this as an incentive to write more 

subprime and Alt-A loans, regardless of their quality. 

5 

As we all know, when the housing bubble burst, the American 

taxpayers were left to foot the bill. And yet Dodd-Frank which was 

sold to the American people as a reform of our financial system, 

failed to address any of the problems with Fannie Mae and Freddie 

Mac. Now is the time for Congress to act on this issue. And I appreciate Chairman Hensarling and Chairman Garrett’s leadership 

in putting this committee on a path to fundamentally reforming 

our Nation’s housing finance system and protecting the American 

homeowner and the American taxpayer. 

I would like to thank our witnesses for appearing before the subcommittee today. And I look forward to their testimony. 

Thank you, Mr. Chairman. I yield back. 

Chairman GARRETT. And I thank you. I now recognize the ranking member of the full Financial Services Committee, the 

gentlelady from California, Ms. Waters, for 2 minutes. 

Ms. WATERS. Thank you very much, Mr. Chairman, for holding 

this hearing today. It is very important. Nearly 5 years have 

passed since this committee worked with the Republican Administration to stop the losses at Fannie Mae and Freddie Mac by 

strengthening their regulator and putting them into conservatorship to prevent the collapse of the housing market. 

At that time, this committee and others raised important questions about what happened in the financial markets to necessitate 

such extraordinary actions. Since then, a consensus emerged that 

the 2008 crisis was the result of a complex mix of factors including: 

credit rating agencies being paid to give AAA ratings to toxic assets; securitization and reselling of those assets to uninformed investors; and predatory loans including the no-income, no-job, noasset loans or NINJA loans. It is overly simplistic and untrue to 

suggest that Fannie Mae and Freddie Mac caused the financial crisis or were even the leading cause of the crisis. 

Every credible analysis, including the Financial Crisis Inquiry 

Commission report, and a book by former FDIC Chairman Sheila 

Bair, say otherwise. With that in mind, it is important to note that 

the world is dramatically different today compared with 2008. 

Freddie Mac reported a profit of $11 billion for 2012, and the total 

amount given to the GSEs net of repayments continues to decline. 

The tourniquet to stop the bleeding worked, providing legislators 

with time to consider how to reform the housing market. 

There are several comprehensive bipartisan reform proposals 

that were introduced last Congress, none of which have yet had a 

hearing before this committee. To each of our witnesses, I hope 

that you will help guide our discussion about how to actually reform the markets. For example, I would like to discuss what reforms are needed to preserve stable market products like 30-year 

fixed-rate loans, and how we can provide liquidity at times of market distress. And how we can ensure that all banks, including community banks and credit unions, can participate in the secondary 

mortgage market. 

I thank you, and I yield back the balance of my time. 

Chairman GARRETT. The gentlelady yields back. Mr. Royce for 1 

minute. 

Mr. ROYCE. Thank you Mr. Chairman. I remember very vividly 

the Federal Reserve Chairman speaking with me, the warnings 

6 

that we were given on the inability of the Fed to regulate Fannie 

and Freddie for systemic risk. I remember the questions from those 

at the Fed on, why won’t Congress allow us to regulate Fannie and 

Freddie for systemic risk? 

It was pretty clear at the time, with the housing goals that we were putting in place with the requirement that of the $1.7 trillion 

that existed in those portfolios, the percentage of that which was 

subprime, this was the objective of Congress. Zero downpayment 

loans. We were driving a policy and the one request from the regulator was that they be able to regulate the GSEs. 

I had legislation before the House, and the Senate had legislation 

on the Floor. And that legislation on the Senate side was filibustered by Mr. Dodd and here we failed to pass it on the House side 

as well. That would have allowed the regulation for systemic risk. 

To deleverage those portfolios that were leveraged at 100 to 1. 

Now, an implicit government backstop created a level of moral hazard unseen anywhere else in our capital markets and it astounds 

me that people would try to pretend that in not listening to the 

regulators, that this had nothing to do with the problem in the 

housing market. I yield back, Mr. Chairman. 

Chairman GARRETT. I thank the gentleman. Mr. Peters is recognized now for 2 minutes. 

Mr. PETERS. Thank you, Mr. Chairman, and good morning. And 

I would like to thank our witnesses for being here today. I would 

also like to thank Chairman Garrett and Ranking Member 

Maloney for convening our first Capital Markets and Government 

Sponsored Enterprises Subcommittee. And I would like to additionally thank them for starting off by examining the role of GSEs in 

our economy. 

In addition to looking back at the collapse of the housing market 

in 2007, which is a topic I think it is very safe to say that we have 

already spent a great deal of time looking at, I hope that today, we 

also look forward. Our housing market continues to recover with 

improving home prices including across much of the greater Detroit 

area that I represent. Rental demand is increasing in many regions 

across the United States. But the number of renters spending more 

than they can afford is high and it is growing. 

The government continues to support the vast majority of mortgage financing, both for homeownership and rental housing. Our 

economy cannot afford to have an outdated housing system. We 

must look for ways to ensure our system can keep pace with today’s demands and the challenges of the imminent future. 

For this reason we must look forward. And I hope that we can 

spend a portion of our time here today examining not just the role 

the GSEs played last decade, but what role our government should 

play in the housing markets of the future. Clearly, we need to put 

an end to taxpayer-funded bailouts. But we must also ensure that 

responsible hardworking families can still achieve the dream of 

homeownership. 

Our status quo is unsustainable but completely eliminating any 

government role in the mortgage market would likely undermine 

the housing recovery and risk eliminating the 30-year fixed-rate 

mortgage. Despite the housing collapse, responsible homeownership 

can produce powerful economic, civic, and social benefits that serve 

7 

not just individual homeowners, but their communities and our Nation as a whole. 

I believe our committee has a real window of opportunity this 

Congress to meaningfully engage in GSE reform on a bipartisan 

basis. And I look forward to working with my colleagues on both 

sides of the aisle on this critical issue. I yield back. 

Chairman GARRETT. The gentleman yields back. Thank you. The 

gentleman from Texas for 1 minute. 

Mr. NEUGEBAUER. Thank you, Mr. Chairman, for holding this important hearing today. I think it is important to understand the 

consequences of all of this policy. We have talked about the huge 

losses that were accreted by these entities and the fact that the 

taxpayers had to inject massive amounts of their money into that. 

But there is another victim in all of this and that is the homeowners who did the right thing. The people who took out mortgages, who bought homes, who could afford those and are making 

their payments on it. What we realized is when we have monetary 

policy or fiscal policy that creates these bubbles, when the bubbles 

bust, it not only hurts the people who were a part of the bubble, 

but also hurts some of the people on the sidelines. 

And so, I think one of the things that I am hopeful that we can 

begin to work on is the fact that we make sure that history does 

not repeat itself. We have to understand that homeownership in 

America is about the opportunity to own a home, but it is not an 

entitlement. And in some ways, the government has turned homeownership into entitlement. We need to make sure it is an opportunity. So, I will look forward to our discussion today. 

Chairman GARRETT. Thank you. The gentleman yields back. Mr. 

Scott for 2 minutes. 

Mr. SCOTT. Thank you very much, Mr. Chairman. I think that 

this is indeed an important hearing. But here is what we must remember and this is for both Democrats and Republicans: As Fannie 

and Freddie prepare to wind down and have private lenders take 

on more responsibility in providing credit to the U.S. housing market, Congress, both Democrats and Republicans, must commit to 

ensure that Americans who require extra assistance in obtaining a 

sound mortgage are able to do so. 

We have to make sure that there is a willingness on the part of 

the private market to fill the gap that will be left by the absence 

of Fannie and Freddie. To do less than that is meaningless. We can 

sit here and debate the merits or demerits of Fannie and Freddie, 

but the problem remains. We must remember that the GSEs were 

formed to increase liquidity in the market, to provide long-term 

fixed-rate mortgages. This type of option for potential homeowners 

is valuable, and is often necessary in obtaining a mortgage that is 

sustainable, that is sound, and is less likely to fall into foreclosure. 

I have heard a lot of criticism about Fannie and Freddie. But 

they, in fact, were created to fill a very important purpose. And 

without Fannie and Freddie, millions of those who own homes now 

would have not been able to do so. Because the private market, the 

private sector, must be willing. That is a fundamental issue we 

have to make sure happens. 

Thank you, Mr. Chairman. If I have a moment? I guess I don’t. 

8 

Chairman GARRETT. Thank you. The gentleman yields back. Mrs. 

Bachmann is recognized for 1 minute. 

Mrs. BACHMANN. Thank you, Mr. Chairman. I thank you for this 

hearing that finally admits the truth, that it was government housing policy that failed homeowners. And as Mr. Neugebauer said, it 

is truly the taxpayers and the homeowners who lost in this issue. 

And who lowered these lending standards? We know now it was 

government policies. Why was it that we agreed to zero down mortgages? Government policies. Who agreed to the so-called ‘‘liar 

loans?’’ It was government policies. And who pushed Fannie and 

Freddie to buy more and more of these inferior performing loans? 

It was government policies. 

And why was no one in the lending chain ever willing to say no, 

in a game that was destined for failure? We know now it was because a lot of people made a lot of money selling inferior products. 

And why? Because of the implied promise that if anything went 

wrong, don’t worry, the taxpayers would bail it out and the taxpayers would pay. 

This is a game that can never happen again. We have to raise 

lending standards to what they were historically and we will once 

again have a strong housing market. I yield back. 

Chairman GARRETT. Thank you. And for the last word on the 

matter, Mrs. Wagner is recognized for 1 minute. 

Mrs. WAGNER. Thank you, Mr. Chairman, and I thank our witnesses. At the signing ceremony for the Dodd-Frank Act in July of 

2010, President Obama proclaimed, ‘‘Unless your business model 

depends on cutting corners, or bilking your customers, you have 

nothing to fear from reform.’’ 

Unfortunately, the bill the President signed that day did nothing 

to reform the two entities that cut the most corners, bilked taxpayers out of billions of dollars, and were more responsible than 

anybody or any institution for the financial crisis of 2008. I am of 

course referring to Fannie Mae and Freddie Mac, the government 

mortgage giants that for years worked to drive down underwriting 

standards and increase borrower leverage in the housing market. 

All under the guise, I believe, of promoting homeownership. These 

policies created an enormous housing bubble which inevitably 

crashed and in the process, hurt the very families, real families 

who were supposed to be helped, and instead stuck the taxpayers 

with the bailout bill. 

As our committee works to bring real and lasting reform to the 

housing market, I hope that today’s hearing serves as a vivid reminder of where misguided government policies have gotten us in 

the past. 

I thank you, Mr. Chairman, for this hearing. I thank our witnesses for being here today and I yield back my time. 

Chairman GARRETT. The gentlelady yields back. We now turn to 

our esteemed panel. We again thank the panel for being with us 

on this snowy day. We also remind those who have not been here 

before that you will all be recognized for 5 minutes, and your complete written statements will be made a part of the record. The 

lights will come on green, yellow, and red; there is 1 minute remaining at the yellow light. 

9 

And I will also remind you to please make sure that you bring 

your microphone as close to you as you can when you begin. 

We will begin with Mr. Ligon from The Heritage Foundation, and 

you are recognized now for 5 minutes. 

STATEMENT OF JOHN L. LIGON, POLICY ANALYST, CENTER 

FOR DATA ANALYSIS, THE HERITAGE FOUNDATION 

Mr. LIGON. Good morning. My name is John Ligon, and I am a 

policy analyst in the Center for Data Analysis at The Heritage 

Foundation. The views I express in this testimony are my own and 

should not be construed as representing any official position of The 

Heritage Foundation. 

I thank Chairman Scott Garrett, Ranking Member Carolyn 

Maloney, and the rest of the subcommittee for the opportunity to 

testify today. The focus of my testimony is that the Federal housing 

policies related to the Government-Sponsored Enterprises, Fannie 

Mae and Freddie Mac, have proven costly, not only to the Federal 

taxpayer but also to the broader financial system. We should recognize their failure and move toward a mortgage market without the 

distortions of GSEs. 

Allow me to offer several observations. First, Fannie Mae and 

Freddie Mac are the ultimate guarantors of the U.S. mortgage market. Fannie and Freddie own or guarantee approximately half of all 

outstanding residential mortgages in the United States, including 

a share of subprime mortgages. Additionally, they finance about 60 

percent of all new mortgages. 

These GSEs fall within Federal conservatorship. Their combined 

agency debt, mortgage, and mortgage-related holdings are directly 

guaranteed by the Federal Government. Their level of debt is massive and has exploded over the last 40 years. In 1970, agency debt 

as a share of U.S. Treasury debt was 15 percent. And as of 2010, 

this share was 81 percent, a combined $7.5 trillion. 

This brings me to my second observation. Fannie Mae and 

Freddie Mac have actually undermined the stability of the U.S. financial system. Beginning in the 1990s, Fannie and Freddie began 

relaxing credit standards for the mortgages they purchased. In 

1995, the Department of Housing and Urban Development, HUD, 

established a target goal relating to the homeownership rate 

among low-income groups which was eventually set at 70 percent. 

Then, in 1999, HUD directed Fannie Mae and Freddie Mac to 

further relax their requirement standards for purchased mortgage 

loans, including a move toward sub and non-prime loan approval. 

Starting in 2000, there was yet a further easing of mortgage 

lending standards which stretched more broadly across the private 

mortgage system. 

The erosion of lending standards spread throughout the U.S. 

mortgage market from 2000 to 2006, and severely weakened the 

quality of holdings in the GSE’s portfolios since a sizable share of 

their mortgage back-holdings were securitized for non-prime loans. 

The total level of non-prime loans in the U.S. mortgage market 

peaked at 48 percent of the overall market in 2006. Looked at from 

the perspective of homeowners, between 2002 and 2008, there was 

a $1.5 trillion increase in household debt attributable to existing 

homeowners borrowing against the increased value of their homes. 

10 

By 2009, aggregate household debt increased $9.4 trillion over 

the prior decade while home equity as a share of aggregate household wealth decreased from 62 percent to 35 percent from 2005. 

As a result, 39 percent of new defaults on home mortgages occurred in households that had aggressively borrowed against the 

rising value of their homes. 

This brings me to my third and final observation. Ending the 

present role of Fannie Mae and Freddie Mac would lead to a more 

stable housing market. After more than 3 decades of experience 

with boom-and-bust cycles, which have affected not only household 

income and wealth, but also financial markets, Federal policymakers should seriously reconsider the Federal Government’s role 

in shaping housing policy through Government-Sponsored Enterprises. 

These institutions distort the U.S. housing and mortgage markets at substantial risk to taxpayers and households. 

Eliminating the present role Fannie Mae and Freddie Mac play 

would save taxpayers billions of dollars by eliminating the tax, regulatory, and debt subsidy that has held mortgage rates lower and 

induced U.S. households to take on more debt-related consumption; 

many of these households end up underwater. 

In conclusion, Congress should consider beginning the process of 

winding down the GSEs and housing finance market and establish 

a market free from the distortions of this institutional arrangement. 

Thank you for your time. I welcome your subsequent questions. 

[The prepared statement of Mr. Ligon can be found on page 48 

of the appendix.] 

Chairman GARRETT. And I thank you. 

Next, Mr. Rosner, author of ‘‘Reckless Endangerment.’’ We appreciate you being on the panel. You are recognized for 5 minutes. 

STATEMENT OF JOSHUA ROSNER, MANAGING DIRECTOR, 

GRAHAM FISHER & CO. 

Mr. ROSNER. Thank you, Chairman Garrett, Ranking Member 

Maloney, and members of the subcommittee for inviting me to testify on this important subject. 

In July 2001, I authored a paper entitled, ‘‘Housing in the New 

Millennium: A Home Without Equity is Just a Rental with Debt.’’ 

The executive summary of that paper noted, ‘‘There are elements 

in place for the housing sector to continue to experience growth 

well above GDP.’’ But I noted, ‘‘It appears that a large portion of 

the housing sector’s growth in the 1990s came from the easing of 

the credit underwriting process. That easing included drastic reduction in minimum downpayments, focused effort to target the 

low-income borrower, changes in the appraisal process that have 

led to widespread over-appraisal, over valuation problems.’’ 

I concluded, ‘‘If these trends remain in place, it is likely that the 

home purchase boom of the past decade will continue unabated,’’ 

but warned, ‘‘The virtuous cycle of increasing homeownership due 

to greater leverage has the potential to become a vicious cycle of 

lower home prices due to an accelerating rate of foreclosures.’’ 

In the mid-1990s, the GSEs were repurposed to direct social policy through the mortgage markets. The combination of using the 

11 

GSEs as tools of social policy and falling interest rates built the 

foundation of the housing bubble. 

In early 1993, the Clinton Administration realized the GSEs 

could be used to drive capital investment for housing and community development and, as Susan Wachter noted in 2003, ‘‘The goal 

of Federal chartering of Fannie Mae and Freddie Mac is to achieve 

public policy objectives, including the promotion of nationwide 

homeownership through the purchase and securitization of mortgages.’’ 

She went on to note that, ‘‘Through lower mortgage and downpayment rates that would not prevail but for the presence of the 

GSEs, they expanded homeownership.’’ 

In 1994, the Administration set out to raise the homeownership 

rate from 65 to 70 percent by the year 2000 and recognized this 

can be done almost entirely off-budget through among others, 

Fannie Mae and Freddie Mac. 

In 1994, the Administration created the national homeownership 

strategy with the goal of using the GSEs to provide low and no 

downpayment loans to low-income purchasers even those ‘‘the private mortgage market had deemed to be uncreditworthy.’’ 

Treasury Secretary Rubin recognized many of the risks associated with increasing lending to the most at-risk borrowers. Still, 

the Clinton Administration plans continued. 

Reversing major trends, homeownership began to rise in 1995. In 

1989, only 7 percent of home mortgages were made with debt less 

than 10 percent down. By 1999, that number reached 50 percent. 

While the GSEs were certainly a key driver of these results, 

other government actions, including fraud and falling interest rates 

also fueled the expansion. 

By increasing investor confidence in low and no downpayment 

mortgages, the GSEs seasoned the market, but they were surely 

not the only culprits. 

In 2001, after much lobbying, the Basel Committee determined 

that private label securities should carry the same risk ratings as 

correspondingly rated GSE products. This action opened the floodgates to reckless, private label securitization of the most toxic 

mortgage products. 

Banks and investment banks, which had sought to reduce their 

exposures to consumer lending, used their branch network and 

third-party lenders to originate loans to distribute through 

securitization. 

By 2002, the private label securitization market was now at ease 

with changes made in 2000 by the GSEs which had expanded their 

purchase to include Alt-A and subprime mortgages as well as private label mortgage securities. 

Private issuers aggressively targeted borrowers with lower 

downpayments, lower FICO scores, lower documentation, and higher debt-to-income and higher loan-to-value. PLS activity exploded. 

Securitization rates skyrocketed. As the PLS market took off, investment banks and third-party originator partners created more 

and more risky products with the support of credit rating agencies, 

their absurd analysis and the CDO market. 

For the first few years, the GSEs avoided direct competition with 

these lenders, but became the largest purchasers of private label 

12 

securities. By 2007, interest-only, subprime, Alt-A, and negative 

amortization loans were 20 percent of the GSEs book of business. 

By early 2006, it was clear that decreased funding for RMBS 

could set off a downward spiral in credit availability that could deprive individuals of homeownership and substantially hurt the U.S. 

economy. 

Now, on the GSEs, there is nothing specifically wrong with the 

entities whose purpose it is to support liquidity in the secondary 

mortgage market. In fact, there is a substantial need for such a 

function. 

The problem is the use of quasi-private institutions as tools of social policy to drive housing subsidies to markets through an off-balance sheet subsidy arbitraged by private market participants. 

The GSEs were no longer merely supporting liquidity in the secondary market, as they had been created to do, their purchase of 

almost 25 percent of private label securities fostered distortive excess market liquidity. 

Still, there is much to be lauded in the GSEs as they existed 

prior to the 1990s. Some of those features are still in place and provide value. 

While there are proposals to replace the GSEs with alternatives, 

those seem to transfer many of the subsidies the GSEs receive to 

other private institutions. To merely replace GSEs will result in 

significant loss of value of their proprietary assets. 

Understandably, the GSEs have become a politically charged 

subject, but it is important to remember they had previously been 

valuable tools of financial intermediation. Repairing their failures, 

seeking repayment of $140 billion owed to U.S. taxpayers, reducing 

risk to the taxpayer, eliminating implied guarantees, preventing 

their use as tools of social policy, eliminating investment portfolios 

and ensuring they provide backstop liquidity rather than excess liquidity is an achievable goal and would place them in their proper 

role as countercyclical buffers in support of private mortgage markets. 

Thank you. 

[The prepared statement of Mr. Rosner can be found on page 62 

of the appendix.] 

Chairman GARRETT. And I thank you for your testimony. Next, 

Dr. Wachter from the Institute for Urban Research, among other 

titles. You are recognized for 5 minutes. 

STATEMENT OF SUSAN M. WACHTER, RICHARD B. WORLEY 

PROFESSOR OF FINANCIAL MANAGEMENT, PROFESSOR OF 

REAL ESTATE AND FINANCE, AND CO-DIRECTOR, INSTITUTE 

FOR URBAN RESEARCH, THE WHARTON SCHOOL, UNIVERSITY OF PENNSYLVANIA 

Ms. WACHTER. Thank you, Chairman Garrett, Ranking Member 

Maloney, and other distinguished members of the subcommittee. I 

am honored by the invitation to testify at today’s hearing. 

Government has, in policy, failed homeowners and taxpayers and 

it is important to understand why. The GSEs contributed to the 

meltdown. The direct cause of the crisis was the proliferation of 

poorly underwritten and risky mortgage products. 

13 

The most risky products were funded through private label 

securitization. We know now, but we did not know in real-time to 

what extent the shift towards unsound lending was occurring. 

Non-traditional and aggressive mortgages such as teaser rate 

ARMs and interest-only mortgages proliferated in the years 2003 

to 2006 changing from their role as niche products to become nearly 50 percent of the origination market at the height of the bubble. 

In addition, the extent to which consolidated loan-to-value ratios 

increased through second liens was not then, nor is it known today. 

Non-agency, private label securitizers issued over 30 percent more 

mortgage-backed securities than the GSEs during these years. 

As private label securitization expanded, leverage to these entities increased through financial derivatives and synthetics, such as 

CDO, CDO-squared, and CDS. 

The amount of the increasing leverage introduced by the 

issuance of CDO, CDO-squared, and CDS was not known. The deterioration in the quality of the underlying mortgages was not 

known. The rise in prices enabled by the credit expansion masked 

the increase in credit risk. 

If borrowers were having trouble with payments, which they 

were, homes could be sold and mortgages could be refinanced as 

long as prices were rising. 

But after 2006, when prices peaked and started to decline, mortgage delinquencies, defaults, and foreclosures started their inevitable upward course. 

In the panic of mid-2007, private label security-issuing entities 

imploded. The issuance of new private label securities went from 

$1 trillion to effectively zero. 

The U.S. economy faced the real threat of a second Great Depression. The housing price decline of 30 percent, only now being reversed, was due to this dynamic: an unknown, unsourced, unidentified, unrecognized increase in leverage and deterioration in the 

quality of leverage. 

As I stated, the GSEs contributed to the crisis. The GSEs were 

part of the irresponsible expansion of credit, but other entities 

securitized the riskiest products. 

There is, in fact, a simple way to measure the failure of the 

GSEs relative to other entities. All we have to do is examine default rates. The GSE’s delinquency rates were and are far below 

those of non-GSE securitized loans. 

The distribution of mortgage failure is apparent in the performance of mortgages underlying securitization, as shown in Exhibit C, 

which I request be entered in the official record along with the 

other exhibits in my testimony. 

Failure of the GSE-securitized loans was one-fifth or less of the 

failure of other entities’ securitizations. 

However, in a broad sense, the GSEs or their overseer had a 

larger responsibility, which they did fail to fulfill. The failure to 

identify credit and systemic risk in the markets in which they operated was at the heart of the financial crisis. No entity was looking 

out for the U.S. taxpayer. 

We know from this crisis and from previous crises that markets 

do not self-correct in the absence of arbitrage, in the absence of seVerDate Nov 24 2008 15:18 Jun 14, 2013 Jkt 080871 PO 00000 Frm 00019 Fmt 6633 Sfmt 6633 K:\DOCS\80871.TXT TERRI
14 

curity sales, pricing and trading of risk. For this, we must have 

market standardization and transparency. 

This role is an essential requirement for effective markets and it 

requires a coordination platform for its realization. This need not 

be performed by the GSEs or their regulator, although such a role 

had been theirs in the stable decades before the crisis. 

The role is a necessary one. We can rebuild a resilient housing 

finance system. We can provide an opportunity for sustainable 

homeownership for future Americans. 

But, in order to do so, we must understand and correct the failures of the past. I thank you for the opportunity to testify today 

and I welcome your questions. 

[The prepared statement of Dr. Wachter can be found on page 72 

of the appendix.] 

Chairman GARRETT. Thank you. Thank you for your testimony. 

Dr. White, from our neck of the woods at NYU, you are welcomed 

to the panel and you are recognized now for 5 minutes. 

STATEMENT OF LAWRENCE J. WHITE, PROFESSOR OF ECONOMICS, STERN SCHOOL OF BUSINESS, NEW YORK UNIVERSITY 

Mr. WHITE. Thank you, Chairman Garrett, Ranking Member 

Maloney, and members of the subcommittee. I appreciate the opportunity to testify today. I am pleased to be here on this important topic. My name is Lawrence J. White. I am a professor of economics at the NYU Stern School of Business. 

As my statement makes clear, during 1986 to 1989, I was one of 

the Board Members of the Federal Home Loan Bank Board and, in 

that capacity I also served on the board of Freddie Mac. 

When I left government service in August of 1989, I also left the 

board of Freddie Mac. Now, in the interest of full disclosure, I 

think I owe it to you to provide two more pieces of information. 

In 1997, Freddie Mac asked me to write an article on the importance of capital for financial institutions. I wish they had listened 

more closely. 

It was published in the journal that they published at the time, 

‘‘Secondary Mortgage Markets.’’ That article is available on my 

Web site, easily accessed. I am very proud of it. I said all the right 

things. I was paid $5,000 for that article. 

In 2004, Fannie Mae asked me to come into their Wisconsin 

headquarters and talk to their advisory committee on the importance of capital. Again, I wish they had listened more closely. 

I was paid $2,000 for that talk plus my transportation expenses. 

I flew coach class both ways between New York City and Washington, D.C. I took street-hail taxi cabs to and from the airports. 

Full disclosure, ladies and gentleman. 

All right, I want to talk a little bit about the financial crisis. As 

Professor Wachter just indicated, in this process of housing prices 

going up sharply, for reasons that I don’t fully understand, there 

was this boom. We now know it to have been a bubble. It started 

around 1997. 

And, as Professor Wachter just said, in that context, mortgages— 

if you believe that housing prices are always going to go up, mortgages are not going to be a problem because even if a borrower 

15 

loses his or her job, gets hit by a truck, or has a serious illness, 

he or she can always sell the house at a profit and satisfy the mortgage in that way. 

Consequently, mortgage securities built on those mortgages are 

never going to be a problem. And, consequently, the traditional 

lending standards, the 20 percent downpayment, the good credit 

history, the adequate income, the adequate documentation; all of 

that goes out the window as well because mortgages are never 

going to be a problem. 

At the time, as Professor Wachter just said, we didn’t really understand these things, but looking back, you can understand why 

this happens. 

Now, why people got into this mindset that housing prices would 

always go up, I don’t really understand. That is not what we teach 

at the Stern School of Business. I am sure that is not what Professor Wachter and her colleagues teach at Wharton, but it was so. 

Flip your house, all the books, all the television programs, they 

were real. Where were Fannie and Freddie in all this? They were 

special enterprises as you know. Unfortunately, among their 

specialness, they had inadequate capital. 

They went into those lower quality mortgages somewhere in the 

mid-1990s, and may have been responsible for a little bit of the 

starting of the boom. 

The boom went on primarily, as Professor Wachter just pointed 

out, because of the private sector expansion of the lower quality 

mortgages for the reasons I just described and their securitization. 

Then, Fannie and Freddie do go more deeply into lower quality 

mortgages around 2003, 2004. There are just some striking diagrams, figures at the end of my testimony that show how from 

2004 onward, those mortgages through 2008 are just different from 

what preceded them. 

Unfortunately, all good things must come to an end. Bubbles will 

eventually burst. And, in 2006, prices started to go down. Those 

mortgages can’t survive even a stable environment rather than— 

as well as a declining environment. 

Foreclosures increase, the mortgage sector experiences losses, 

Fannie and Freddie, being inadequately capitalized, not enough 

capital, experience losses; Freddie for the first time in 2007, Fannie 

for the first time since 1985. 

The losses are so severe in 2008 that they are put into conservatorship. The Treasury covers all their liabilities. At the time, 

I wasn’t so sure. Looking back, I think this was a smart thing. It 

prevented the crisis from getting worse at the time. 

But Lehman goes into bankruptcy 1 week later and, then, the 

thin capital levels across the financial sector really bite. There are 

two important lessons from all of this. 

First, beware of implicit guarantees, which is what protected 

Fannie and Freddie. Beware of underpriced guarantees. Indeed, beware of guarantees more generally. 

And, second, the importance of good, rigorous, vigorous, prudential regulation of systemic, large financial institutions with high 

capital requirements at their heart, terrifically important. 

Thank you for the opportunity. I would be happy to respond to 

questions. 

16 

[The prepared statement of Dr. White can be found on page 79 

of the appendix.] 

Chairman GARRETT. Thank you for your testimony. Thank you 

for your clarification on your travel arrangements and what have 

you. I appreciate that as well for all the transparency. Would that 

always be the case. Thank you. 

I now recognize myself for 5 minutes for questions. And just to 

start off with, I know Dr. Wachter made the comment that no entity was looking out for the U.S. taxpayer. 

I will just give a little response to that by saying that, at least 

as the gentleman from California mentioned before, some people 

within this entity were attempting to look out for the U.S. taxpayers by putting some capital requirements and other requirements onto the GSEs, but we were stymied, as he indicated, across 

the aisle and in the Senate. 

But I will start with Mr. Rosner. Can you go into a little bit more 

detail as to the effect of the lower underwriting standards, and 

maybe you can just play off of what Dr. Wachter said, that GSEs 

were part of the problem, but the default rate outside of the GSEs 

was higher? 

What I heard there, and you can tell me if I am right or wrong, 

is that with lower underwriting standards, maybe you get the effect 

of, what, cherry-picking going on? Am I right or wrong? I will just 

throw it to you. 

Mr. ROSNER. First of all, I think cherry-picking was a real issue 

for a very long time. The GSEs would cherry-pick both the private 

market and FHA for a long time. And that was one of the market 

complaints about the Enterprises for a long time. 

I would also point out that definitionally where the market 

was—the private market was completely unfettered, the GSEs did, 

in fact, still have some statutory limitations upon them which constrained them somewhat. 

That said, I think we have to also consider, as I said, the large 

impact that their purchases of private label securities had on the 

rest of the private label market because they were the bid in the 

market when you are buying 25 percent and you are adding comfort to the market. 

In terms of the 2004 or the dating of the actual bubble, it is interesting to note that what we think of as the bubble is really 2004 

onward. And, in reality, home prices peaked in the fourth quarter 

of 2004, the first quarter of 2005. 

All of the activity that we saw— 

Ms. WACHTER. That is not true. 

Mr. WHITE. Case-Shiller— 

Mr. ROSNER. The Case-Shiller— 

Mr. WHITE. 2006. 

Mr. ROSNER. If you look at the—I will show you the numbers. 

Mr. WHITE. Okay. 

Mr. ROSNER. Anyway, 40 percent of all— 

Mr. WHITE. —two people can differ. 

Mr. ROSNER. Forty percent of all home sales between 2004 and 

2007 were essentially second homes and investment properties and 

the bulk of the rest of the remaining were refinancings. 

17 

So the push for homeownership—the goals of increasing homeownership really didn’t have anything to do with the bubble— 

Ms. WACHTER. Oh I see. I am sorry. You meant to say homeownership rates— 

Mr. ROSNER. I am sorry. Right. I apologize. Homeownership 

rates—I am sorry. 

Chairman GARRETT. Looks like we have three academics here. 

Mr. WHITE. These two people can agree. 

Mr. ROSNER. Peaked in the further quarter of 2004— 

Ms. WACHTER. Right. 

Mr. ROSNER. And so, all of the bubble period was really refinancing, second home, and investment property speculation. The 

GSE’s purchase during those periods of large portions of privatelabel securities fostered that speculation and access liquidity unnecessarily. 

And rampantly, I would also take a little bit of a disagreement 

with the notion that nobody was trying to ensure the safety and 

soundness. I remember very well—I was very involved in spending 

time in Washington at the time—a very weakened and hobbled regulator that was constantly neutered by Congress, constantly 

neutered by the Administration, constantly neutered by HUD performance goals, when it did try and take actions for safety and 

soundness. 

Chairman GARRETT. Great. Thank you for that last point as well. 

Let me just move down the aisle there then. Mr. Ligon, so we have 

the subsidy for the GSEs. And the question is, who benefits, and 

who is hurt by it? We heard part of the explanation with regard 

to failure, the underwriting standards. But who actually—does the 

homeowner benefit directly, significantly from the subsidy, or are 

the other players; the investors, the executives over there, the 

homebuilders, the home sellers, that sort of thing? Who benefits 

and who is hurt by this? 

Mr. LIGON. The subsidy to Fannie Mae and Freddie Mac, in particular, cost the taxpayer, in normal-market circumstances, anywhere between roughly $7 billion to $20 billion annually. Not all 

of that is going to be transferred down to the borrower. There is 

a portion that is retained by the shareholder. Some of it is retained 

down to the—or passed down to the borrower. 

In terms of interest rate terms, probably anywhere between 7 

basis points and 25 basis points of a subsidy to home borrowers. 

Chairman GARRETT. Okay. So a small percentage, only of 25 

basis point goes to the homebuyer—homebuyer. So the rest— 

Mr. LIGON. —given the tradeoff— 

Chairman GARRETT. At the same time, isn’t what we are seeing 

here that the price of houses is going up? So I guess that benefits 

who, if the price of houses go up, the homebuyer or somebody else? 

Mr. LIGON. If home prices are going up, that benefits the home 

buyers. 

Chairman GARRETT. The buyers are paying a higher amount. 

Mr. LIGON. Homebuyers, yes. 

Chairman GARRETT. So wouldn’t it be the home seller, and the 

builder, and the REALTOR®, and all those who benefit? So those 

parts of the complex are benefiting. But the homebuyer actually is 

18 

put at a disadvantage, is he not, because his price is higher, and 

he is only getting a marginal benefit. Would that be fair to say? 

Mr. LIGON. Yes, I would agree with that. 

Chairman GARRETT. Thank you. And with that, I now yield to 

the gentlelady from New York for 5 minutes. 

Mrs. MALONEY. Professor Wachter, could you elaborate on what 

would happen in the private market? Would the private market be 

able to, or would they assume the volume of business done by 

Fannie and Freddie? And what would the impact be on the 30-year 

mortgage loan, the cost of it? Would it be affordable? Could you 

elaborate on that? 

Ms. WACHTER. Yes. Thank you for those questions. There are two 

questions. First of all, what would happen to the 30-year, fixed-rate 

mortgage in the absence of an entity that took on the role of 

Fannie and Freddie? And the answer is that there very likely 

would not be an option of a 30-year, fixed-rate mortgage. 

Throughout the world, the adjustable-rate mortgage is in fact 

what prevails. There are only a few other economies with sustainable—of course, we did not have a sustainable mortgage system. 

But there are only a few other economies with a sustainable, fixedrate mortgage as part of the mortgage system. And that includes 

Germany. 

It is possible to have a 30-year, fixed-rate mortgage in a sustainable system. But in order to do so, there needs to be an entity that 

is overseeing and identifying risk. And other countries can give us 

some insight into this. 

But a banking system alone, there is no banking system with a 

fixed-rate mortgage. Banking systems support the adjustable-rate 

mortgage, and for good reason. We had a crisis in this country, the 

savings-and-loan crisis, which occurred because commercial banks 

and S&Ls were putting into their portfolio 30-year, fixed-rate mortgages. That was not sustainable. It will not be sustainable going 

forward. Therefore, in order to protect American homeowners and 

taxpayers going forward, we need to replace Fannie and Freddie 

with other entities that will support the 30-year, fixed-rate mortgage. 

Why is this? I think we can all agree the interest rates have nowhere to go but up. If interest rates go from where they are today, 

perhaps double, go from 3 percent to 6 percent, that is equivalent 

to doubling mortgage payments. We would then put mortgage borrowers in a payment shock, which could bring down the entire 

economy, if we were only in our mortgage book of nooses, if we 

were relying on adjustable-rate mortgages. Fortunately, we are not, 

we have not, and hopefully, we will not, going forward. 

Mrs. MALONEY. Could you comment on whether or not you believe the private market can or would absorb the volume? You 

mentioned that they wouldn’t for the 30-year mortgage. Would a 

15-year or a 5-year be replaced? 

Ms. WACHTER. I think that yes, it could very well be a 5-year. 

It could also be a 1-year, adjustable-rate mortgage. Of course, in 

any of those cases, it would be very subject to interest rate risk. 

There is no possibility—I think industry experts will confirm 

this—for the trillions of dollars that are supported today by the 

19 

Fannie-Freddie entities to be taken over, at this point, by individual banking institutions. 

There is no likelihood at this point of entities stepping up to do 

this. That doesn’t mean that we can rely on Fannie and Freddie 

going forward. It means that we must have a path to an alternative going forward. 

Mrs. MALONEY. Could you discuss the differences between the 

single-family portfolio and the multi-family portfolio? Do the singlefamily and multi-family books of business need to be treated in the 

same way or a different way? How would they be treated in reform, 

going forward? 

Ms. WACHTER. Thank you. I apologize. We should note that the 

multi-family portfolio is doing quite well in both Fannie and 

Freddie. We should also note that the bipartisan commission has 

come out in support of the multi-family functions continuing with 

government support. This is their position. 

There is a lack of clarity going forward as to whether multi-family and single-family should be supported by the same entity or a 

different entity, that is, whether they should be separate or not. 

There are arguments pro and con on that. But certainly, the need 

for information, for standards, and for monitoring is important on 

both the multi-family and the single-family. 

And also, the issues of affordability are extremely important, not 

only on the single-family, but also on the multi-family, as rents 

continue to increase across America. 

Mrs. MALONEY. Dr. White, can you name any country in the 

world that has a mortgage product like the 30-year, fixed-rate 

mortgage, that does not have some form of government support? 

Mr. WHITE. International comparisons are not my strongest suit. 

Mrs. MALONEY. So then, you agree with the professor? 

Mr. WHITE. —on this. However, thank you for asking. First, despite the absence of securitization over the past few years, generally, the jumbo market, which isn’t supported by any guarantee, 

has been able to support a 30-year fixed-rate mortgage. 

Second, and Professor Wachter is certainly right, that too much 

30-year paper in depository institutions is just a recipe for disaster. 

I can show you the scars from my almost 3 years on the Federal 

Home Loan Bank Board about that. 

But there are large financial institutions. They are called ‘‘insurance companies,’’ they are called ‘‘life insurance companies,’’ they 

are called ‘‘pension funds,’’ that have long-lived obligations that 

ought to be interested in matching those obligations with long-lived 

assets, 30-year fixed-rate mortgages. 

And doing more things like helping deal with prepayment risk, 

and having reasonable prepayment fees in structure can help expand the market for 30-year, fixed-rate paper. 

Chairman GARRETT. Great. Thank you very much for that answer. I will now turn to our vice chairman of the subcommittee, 

Mr. Hurt, who is recognized for 5 minutes. 

Mr. HURT. Thank you, Mr. Chairman. Thank you again for holding this hearing. Obviously, it strikes me that as we try to figure 

out what the future of housing finance is, we need to understand 

the past. And the testimony here is very helpful. 

20 

It also strikes me that what I have heard, and what I have 

learned in studying this, is that clearly, relaxed underwriting policies contributed to the crisis. The implicit government guarantee, 

that contributed. 

These are policies that come out of Washington and create, it 

strikes me, the moral hazard that leads to taxpayers being hurt, 

having to bail out these entities to the tune of $190 billion. And 

it also obviously hurts the homeowner and the marketplace generally. 

And I guess my question is, as we look to the future—and I think 

that there are many on this panel, if not most, who would like to 

see the private sector come back into the secondary mortgage market. I guess as we look back over the history of this crisis—well, 

the history of housing finance over the last 10, 15 years, I guess 

my question would be directed to Mr. Ligon and Mr. Rosner. 

What is the effect of the implied guarantee, and the relaxed underwriting standards? What effect has that had on the private marketplace? What is the effect of that? 

And if the GSEs had behaved differently in entering the 

subprime mortgage market, would that have prevented—is there a 

theory that says that we could have avoided and prevented the crisis in 2008? I will start with Mr. Ligon. 

Mr. LIGON. Most of those questions I will defer to Mr. Rosner. 

What I would say is to the extent that the guarantees had an effect 

on interest rates, there is research showing that there is little correlation between interest rates and prices. 

So removing that subsidy shouldn’t have a huge effect going forward on the housing market and the economy. On the other questions, I will defer to Mr. Rosner. 

Mr. ROSNER. Yes. Look, I don’t think that the crisis itself would 

necessarily have been avoided were it not for the GSEs. I think 

that they certainly accelerated, exacerbated the issues. 

There were a lot of borrowers, though, who might not have qualified for a GSE loan in the first place, but were able to re-fi ahead 

of the crisis into one with appreciation, et cetera. And I think that 

does need to be considered, because that ends up also becoming the 

chance for further refinancing into riskier products down the road, 

which occurred. 

I think that we are overcomplicating something which is quite 

simple. If there are borrower classes that we feel need to have a 

subsidy behind them, that is an acceptable—I think a rightful purpose of government. Do it on balance sheet. 

That shouldn’t be expected to be delivered through the markets, 

because definitionally, it ends up distorting an arbitrage. And by 

the way, the subsidies end up arbed away, not to the benefit of the 

borrower. 

So I think that is one of the things we should consider. I think 

it was—look, there was a conflict. There was a perfect storm. There 

was the falling interest rates, was a reality of this, and a major 

backdrop of this. And it accelerated behaviors that otherwise might 

not have occurred, along with the implied government guarantee, 

and the push to expand homeownership beyond reasonable levels. 

And I think that is also very important. 

21 

The leverage that was in the system—and Professor Wachter is 

right—the leverage in the securities—which I wrote about extensively in 2006, warning we were going to have a CDO and MBS 

market meltdown that was going to bring the housing market with 

it—were part of it. 

But also, the leverage of increasing homeownership rates in borrower classes that probably couldn’t be sustained is something 

that, frankly, if you will see in the footnotes, Secretary Rubin 

warned about in, I think it was 1998, if the Administration pushed 

forward. 

Mr. HURT. Got it. Thank you. I yield back the balance of my 

time. 

Chairman GARRETT. The gentleman yields back. The gentleman 

from California is recognized. 

Mr. SHERMAN. I have a few preliminary comments. First, almost 

no one in this country saw, in 2007, where we would be in 2008. 

The few who did sold Countrywide stocks short, and they are billionaires. 

Now, a few others had an inkling, had a fear, had some anxiety, 

maybe made a comment. But if you didn’t bet your house on Countrywide going bankrupt, you weren’t sure that this thing—I see Mr. 

Rosner believes otherwise. 

I am applying this to only 99 percent. There may have been a 

few people who knew that we were headed for disaster, but didn’t 

bet on it. I think there are one or two people who actually bet on 

this happening. And they are billionaires today. 

Looking back on it, it is pretty obvious. I saw one of the most 

interesting charts, which shows median home price compared to 

median family income. And if you had looked at that chart on the 

first day of 2007, you would have sold your Countrywide stock 

short. But nobody—I didn’t look at that then. I looked at it afterwards. 

Everybody who bought mortgages in 2007 lost money, even if 

they were buying the primest of the prime, because even if you 

have the best underwriting standards in the world, some people get 

divorced, some people get ill, some people lose their job. 

And in the real-estate market of 2006, that meant they sold their 

house at a big profit. The divorce lawyers fought over the profit, 

and the bank got paid. That same thing happens in 2010, and it 

is a short sale at best. 

Next, we needed better prudential regulation of the GSEs. Mr. 

Royce pointed out that he had a bill. 

I should point out that Richard Baker had a bill. We passed it 

through this committee. We passed it through this House. Chairman Oxley describes what happened to that bill. He says that it 

‘‘got the digital salute from the White House.’’ He has failed to inform us which digit. 

And I am not saying that bill would have solved everything. 

Even those of us who voted for the bill didn’t realize just how big 

a cliff we were headed off. But this House and this committee knew 

that we needed better prudential regulation. 

I will disagree with our chairman on one criticism of DoddFrank, and that is, I don’t think it was a rushed process. It certainly didn’t seem rushed while I was in this room. 

22 

We haven’t commented on the credit rating agencies. They are 

the ones that gave Triple-A to Alt-A. They got paid by the bond 

issuers. They gave the bonds that were being issued a very high 

rating. Dodd-Frank gives the SEC the tools and the mandate to do 

something about this. And the SEC, of course, hasn’t. 

There is a lot of comparison here of the GSEs to the private market. What is the ratio of the default rate of the private label versus 

the GSEs? I believe it was Dr. White, but it might have been Dr. 

Wachter, who said it was 5 to 1? 

Ms. WACHTER. I have that in Exhibit 6. And I have the foreclosure rates for Fannie and Freddie, which were never higher 

than 2 percent. They are closer to 1—these are foreclosure rates— 

1 percent per quarter. Whereas, they were— 

Mr. SHERMAN. One percent per quarter? 

Ms. WACHTER. Per quarter. Whereas, they were 5 percent to 7 

percent per quarter for private-label securities. 

Mr. SHERMAN. Now, when you say ‘‘private label,’’ that includes 

both the private subprime and the private prime? 

Ms. WACHTER. Correct. 

Mr. SHERMAN. Wow. So you have the private label doing a very 

bad job of underwriting. You have the private sector credit union— 

credit rating agencies—doing an extremely bad job of evaluating 

the risk. You have private investors and banks doing a terrible job 

of evaluating the risk, and buying these CDOs. And some of our 

biggest banks needed bailouts as a result. 

And we are here to see why the GSEs didn’t get it right. The 

whole world didn’t get it right. I believe this is a question that has 

somewhat been answered. But not only do we have 30-year mortgages here in this country, but they are freely pre-payable. 

If we didn’t have those elements, 30-year, fixed—has my time expired? 

Chairman GARRETT. Indeed, it has. 

Mr. SHERMAN. Indeed, it has. I will submit additional questions 

for the record. Thank you. 

Chairman GARRETT. We turn now to—and this may be the last 

question, depending on when votes are, before we come back from 

votes. The gentleman from Alabama is recognized for 5 minutes. 

Mr. BACHUS. Thank you, Mr. Chairman. I would like unanimous 

consent to introduce a report that Chairman Frank and I called for 

in April of 2007, when we warned of the increasing foreclosures 

and the subprime lending. One thing we actually specifically asked 

for an investigation of, is what role has been played in the rise in 

subprime lending and risk-based loan practicing by alternative or 

exotic mortgages, including interest-only, high-loan-to-value, no 

documentation— 

Chairman GARRETT. Without objection, it is so ordered. 

Mr. BACHUS. Thank you. I yield my time to the gentlelady from 

Missouri, Mrs. Wagner. 

Mrs. WAGNER. Thank you very much. I thank the gentleman 

from Alabama, for yielding his time. 

Mr. Rosner, one of the things we have heard from Fannie and 

Freddie defenders since the crisis is that the GSEs were basically 

innocent bystanders, as underwriting standards deteriorated over 

23 

the last couple of decades. And that in the mid-2000s, they were 

only trying to ‘‘catch up’’ with what the private sector was doing. 

I know in your book, which we have spoken about, ‘‘Reckless 

Endangerment,’’ you seem to refute that argument, saying in the 

prologue, ‘‘Fannie Mae led the way in relaxing loan underwriting 

standards, a shift that was quickly followed by private lenders.’’ 

Then in chapter 4, you describe Fannie Mae’s 1994 trillion-dollar 

commitment to be ‘‘spent on affordable housing goals.’’ 

This was 14 years before the financial crisis and way before anyone had ever heard of NINJA, or Alt-A, or no-doc loans. I am just 

wondering, what came first here, the chicken or the egg? Were 

Fannie and Freddie the ones that led the charge to decrease underwriting standards, or were they innocent bystanders as things went 

haywire? 

Mr. ROSNER. As you point out, they did lead the charge. And 

frankly, it is not just the easing of underwriting standards. I think 

it is very important to remember that it is easing of underwriting 

standards and reductions of downpayments. 

And that is critically important, because the foreclosure rates 

would be significantly lower nationally if people had equity in their 

homes as home prices were falling. And the GSEs again, led the 

way to lower downpayments. 

In fact, the subprime industry—I was on the sell side in the 

space for the 1990s. And there was a subprime industry. It disappeared in 1998 and 1999 because of the Russian debt crisis. 

But at that point, subprime was defined by the borrower, not by 

the product. And for the most part, the borrower was self-employed, or had a ding in their credit history. But they were required to bring more equity to the table in terms of a downpayment 

to get the mortgage. So it really was the GSEs in the market. It 

really was the GSEs making the rest of the market comfortable 

with concepts of lower downpayments, eased underwriting standards, lending to borrowers who historically would not have met underwriting standards. 

Remember, Beneficial and Household, two of the original 

subprime lenders in this country, which existed since the 1950s, 

were subprime lenders to non-traditional borrowers, but again, required significant amount of equities be brought to the table on 

those products. 

We ended up with the GSEs offering low downpayment loans to 

lower and lower-quality borrowers. 

Mrs. WAGNER. Let me ask you on that point, can you trace these 

activities of the GSEs back to the 1992 Act that created affordable 

housing goals for the GSE? 

Mr. ROSNER. Yes. There is absolutely a piece of it that goes back 

to the 1992 Act in terms of affordable—in terms of the goals. But 

also in terms of the safety and soundness problems, and in terms 

of the cronyism that ultimately led to this, right? 

Again, it is not even just the GSEs per se, in terms of the role, 

as a provider of liquidity—not excess liquidity, liquidity to the secondary mortgage market. It is the special ties to government that 

created all of the perversions that ensued. 

Mrs. WAGNER. We had Ed Pinto here from AEI who spoke with 

us in the past week. And he noted in a post-crisis study that in 

24 

1990, 1 in 200 mortgages in the United States had downpayments 

of less than 3 percent. In 1999, that number was 1 in 10. And by 

2006, that number was 1 in 2.5 downpayments of 3 percent. That 

is a dramatic increase in borrowing throughout the financial system. 

What role did GSEs play in increasing borrower leverage, and 

how did that cause or exacerbate this crisis? And I know our time 

is limited. 

Mr. ROSNER. Again, the GSEs did lead the way in lowering 

downpayment. That was one of the concerns that I really highlighted in the 2001 report, ‘‘Home Without Equity is a Rental with 

Debt,’’ and one of the reasons that it became clear that we were 

going for an increasing leveraged system. 

And while that posed opportunities for growth well in excess of 

GDP, it ultimately would come at the risk of a vicious spiral downward in home prices on the other side. 

Mrs. WAGNER. I thank you. 

Chairman GARRETT. The gentlelady yields back. The gentlelady 

from Wisconsin, Ms. Moore, is now recognized for 5 minutes. 

Ms. MOORE. Thank you, Mr. Chairman. I believe my colleague, 

Mrs. Wagner, had a very interesting line of questioning. And I 

guess I would like to follow up on that. She asked you if the—first 

of all, let me back up and say that I am a little distressed about 

the name of this hearing, ‘‘Fannie Mae and Freddie Mac: How Government Housing Policy Failed Homeowners and Taxpayers and 

Led to the Financial Crisis.’’ 

Would I be wrong to say that it is just government housing policy 

that led to the financial crisis, and that there are no other bad actors out there in the private sector? Is this a misleading title for 

this hearing? Maybe I will ask Dr. Wachter and Mr. White that 

question. Just yes or no? 

Chairman GARRETT. —or gentlelady, is this a rose by any other 

name? 

Ms. MOORE. Is that misleading? Are we just to assume that it is 

government housing policy and the GSEs that led to the meltdown 

Is that— 

Ms. WACHTER. I don’t think there is anybody on this panel who 

would agree that it is Fannie and Freddie Mac who are the primary cause of the meltdown. 

Ms. MOORE. Okay. All right. Good. Thank you. 

Mr. WHITE. Can I add something? 

Ms. MOORE. Yes, Dr. White. 

Mr. WHITE. Again, we have this bubble. The bubble bursts. If you 

look at the value of mortgages in 2006, and the value of mortgages 

in 2012, there was about a $7 trillion meltdown. Nobody likes $7 

trillion of loss. But that turns out to be roughly the same amount 

as the tech bubble bursting. 

Ms. MOORE. All right. I am reclaiming my time, because I will 

give you another chance to answer some other questions. I guess 

the point that I am making is that we are talking about government housing policies that led to this problem. 

Did the government—did the GSEs have anything to do with the 

faulty appraisals, the criminal appraisals, I would say, that were 

involved in the meltdown? Did they actually underwrite these loans 

25 

where people didn’t bring in—these NINJA loans? Did the GSEs 

give Triple-A ratings to these mortgage-backed securities, and 

CDS’s? 

I am not trying to say that the GSEs are totally innocent here, 

but I guess what I am saying is, are there no other bad actors here 

other than the government policy that said that you ought to try 

to give more loans to low- and moderate-income borrowers? 

And by the way, that suggestion may have come about to the historians of the panel, because we found, as in the case of Milwaukee, Wisconsin, that there were a lot of moderate-income people, minorities, who qualified for loans, who were given subprime 

loans simply because they were Black or Hispanic, and led into 

higher, riskier loans because of that kind of prejudice. 

So were the government policies—there are plenty of good loans 

out there if you would give them an opportunity. So I guess I want 

to hear what Dr. White and Dr. Wachter say about that. 

Mr. WHITE. All right. As I had said earlier, once you are in this 

mindset of housing prices are always going to go up, then deterioration of underwriting standards, along with all those sorts of 

things that— 

Ms. MOORE. But did the GSEs cause deterioration? 

Mr. WHITE. They are part of it, but they are not the whole story. 

The other part is the extent to which there were households who 

were defrauded, put into inappropriate loans. I am going to have 

to use a technical term in economics here. The people who were responsible ought to burn in hell. 

Ms. MOORE. And it is right, because—I sort of resent the implication that it was low-income Black people, and so on, that—and trying to serve good borrowers. And the GSEs that caused the problem, that there were no other bad actors in the private underwriting, and appraisal, and— 

Dr. Wachter, take the last 10 seconds. 

Ms. WACHTER. It was definitely not the Community Reinvestment Act. It was not affordable housing goals that created this crisis. 

I think—and I think Dr. White and Mr. Rosner will agree with 

me—homeownership, as Mr. Rosner pointed out, peaked in 2004. 

Minority homeownership peaked in 2004, and low-income homeownership peaked in 2004. 

The worst years of the crisis were after that: 2004; 2005; and 

2006. This was not about support for low-income homeownership. 

This was not about support for undoing the years of discrimination 

against minorities where household wealth could be built up in sustainable homeownership. 

This was not the Community Reinvestment Act, which was a 

1990s phenomenon. This was not affordable housing goals. I think 

what we heard from Mr. Rosner and Dr. White is that there was 

some kind of ‘‘in the ether’’ change that allowed the private sector 

to take these concepts well. 

Indeed, the private sector did take these concepts, and they did 

in fact lead to FHA going from a market share of, what, about 10 

percent to 3 percent, squeezing FHA down to 3 percent. And also, 

Fannie and Freddie lost their market share as well in this period. 

Ms. MOORE. Mr. Chairman, thank you for your indulgence. 

26 

Chairman GARRETT. The gentlelady yields back. The gentleman 

from Texas is recognized. 

Mr. NEUGEBAUER. Thank you, Mr. Chairman. Just kind of a follow-up here. There was some question about the title of this hearing. It says, ‘‘Fannie Mae and Freddie Mac: How Government 

Housing Policy Failed Homeowners and Taxpayers and Led to the 

Financial Crisis.’’ 

Mr. Ligon, is that a fair assessment? 

Mr. LIGON. It is a very fair assessment. Without Fannie and 

Freddie, it is entirely likely that the vast expansion of mortgage finance could not have taken place. GSEs were always backed by the 

Federal Government. 

And they have continued to extend their mortgage holdings at all 

quality levels, including a dangerous increase in risky holdings. 

That entirely weakened the entire financial position. And that, in 

turn, required even more government support, and at the end of 

the day, a substantial amount of taxpayer— 

Mr. NEUGEBAUER. Thank you. I don’t mean to cut you off. I have 

a couple of questions. 

Mr. Rosner, just your reflection on the title of the hearing? 

Mr. ROSNER. Again, I think the GSEs are really seizing the market. I think while we could say that they didn’t make the worst 

loans, I think it is sort of disingenuous to suggest that their purchase of large portions of the private label market were meaningless and had no impact on the market. 

Mr. NEUGEBAUER. In fact, it validated it. Isn’t that correct? 

Mr. ROSNER. That is exactly right. 

Mr. NEUGEBAUER. Yes, it was a validation. While they are not a 

rating agency, the fact that they would buy that paper, and they 

were AAA-rated, was a validation. They thought that was a legitimate— 

Mr. ROSNER. And I think that is a point, when it was raised before, they were, in fact, putting their AAA rating on these securities through the purchase. 

Mr. NEUGEBAUER. And they were actually buying paper that 

they couldn’t actually underwrite themselves. 

Mr. ROSNER. Right. And to be fair in that regard, had they been 

kept to their original goal of having portfolios only for liquidity purposes rather than speculative purposes, the impacts would have 

been greatly diminished. 

Mr. NEUGEBAUER. I want to move to another topic here because 

I think one of my colleagues mentioned that we need to talk about 

moving forward. And moving forward, housing finance is an important part of our economy. Financing is an important part of our 

economy. We finance cars, we finance houses, we finance small 

businesses. 

Not all of those transactions have to have a Federal nexus to be 

completed in the marketplace. And so moving forward, there are a 

number of plans out there that folks are bringing and I am glad 

to see all of the people who have a stake in this bringing these proposals forward. We welcome those. 

From your perspective, is there a necessity for a Federal nexus 

in housing finance across-the-board in this country? 

27 

Mr. ROSNER. Across-the-board, as in, outside of very defined borrower classes explicitly done by the government? 

Mr. NEUGEBAUER. Yes. 

Mr. ROSNER. Other than potentially as a well pricing, monoline 

insurer, no. 

Mr. NEUGEBAUER. Because one of the things I find since I have 

been to Congress is that government doesn’t know how to price 

risk. We have a flood insurance program that is underwater. No 

pun intended. We just heard a report the other day that FHA is 

now underwater because they have not been pricing. 

And so the question is, if we have a structure there, how can we 

be assured that government is getting compensated for that risk? 

Mr. ROSNER. Especially when government policy, more broadly in 

this area relative to any other area of lending that the government 

supports, incents leverage more than equity. And so part of the 

reason for a 30-year mortgage, or part of the value and part of the 

reason that we saw it distorted in this crisis, was the mortgage interest deduction, the ability to maximize leverage. 

And so we are still not thinking in terms of any of the proposals 

that are out there. How do we help borrowers go back to the traditional notion of home-ownership where, at about the age of household formation, you take out a mortgage. Thirty years later at 

about the age of retirement, you have a mortgage burning party 

and you retire with what is your single largest retirement—wealth 

transfer asset. 

That is the proper role and that is what conveyed all of the social 

benefits of homeownership. Housing policies have been, in the past 

15 years, inverted against that. 

Mr. NEUGEBAUER. And I think you make an extremely good point 

there. I have been in the housing business for a number of years. 

We encourage people for homeownership. It is a way of saving for 

the future, building a nest egg. 

But what we want to make sure is that we are not creating, as 

I said in my opening statement, these policies where it blows up 

and a lot of these people who just got to retirement found out that 

instead of having equity in their house, or that they were going to 

have a greater asset value, their nest egg actually shrank because 

of the housing policy. 

And so what we want is a sustainable housing market and a sustainable housing finance system in this country. 

Thank you, and I yield back, Mr. Chairman. 

Chairman GARRETT. The gentleman yields back. The last panelist will be the gentleman from Colorado and then, after that, we 

will go into recess. And we will be back in at noon. 

Mr. Perlmutter? 

Mr. PERLMUTTER. I want to thank the chairman and the panel 

for this hearing today, for livening up what is a rather gray and 

gloomy day outside. And I really do appreciate the chairman bringing this because it always gets my blood going. 

Because a crash on Wall Street, the failure of Fannie Mae and 

Freddie Mac, an abysmal response to Hurricane Katrina, and a 

misguided war in Iraq have one thing in common: the Bush Administration. 

28 

And it is no coincidence that Fannie Mae and Freddie Mac did 

well before the Bush Administration and are making billions of dollars now. It was the abuse and misuse of Fannie Mae and Freddie 

Mac by the Bush Administration that led to the failure of the housing market. 

So the title to today’s hearing should be, ‘‘Fannie Mae and 

Freddie Mac: How the Bush Administration Housing Policy Failed 

Homeowners and Taxpayers and Led to the Financial Crisis.’’ And 

this is what I really appreciate, Mr. Chairman. 

I never thought I was going to get a chance to read the article 

which quotes a former chairman of the committee, Mr. Oxley. But 

on September 9, 2008, Chairman Oxley was interviewed by the Financial Times. 

He was upset, and he said, ‘‘The dominant theme has been that 

Congress let the Government-Sponsored Enterprises morph into a 

creature that eventually threatened the U.S. financial system. 

Mike Oxley will have none of it. 

‘‘Instead, the Ohio Republican who headed the House Financial 

Services Committee until his retirement after midterm elections 

last year blames the mess on ideologues within the White House 

as well as Alan Greenspan, former Chairman of the Federal Reserve. 

‘‘Oxley fumes about the criticism of his House colleagues that 

they didn’t do anything. He says, ‘All the hand-wringing and bedwetting is going on without remembering how the House stepped 

up on this to reform the GSEs.’ He says, ‘What did we get from the 

White House? We got a one-finger salute.’’’ 

So this is a situation. And Professor White, I was looking—or 

maybe it was Professor Wachter’s report, but there is an Exhibit 

A to somebody’s report. 

Ms. WACHTER. Mine, yes. 

Mr. PERLMUTTER. Which definitely shows the bulge in purchases 

that were made between 2004 and 2007, which is when the no doc 

loans and the no downpayment loans were purchased and proliferated across the country. 

And it was in this period of time, it wasn’t during the Clinton 

Administration, it wasn’t during the prior Bush Administration, it 

wasn’t during the Reagan Administration that we had this; it was 

just in this period of time. 

So Dr. Wachter, I have made a lot of statements because I just 

feel like there was been a lot of revisionist history going on here. 

This is an abuse of Fannie Mae and Freddie Mac during this period 

of time that I think led to what became a big housing crash and 

a crash on Wall Street. 

How do you respond to that? 

Ms. WACHTER. Let me describe exhibit A. It shows almost perfect 

correlation between the market share of non-traditional mortgage 

products and private label securitization. It shows that these doubled in the years 2003 through 2007. 

It shows that they were at very moderate and very low levels 

from 1990. Non-traditional mortgages, from 1990 through 2000, 

were niche products. In 2002, 2003, and 2004 is when, starting in 

December of 2003, when these non-traditional, very risky products 

gained market share, along with private label securities— 

29 

Mr. PERLMUTTER. And I want to jump on something Dr. White 

said. There was a belief, or at least a sales job, that housing prices 

only go up. 

And in this period of time, and one of the reasons we have not 

placed Fannie Mae and Freddie Mac into liquidation, we have just 

placed them in a conservatorship, is because we repatriated a lot 

of money from China, from Saudi Arabia, and from Europe by, in 

effect, selling Fannie Mae and Freddie Mac bonds on the premise 

that housing prices only go up. 

Are you familiar with that at all? 

Mr. WHITE. I know that there were substantial non-U.S. purchases, central banks of other countries, important financial institutions buying the Fannie and Freddie obligations. 

That indeed was one of the contributing factors to the Treasury’s 

decision to put them into conservatorship rather than a receivership, something that might involve liquidation. They needed to provide the reassurance to the non-U.S. purchasers that they were 

going to be kept whole. That is correct. 

Mr. PERLMUTTER. Thank you. And I would ask to put the article 

from September 9, 2008, into the record, Mr. Chairman. 

Chairman GARRETT. Actually, I think that may have been done 

once already during this hearing. I assume it will be brought up 

repeatedly. And so, without objection, and also, before the gentleman from Colorado leaves— 

Mr. PERLMUTTER. Yes, sir. 

Chairman GARRETT. —without objection, I would also—since you 

are the only person here who could object—like to put into the 

record a statement from HUD’s affordable housing goals during not 

Bush’s Administration but during the Clinton Administration. 

And I will share it with you before I put it in the record—which 

says, ‘‘Because the GSEs have a funding advantage over other market participants, they have the ability to under-price their competitors and increase their market share. 

‘‘This advantage could allow the GSEs to eventually play a significant role in the subprime market and the line, therefore, between what today is considered a subprime loan versus a prime 

loan will likely deteriorate, making expansion by the GSEs look 

more like an increase in the prime market. 

‘‘So the difference between the prime and the subprime market 

will become less clear. And this melding of markets will occur even 

if many of the underlying characteristics of the subprime borrowers 

in the markets, i.e., non-GSEs, evaluation of the risk posed by 

these borrowers remains unchanged.’’ 

Again, this was during the Clinton Administration in the year 

2000 by HUD’s affordable lending goals. 

Mr. PERLMUTTER. And to my friend, the chairman, I have no objection to the introduction, just the conclusions you draw from 

these things. 

Chairman GARRETT. I am just reading what they said back in 

2000. So with that, the committee stands in recess and, again, we 

will try to reconvene right at noon. 

[recess] 

Chairman GARRETT. The committee will reconvene at this point 

and I thank the Members for coming back so promptly. 

30 

Before we proceed, without objection, I ask unanimous consent to 

enter into the record a letter from the National Association of Federal Credit Unions with regard to today’s hearing. 

Without objection, it is so ordered. 

We will now turn to the gentleman from California, Mr. Royce, 

for 5 minutes. 

Mr. ROYCE. Thank you, Mr. Chairman. 

Let me start with Mr. Rosner with a point here, nobody has 

pointed out that if the GSEs were not playing in the market during 

2004 and 2007, they would have been able to provide liquidity to 

the market as they are chartered to do in the aftermath. 

So in a way, this was so countercyclical by moving to a position 

where they were leveraged 100 to 1, $1.7 trillion or so in the portfolios. 

You had a situation where it was almost guaranteed and this 

was the fear of the Fed, because I remember the chairman conveying this to us, that if it started in the housing market, it would 

collapse the financial system. This is why they wanted regulation 

for systemic risk. 

But the other aspect of this that I think nobody attributed to it 

at the time, and I wanted to ask you about now, is that—so instead, when everything collapses, they then have no capital, they 

then back away because of insolvency, so it is also the other side 

of that coin that hits us at exactly that moment. 

Could you comment on that? 

Mr. ROSNER. Absolutely. I totally agree and that is one of the 

areas of failing that I think needs to be considered. It is under-considered and as we think about ways forward, which I think is very 

important, we need to make sure that whatever we replace them 

with is able to be countercyclical rather than procyclical and has 

the capital base to do exactly that or provide the functions of providing liquidity to the secondary mortgage market at the time that 

the market needs it because they did not provide excess liquidity; 

they underpriced that liquidity and put themselves at risk. 

Mr. ROYCE. Let me also make another observation because I 

think your analysis has been the most inclusive of any that I have 

seen, including your explanation of the Basal standards and how 

that also contributed to this. 

The one element of this that I think we haven’t spent enough 

emphasis on because I do think that the setting of interest rates 

by the central bank at negative real interest rates 4 years running 

helped create the bubble to begin with. But what was so unusual 

here was that we set in place a moral hazard situation with the 

GSEs like no other. 

Other countries had the same problem because their Fed had followed—Ben Bernanke was then head of the New York Fed,—I 

went through the minutes at the time because we were arguing 

that the interest rate was set too low and that was his initiative, 

he pushed that and I think he got that very wrong. 

But what really compounded this was the GSEs; that collapsed 

the entire housing market, but on top of it, the GSE’s instruments, 

oddly enough, were also used for capital, essentially by the banking 

systems. 

31 

So maybe you could comment on that and my thoughts about 

those negative real interest rates which ran for that 4-year cycle 

and the role that played. 

Mr. ROSNER. Obviously, that was one of the key drivers of that 

2004 to 2007 period, because at a point where homeownership had 

already peaked, we saw the industry, both the GSEs and private 

players, have every incentive to get every last drop of juice that 

they could out of the system, squeezing it for refinancing, for speculative purchase of second homes and investment properties, frankly 

to the ultimate determent of the public. 

None of those features are likely to occur anytime soon—the negative interest rate issue—in a going-forward system. But I do think 

that it speaks to the need for us to consider whether private enterprises securities should considered capital for the banking system 

because it also complicated the resolution, both of the banks that 

needed to be resolved and of the enterprise. 

Mr. ROYCE. Let me make one last point, and that was one of the 

things that impressed me about your work was that you were the 

first to recognize the accounting problems of the GSEs, at least as 

far as I recall, and you were the first to identify the peak that we 

hit. Ideas do have consequences and for the members here, I would 

really suggest a re-read of your testimony about the—how these 

different factors came together to create the crisis because going 

forward, we are going to have to do a lot of—we are going to have 

to overcompensate in terms of—it is going to take us a long time 

to get out of this because everything is overleveraged now and 

deleveraging is a very painful thing for societies to go through. 

But we have to learn the lessons in retrospect and that is why 

I think this hearing is so important. 

Mr. Chairman, thank you. 

I yield back. 

Chairman GARRETT. The gentleman yields back. Thank you. 

Mr. Scott from Georgia is recognized for 5 minutes. 

Mr. SCOTT. I thank the chairman. 

I stated my concern and great worry about this whole issue in 

my opening statement. But last year in this very committee, we 

witnessed a strategy whereby the majority of some of our Republican friends attempted to pass piecemeal legislation to accelerate 

the dismantling of the GSEs without clearly identifying what 

should replace it. What is the alternative? And this is especially 

true. I don’t think sometimes we gather the magnitude of what we 

are talking about here. 

These GSEs, Fannie and Freddie, accounted for 90 percent of the 

new mortgages in the last recordable year, I think around 2008. 

That is a significant void, and I just think it is the height of irresponsibility for us to do this without some good discussion as to 

what is going to take its place? Should anything take its place? 

What impact will this have? We can talk about the bad things 

about Fannie and Freddie all we want, but still, that void is out 

there. 

And so I would like to ask this panel if each of you might be able 

to comment, especially you, Dr. Wachter, because I believe you hit 

the nail on the head, that should Congress even begin to consider 

the future of our housing finance without first taking a look to see 

32 

what this would look like before we throw the baby out with the 

bath. 

What are the consequences of moving ahead without giving any 

thought to what will take the place of this gigantic void? Would you 

comment on that, Dr. Wachter? Because I think you were right 

when you said and raised doubts, everybody says the private sector 

is not going to be able to accomplish this. And those 30-year mortgages that you talk about will not continue to be affordable. 

So could we put some attention on this issue? What are we going 

to do? 

Ms. WACHTER. I think the private sector itself would agree that 

they, at this point, could not step in to replace Fannie, Freddie, 

and FHA, which you are quite correct are 90 percent of the market. 

What we must do is set up a—we must move to a consensus 

where there is a coordinated platform, an understood way of going 

forward, we can’t simply just dismantle Fannie and Freddie. If we 

did, that would lead to the destruction of the recovery. It would 

turn the recovery it into a disaster again, housing prices would 

plummet, bringing down financial sector—causing systemic risk 

and this time, we are out of solutions. So it would be Great Depression 2.0 if we simply withdrew Fannie and Freddie and FHA without an alternative in place. 

Mr. SCOTT. And what might that alternative be? Is there an alternative that can take the place of Fannie and Freddie? 

Ms. WACHTER. There is no alternative today, however, there are 

beginnings of discussions of, and we have heard some allusions on 

this panel, to some alternatives. 

Mr. Rosner suggests a monoline-government backstopped and 

that is a one possibility. The New York Fed has a utility approach. 

The bipartisan commission has come out with an insurance approach with again, a government backstop. I think it is quite similar to the proposal that Larry White and his team have come out 

with. 

So there are a number of alternatives and I think this first step 

is necessary is to build a consensus on the pros and cons of these 

alternatives before we think of dismantling the system which is 

keeping our economy afloat. 

Mr. SCOTT. Mr. Ligon from the Heritage Foundation, do you concur with what she just said? 

Mr. LIGON. Any redesign of the mortgage market must enforce 

competition between mortgage originations and the securitization 

and also ensure property capital requirements for all forms involved. 

I think a big problem of what we have right now is that a lot 

of the stuff is off balance and that there is a huge finance subsidy 

to Fannie Mae and Freddie Mac doing business. So— 

Mr. SCOTT. But beyond that, you do agree that: one, the private 

market cannot fill this void alone; and two, we do need to replace 

it with something. 

Mr. LIGON. No, I don’t agree with that. I think that the private 

market—there—you can make an argument that the private market is crowded out right now because of Fannie Mae and Freddie 

Mac and what they are doing. 

33 

So to say that the private market couldn’t step in or wouldn’t 

step in is not necessarily the way I would put it. 

Mr. SCOTT. All right, thank you, Mr. Ligon. 

Ms. WACHTER. If I may, I— 

Chairman GARRETT. The gentleman’s time has expired— 

Ms. WACHTER. —is the private market itself would agree that 

they would step in or could step in. 

Chairman GARRETT. Okay. 

Mr. Mulvaney is recognized for 5 minutes. 

Mr. MULVANEY. Thank you, Mr. Chairman. 

Ordinarily, I sort of ignore the political blame game in these 

meetings, but since my colleague from Colorado, who is now no 

longer with us, was so effusive in his praise of the Bush Administration, in an attempt to sort of bring a balanced approach, Mr. 

Rosner, let me ask you a couple of quick questions. Who is James 

Johnson? 

Mr. ROSNER. The former Chairman of Fannie Mae. 

Mr. MULVANEY. Did he have any political ties? 

Mr. ROSNER. Significant political ties. 

Mr. MULVANEY. With who? 

Mr. ROSNER. Both to the—well to Mondale, to the Clinton Administration, and frankly to most of Congress. 

Mr. MULVANEY. And I think he advised the Kerry Administration 

or the Kerry political candidate? 

Mr. ROSNER. Absolutely. 

Mr. MULVANEY. Who is Franklin Delano Raines? 

Mr. ROSNER. The former OMB Director who was also Chairman 

of Fannie Mae. 

Mr. MULVANEY. So, between 1991 and 2005, those were the two 

CEOs of Fannie Mae, right? 

Mr. ROSNER. Correct. 

Mr. MULVANEY. Did Mr. Raines have any political connections? 

Mr. ROSNER. Absolutely. 

Mr. MULVANEY. With what Administration is he most— 

Mr. ROSNER. The Clinton Administration. 

Mr. MULVANEY. Thank you very much. So I think there is probably plenty of blame to go around. Let’s talk about what actually 

happened, because I was reading Dr. Wachter’s testimony. She 

talked about the fact that the amount of increasing leverage introduced by the issuers of CDO, CDO-squared CDs was not known. 

Also, the deterioration of the quality of the mortgages used as collateral for these securities was not known. Is it so much they didn’t 

know or they didn’t care? Mr. Rosner? 

Mr. ROSNER. First of all, it was known. 

Mr. MULVANEY. Okay. 

Mr. ROSNER. The degree wasn’t known, and this goes to a point 

that I think was raised by Representative Scott, which I would like 

to point out. Look, there are two separate issues here involving the 

private market and the GSEs. We need to fix securitization. Private label securitization, investors did not have adequate information about the underlying collateral in the pools. There was no 

standardization of reps. There was no standardization of policing of 

servicing agreements. That needs to happen before you can ever 

have the private markets come back in any meaningful way. 

34 

I have been writing about this, screaming about this since 2006, 

and it is vitally important if we hope to have the private markets 

come back. 

Mr. MULVANEY. But to a certain extent, isn’t it true that I don’t 

care about the risks if there is an implicit government guarantee 

of the underlying collateral? 

Mr. ROSNER. I think there is a whole host of issues. So, yes that 

is true, but it is also true that if you are an investment grade chartered investor, you have the ability to say at almost—you are almost implored into the view that if I am—if I buy this and it fails, 

I won’t get in trouble because everyone else ended up in this trade. 

And if I miss out on the outside returns of buying this highly risky 

AAA or AA rated security, I will get pegged by my investors. 

There was also herd behavior that occurred. So, yes I think you 

are right that you don’t care as much, but I think there are a number of reasons for that. 

Mr. MULVANEY. Dr. Wachter, you go on to talk later in your testimony about—that we know from this crisis and from previous crises that markets do not sell correctly in the absence of arbitrage, 

that is, in the absence of markets in which securities sales can’t 

price and trade risk. Would you at least agree with me that implicit government guarantee contributed to that lack of ability to 

price risk? There was no risk in this market, was there? 

Ms. WACHTER. Yes, there was. There are private label securities, 

and private label securities were held in portfolio. AIG, for example, was creating CDS and those were held in portfolio, Lehman 

and other entities were heavily held private label securities, and 

they went under. The majority of riskiest mortgages were held by 

private entities, and they needed to be rescued by government. So 

the question of who cared and who knew is a very difficult question, if I may go back to that. 

Some people did know and they didn’t care, in part because they 

were making a lot of fees. And I think that we totally agree on 

that, and your point being that Fannie and Freddie had implicit 

subsidies, but these were not subsidies that were an implicit guarantee. This implicit guarantee was not used for the most poorly underwritten, the riskiest mortgages that ended up defaulting at a 30 

percent rate. 

Mr. MULVANEY. Mr. Ligon, let’s talk a little bit about who benefited from these policies. I enjoyed your testimony, and I am trying 

to get a feel for the distribution of benefit. We spent a lot of money 

on this, the taxpayers did, over the course of the last several years. 

If you look back to the beginning of the—let’s say the Johnson Administration to the early 1990’s, who benefited most from the policies that this government put forward? The shareholders and the 

officers of Fannie Mae and Freddie Mac, taxpayers, or homeowners? 

Mr. LIGON. I am not sure how exactly to comment on that. I don’t 

know a lot about the profits and the upsides to— 

Mr. MULVANEY. Mr. Rosner, did you— 

Mr. ROSNER. Yes, absolutely, it was the management of the company. It was the shareholders who had the good fortune to own it 

at the right time. And in retrospect, it certainly wasn’t many of the 

homeowners who ended up trapped in homes that they couldn’t afVerDate Nov 24 2008 15:18 Jun 14, 2013 Jkt 080871 PO 00000 Frm 00040 Fmt 6633 Sfmt 6633 K:\DOCS\80871.TXT TERRI
35 

ford. Again, I think it is to some degree helpful to remember that 

none of these issues are necessarily implicit to the purpose of a 

government-sponsored entity, to provide liquidity to the secondary 

mortgage market, as much as it is a problem with the way they 

were distorted, manipulated, moved and ultimately run. 

Mr. MULVANEY. Thank you, Mr. Chairman. 

Chairman GARRETT. The gentleman yields back. And we are cognizant of the fact that may happen if a new system is created, and 

allow for those problems to occur again. Mr. Peters is now recognized for 5 minutes. 

Mr. PETERS. Thank you, Mr. Chairman, and I ask unanimous 

consent to enter into the record a letter from the National Association of Federal Credit Unions, and also the report from the Bipartisan Policy Center entitled, ‘‘Housing America’s Future: New Directions for National Policy.’’ 

Chairman GARRETT. Without objection, it is so ordered. 

Mr. PETERS. Thank you, Mr. Chairman. And I would like to reference briefly the report from the Bipartisan Policy Center, which 

I have just entered into the record. They released the report last 

week, and it made some recommendations on the future. I want to 

focus on the future of housing finance. And the report was adopted 

by what I think was a very impressive list of bipartisan folks, 

former Senators, Governors, Cabinet Secretaries, and others who 

called for the future of the mortgage market, and for there to be 

a diminished role of government in that mortgage market, nevertheless to be some role for the government in stabilizing it. 

I would just like to ask a question of each of the panelists, if we 

could start with Mr. Ligon. Do you see any role for government in 

the mortgage market? And if so, what role do you see government 

playing in housing finance 10 years from now? 

Mr. LIGON. To the extent that there is a role for the Federal Government in housing policy and subsidizing housing and homeownership, it should be much smaller in scale, and very minimal. 

Mr. PETERS. What would it be? 

Mr. LIGON. Definitely not guaranteeing loans through Fannie 

Mae and Freddie Mac, or an institution like the GSEs. 

Mr. PETERS. Mr. Rosner? 

Mr. ROSNER. Going forward, the government’s role should be explicitly backstopping those segments of the market that all of you 

decide should be backstopped. And that private be private. That it 

be a fully private—whether it is the GSEs and they survive, or otherwise. There needs to be a function to provide—or provide a backstop of liquidity to the secondary mortgage market, and I think 

that is important. But it needs to be fully private with no implicit 

or explicit government guarantee, so that markets can price effectively. 

And to the degree that there is any government role, it should 

be more along the lines of the VA loan program, where you define 

a borrower class and the government provides direct subsidies, and 

let the markets price private risk privately without government interference. 

Mr. PETERS. Dr. Wachter? 

Ms. WACHTER. There needs to be a role for government or a government-like entity in documenting risk. As we have heard from 

36 

others, the problem of mispricing of risk was really a base cause 

of the problem. The underpricing of risk occurred across-the-board. 

But in any case, we did not have documentation of the creation of 

credit risk either of the private label securitization or indeed 

Fannie/Freddie’s loans to the degree that second liens were not understood. The loan to value ratios increasing was not known, not 

recognized, not understood. So that role of documentation of risk is 

number one. 

Number two, at this point, I think there is no doubt that there 

needs to be a government backstop, that needs to be explicitly 

priced. Number three, there needs to be private capital at risk and 

overseeing that market, setting up a platform to bring these parties 

together has to be the role of a cooperative utility and the government has to have an accountability behind this to make sure that 

the data standards are in fact in place. 

We can over time move to a system where there is a utility approach where the government is stepping back. That could happen. 

But for now, I think it is quite clear that we absolutely need a government guarantee in place, even though hopefully we can bring 

more private capital at risk over time. 

Mr. PETERS. Dr. White? 

Mr. WHITE. There is, I think, a fair degree of agreement here. 

First, for sure, an FHA that is focused on low- and moderate-income households sees it as its mission on budget, and expected that 

there is going to be a subsidy element to pursue this socially worthwhile effort of encouraging low- and moderate-income households 

who are close to the edge of, ‘‘Do I buy? Do I rent?’’ to become 

homeowners. It is absolutely worthwhile. 

In the current housing environment, with a lot of uncertainty, 

there does still need to be a government element, but over the 

longer run, I believe that the private sector is capable. Again, we 

have to make sure that the natural buyers of long-life paper, like 

insurance companies, like pension funds, are not discouraged from 

doing that. And again, I think prepayment fees have to be part of 

the story. I think the private sector, some expansion by depositories, a lot more expansion by insurance companies and pension 

funds. 

I think that there can be a largely private, focused FHA on lowand moderate-income households, and the Fed will always be there 

as a backstop if things really do fall apart, as we have seen. The 

Fed is ready to step in and buy more mortgage securities. I think 

that kind of system is what the long run looks like. 

Chairman GARRETT. I thank the gentleman and the gentleman 

yields back. The gentleman from Illinois is recognized for 5 minutes. 

Mr. HULTGREN. Thank you, Chairman Garrett. Thank you all for 

being here today. Following up on a couple of points that my colleagues have brought up, I do have a few questions. I am going to 

address the first one to Dr. White. I wonder if you could comment 

briefly, I do have a couple of follow-up questions as well, but besides lower borrowing rates as a result of their implicit government 

guarantee, what other competitive advantages do Freddie and 

Fannie enjoy? My understanding is an estimated 40 basis point 

37 

subsidy on GSE debt existed before the crisis. Would some of these 

other advantages add to that? 

Mr. WHITE. It was primarily that they could borrow at 40 basis 

points—two-fifths of a percentage point, less—they—their rating, to 

the extent you want to believe ratings, were of—on a standalone 

basis AA-minus, but they were able actually to borrow in the markets at better than AAA rates, and that roughly translated to 40 

basis points, two-fifths of a percentage point. Of that, about 25 

basis points were passed through in the form of lower mortgage 

rates on conforming mortgages, about a quarter of a percentage 

point advantage. 

And why did the financial markets do this? Because they perceived these guys as special, and it turns out the perception was 

correct. Now, in addition to that borrowing advantage, they had 

lower capital requirements for holding mortgages, only 2.5 percent, 

as compared with 4 percent for a depository institution, or at least 

4 percent. And especially on their mortgage guarantees, they had 

to hold only 0.45 percent to cover the credit risk on the mortgage 

guarantee that a depository was expected to cover with 4 percent 

capital. 

So they had a major capital—much lower capital requirement, 

and again at the end of the day, that is what did them in. They 

did not have enough capital to cover the riskier portfolio—it is unclear whether it was even enough for the safe portfolio of the 1980s 

and early 1990s, but for sure it was not enough for the riskier portfolio that they had as of 2008. 

Mr. HULTGREN. Thank you. Let me—let’s see, Mr. Rosner, you 

are nodding your head. I wondered if you would agree with some 

of those competitive advantages with the subsidy question? And 

just wondering, those benefits—that competitive advantage and 

benefits, were any of those passed on to homeowners? 

Mr. ROSNER. Yes. I think as Professor White pointed out, some 

of it was passed on in lower rates. And other than that, no, most 

of them were retained. You also have to remember that the special 

relationship was further fostered by the fact that they weren’t required to file with the SEC as other companies were, and they were 

tax exempt. Not the securities, the companies. So all of this led to 

the perception of them as being government-guaranteed entities all 

along. If I could, I would just make a quick point, transparency and 

liquidity led prices and value to converge. And one of the problems 

that has been absent in the mortgage market, the private label 

market, less important in the GSE market because there was an 

assumption that they were government guaranteed, is that price 

and value were always able to stay separate, because there was 

just not enough information. There was asymmetry of information, 

which really fostered the worst elements of the crisis. And so anything we do going forward, needs to repair that. 

Mr. HULTGREN. Let me talk about going forward. And I just have 

about a minute left, but Congress does want to continue to subsidize the mortgage market, if we choose to continue to help homebuyers, is there a better way? Mr. Rosner, you talked about it a 

little bit, just helping us crystallize this. One of my passions is, 

let’s do the right thing, but let’s not do any harm either. And so, 

is a government guarantee in the secondary market really the best 

38 

way for homebuyers to see that subsidy? Or is there something else 

we can do? 

Mr. ROSNER. No, I don’t think the government guarantee of the 

secondary mortgage market is either necessary or beneficial. I 

think it puts us back on the same path. And part of the problem 

I have with most of the proposals that have been floating around 

is they really demonstrate that a rose by any other name is still 

a rose. And most of the policy proposals that we have seen frankly, 

are slightly different, but still essentially the same. The BPC report 

preserves a lot of those implicit guarantees. I am also a little bit 

concerned that it was conceived of by many of the people who 

brought us the GSE issue in the first place. 

And being run by some of those same people, as opposed to really 

coming in and saying, you know what? If we were to start with a 

clean slate, what would it look like? And again, it could include the 

GSEs, but you need to sever all of the government ties and implied 

government support, and we are still not really talking about that. 

We are rather talking about taking many of those same advantages, flushing $140 billion that the Enterprises owe us, wiping out 

what value they do have in data and systems, et cetera, and transferring many of those same perverse benefits to new players. 

Mr. HULTGREN. My time has expired. Thank you very much, and 

I yield back. 

Chairman GARRETT. The gentleman from Delaware? 

Mr. CARNEY. Thank you very much, Mr. Chairman. Thank you 

for having this hearing, and thank you for those of you coming here 

on a snowy day for your testimony. It is been very interesting, and 

I am more interested in the future than I am in the past. I am 

more interested in what we should do to answer your last question, 

Mr. Rosner, which is, what should we do now? You said, what 

should we do if we could start from scratch? We are not exactly 

starting from scratch. What should we do, given where we are 

today? What we know happened? And where should we go? I 

thought there was some agreement among the three of you—Mr. 

Rosner, Dr. Wachter, and Dr. White—that there should be a role 

of some continuation of something that looks, maybe not similar, 

but has the same role in the second—to create a secondary market. 

Is that an accurate read of what you said? Or Mr. Rosner what you 

just said seemed to be different than that? That there is still an 

appropriate role for— 

Mr. ROSNER. Liquidity provider, but that doesn’t mean that it is 

government-owned, government-backstopped, or providing government subsidies, okay? So it could be a true private monoline, that 

prices credit— 

Mr. CARNEY. So are the three of you— 

Mr. ROSNER. —on a countercyclical— 

Mr. CARNEY. I assume, Mr. Ligon, you are not interested in this? 

As I heard what you said, you don’t think there is really an appropriate role? That the private market can handle it? 

Let me move on because my time is—are you familiar with the 

Treasury Department’s White Paper? The Administration’s White 

Paper on the various options? Could you comment on the options, 

and what you think we ought to focus on, as we Democrats and Republicans hopefully on this committee and in this Congress try to 

39 

address this issue going forward, and answer Mr. Rosner’s question. Dr. Wachter? 

Ms. WACHTER. Yes, I would be pleased to do so. There were three 

alternatives put out on that White Paper. One was to have an entity which could immediately move to support the private sector if 

it collapsed. And my concern with that as a solution is it takes time 

to stand up such an entity. It would take months, a year, whatever. 

What do we do in the meantime? So I do think we need to have 

an entity in place, which can in fact act in moments of crisis— 

Mr. CARNEY. So what should it look like? 

Ms. WACHTER. —so that—and if I may say, a crisis will come unless there is standardization and the ability to price and trade risk 

because there will be an underpricing race to the bottom, just as 

we have seen. So what should that entity look like? That entity at 

this point has to have, I believe, a government backstop with private capital. Going forward, that entity could be a monoline. Where 

I disagree is that monoline if ‘‘is purely private sector’’ would need 

to be carefully overseen by the Federal Government because the 

Federal Government, the taxpayer, owns that risk. 

And it needs to recognize that it owns that risk. If that monoline 

goes under, it is the Federal taxpayer who will support it. 

Mr. CARNEY. Regardless of whether it is explicitly defined, you 

don’t believe in that? 

Ms. WACHTER. We are absolutely back to the GSEs if we have 

a monoline, one monoline which is providing this, and that fails, 

we are back to the GSEs, that will be rescued. 

Mr. WHITE. All right. As Dr. Wachter indicated, the Administration report 2 years ago had three choices. All three said there 

should be a clearly defined role for FHA, and I absolutely agree. 

They also said, and Dr. Wachter just reinforced that there has to 

be rigorous prudential regulation of any entities where the Federal 

Government, if push came to shove, would be on the hook. And 

again, strong, vigorous, prudential regulation. Adequate capital requirements have to be at the heart of that. 

After that, there is this issue of, is a government presence as an 

explicit backstop necessary? And again, certainly in the current environment. There is so much uncertainty out there. Half of the 

Dodd-Frank rules have not been finalized. In the mortgage area, 

the QRM, the Qualified Residential Mortgage rules, have yet to be 

finalized. 

Mr. CARNEY. My time is running out. So were you familiar with 

H.R. 1859, which is the Campbell-Peters bill, in the last Congress? 

Could you comment on that approach, Dr. Wachter? 

Ms. WACHTER. Yes, it is an excellent approach. 

Mr. CARNEY. Excellent approach. Thank you very much, I yield 

back. 

Chairman GARRETT. The gentleman yields back. Without objection, we will put 30 seconds on the clock for the gentleman from 

Alabama for an additional question. 

Mr. BACHUS. Thank you. We talked about the Federal Reserve 

and perhaps the low interest rates, but I want to sort of set the 

record straight. I do recall that starting in 2005, I think, the Fed 

became aware of the rise in prices, and I would like you to comVerDate Nov 24 2008 15:18 Jun 14, 2013 Jkt 080871 PO 00000 Frm 00045 Fmt 6633 Sfmt 6633 K:\DOCS\80871.TXT TERRI
40 

ment. Did they not bump the interest rate up, I think 17 consecutive times, from 2005 to 2007 and were criticized for that? 

Ms. WACHTER. Yes, absolutely and I am glad you have raised 

that. Because I was wondering whether I should step in. Interest 

rates actually bottomed in 2004. The Fed started pulling out money 

supply and interest rates started increasing as of 2004. Interest 

rates across-the-board 10 years started increasing in 2004, 2005, 

2006. The worst years of the bubble. The Fed started to pull money 

out. Interest rates started going up. 

Nonetheless, interest rates on private label securities decreased 

in that period. There was a race to the bottom. Despite the fact 

that the quality of the book of business deteriorated substantially, 

interest rates, over Treasuries collapsed. So there was a race to the 

bottom, a race to take on risk by the private label securities, in 

part because the information was not out there as how bad credit 

quality was deteriorating. 

Mr. BACHUS. Thank you. Now, I am going to ask unanimous consent to introduce three items. One is an article from June 6, 2006, 

in The Charlotte Observer that highlighted some of our attempts 

to pass a subprime lending bill. 

Chairman GARRETT. Without objection, it is so ordered. 

Mr. BACHUS. The second is a letter I wrote the Honorable Barney 

Frank on September 28th where we proposed, we had a draft and 

he and I, which had a suitability standard, a yield spread premium 

and points and figures trigger. A prohibition on mandatory arbitration. A prohibition on prepayment penalties on loans less than 

$75,000. All of those were drivers by, and the right of an individual 

consumer to initiate private rights of action to enforce the provisions of the law, which was pretty radical in that day but it showed 

an alarm. 

Chairman GARRETT. Without objection, it is so ordered. 

Mr. BACHUS. And third, we requested—and I have referred to 

this before—the GAO to do a study and talked about several problems we saw, which came out in April 2007. 

Chairman GARRETT. Without objection, it is so ordered. 

Mr. BACHUS. And I will add that it shows really the perverse effect of heavy lobbying by the industry, which unfortunately retarded our efforts. 

Chairman GARRETT. Without objection, it is so ordered, and those 

items will be entered into the record. I thank the gentleman for 

each of those. At this point, I yield to the gentlelady from California, the ranking member of the full Financial Services Committee, for 5 minutes. 

Ms. WATERS. Thank you very much. 

Mr. Chairman and Mr. Ranking Member, I know that quite a bit 

of discussion has gone on during this hearing, and unfortunately I 

couldn’t be here for all of it. But I have an early mission in this 

discussion about the future of the GSEs. I am anxious for both 

sides of the aisle to recognize the need and to come to grips with 

whether or not the private sector can supply the need for mortgages in a way that we have been accustomed to. With nearly $10 billion of single family residential mortgage debt 

outstanding, and with the Joint Center for Housing Studies at Harvard University projecting one million new households per year 

41 

over the next decade, the question is, do you think that bank portfolio lending can provide the capital necessary to supply the U.S. 

market and maintain the homeownership rates to which we have 

become accustomed? 

If we can just agree, if both sides of the aisle can get an agreement on this, then I think we can start down the road to talking 

about what this perhaps private-public partnership can be. But if 

we get stuck thinking that somehow we have to get rid of these 

GSEs, and that somehow the private lenders can take care of the 

mortgage needs, I think we are in trouble. 

So what do you think about this? Is this something that you 

think we need to pay special attention to and come to some agreement on? And I guess that would be for Dr. Susan Wachter. 

Ms. WACHTER. I don’t think that the $10 trillion can be taken on 

by the banking system at this point. It is just a no-starter, it won’t, 

it cannot happen. And it is a recipe for disaster for the overall 

economy to assume that we can just pull Fannie and Freddie out 

and there will be funding for the mortgage market going forward. 

I think that the private sector itself would confirm that they 

could not step up to the plate with that kind of funding in mind. 

This is the largest debt backed in the world, book of business. And 

there is no way that it can go to portfolios of the banking system 

at this point and still have a 30-year fixed-rate mortgage. That 

simply is, it is not, it cannot happen. I don’t think anyone could 

disagree with that. But I am interested to hear what others say. 

Ms. WATERS. I suppose I can ask the other members of the panel. 

Does anyone else think differently? Is there anyone on this panel 

who believes that the private market can handle this debt? This 

kind of mortgage lending? 

Mr. ROSNER. I would suggest that at this very moment, the answer would be ‘‘no.’’ But as Professor White has pointed out, the 

private market is a lot larger than bank balance sheets. It is the 

capital markets. So we first have to set about to repair the problems with securitization, to bring investors back. To bring comfort 

back to increased transparency and disclosure. 

In 1939, I guess, we created the Trust Indenture Act. I am still 

trying to figure out why we haven’t created something similar for 

the ABS market. 

Ms. WATERS. Excuse me, are you suggesting that some of the 

problems that we had with the subprime meltdown, those problems 

must be cured before we take a look at what we do with the GSEs? 

Mr. ROSNER. No, what I am suggesting is if you want the private 

markets to play a significant role and fill any void that Congress 

chooses to pull away from, you first need to make sure that the 

mechanisms are in place for private capital to be able to price risk. 

Ms. WATERS. So what you are saying is, you agree that there is 

a role for both government and the private sector to play? 

Mr. ROSNER. I think there is a role for the government to play 

because it is already in there and playing. I think the goal should 

be, medium- and long-term, to pull the government out of the market except where we explicitly backstop it on the balance sheet. 

And we need to foster the ability of private market to price risk. 

And we haven’t done any of that. 

42 

The SECs had a Reg AB extension sitting in front of it for 2 

years and did nothing to force the increased transparency that investors deserve. That would help standardize and create the transparency so that securitization markets, private securitization markets could come back. You can’t expect the private markets to do 

anything, until they have clarity as to what their contractural 

rights are— 

Ms. WATERS. Excuse me, if I may, we have allowed the private 

markets to do a lot. Which finds us in the situation that we are 

in today. And so my question really is whether or not you think 

government has a significant role to play in these GSEs? Can they 

be in partnership with the private sector in order to do the kind 

of mortgage lending that we need? That is really what the question 

is. It is not whether or not we should wait to repair— 

Mr. ROSNER. In answer to that question, I think that we should 

have the government explicitly focus on areas that it wants to put 

loans on its balance sheet. And other than that, there should be no 

implicit or partnership, I should say, between the government and 

private markets. That was the basis of the distortions that we have 

lived through. 

Mr. WHITE. I want to add one thing, Congresswoman. There has 

been a lot of talk about a revival, not of Fannie and Freddie, but 

a revival of some kind of government guarantee or government 

backstop. And somehow that is linked to a 30-year fixed-rate mortgage. And it is important to remember the guarantee, the backstop 

would be on credit risk, not on interest rate risk. But the 30-year 

fixed-rate mortgage and its problems, is primarily one of interest 

rate risk and a government guarantee doesn’t really deal with that. 

Now as Mr. Rosner just said, in the current environment with a 

lot of uncertainties and a lot of just unresolved, what are the rules? 

What is the information? There is clearly a strong role for government, as well as a focused role for FHA for dealing with the lowand moderate-income household segments of the market. 

But going forward, as the uncertainties are resolved, as private 

sector, as insurance companies, as pension funds become more comfortable with properly structured, lots of information, 30-year 

paper, I think that can be handled. That doesn’t mean eliminate 

FHA. FHA has a very valuable role to play. But it has to be clear, 

it has to be defined, it has to be on balance sheet. It shouldn’t be 

implicit and foggy and hope for the best. That is a big part of how 

we got to where we are today. 

Chairman GARRETT. The gentleman— 

Mr. ROSNER. The concept of a partnership between private enterprise and government is, in and of itself, sort of a scary concept. 

Chairman GARRETT. And on that scary concept, the gentlelady’s 

time has expired. We will— 

Ms. WATERS. I yield back. 

Chairman GARRETT. The gentlelady yields back. And we yield— 

Mr. ELLISON. Do you need more time? I yield to the gentlelady. 

Oh, okay, never mind. 

Chairman GARRETT. The gentleman is recognized for the final 5 

minutes, and the last word. 

Mr. ELLISON. Thank you, Mr. Chairman, and thank you, ranking 

member. And also let me thank the panel, you all have been helpVerDate Nov 24 2008 15:18 Jun 14, 2013 Jkt 080871 PO 00000 Frm 00048 Fmt 6633 Sfmt 6633 K:\DOCS\80871.TXT TERRI
43 

ful to our deliberations as we figure out how to move forward. One 

of the things that we are doing today, is not only exclusively focusing on what to do next, which is what my preference would be. But 

it is talking about what happened, because I think many of us hope 

that there are at least some lessons to be learned. 

I just want to ask a question, Mr. Rosner, again, thank you for 

your contribution. You were asked by one of my colleagues earlier, 

‘‘If GSEs had behaved differently in a subprime market, would that 

have prevented the crisis of 2008?’’ Your answer was, ‘‘I don’t think 

that the crisis itself would have necessarily been avoided if not for 

the GSEs. I do think that they accelerated and exacerbated those 

issues.’’ 

And so we are here today, trying to make sure the record is 

right. We have a hearing entitled, ‘‘Fannie Mae and Freddie Mac: 

How Government Housing Policy Failed Homeowners and Taxpayers—and here I want to emphasize—‘‘Led to the Financial Crisis.’’ Based on your response to Mr. Hurt, you do think that Fannie 

and Freddie played a role. But I think it is accurate to say that 

you don’t agree that Fannie and Freddie’s behavior led to the crisis. 

Is that a fair statement? 

Mr. ROSNER. I would say that Fannie and Freddie’s behavior seasoned the markets, created the foundation on which the crisis was 

able to occur. I would say separate housing policy from the GSEs 

further and government housing policies— 

Mr. ELLISON. Okay. 

Mr. ROSNER. —did in fact lead to the crisis. 

Mr. ELLISON. It is interesting you would say that. Because on the 

one hand, you very clearly said they didn’t lead it, but they exacerbated it. Now the statement you just gave me, made me think that 

you are sort of arguing that they did lead it. So I am not sure what 

you are saying. 

Mr. ROSNER. ‘‘Led’’ and ‘‘become the ultimate cause of’’ are two 

different things. And so again, the crisis, let’s go back to, one of the 

issues, I think the issue that a lot of us are having is, how do you 

date the crisis? How do you bound it? Did the crisis begin in 2004 

and end in 2007, 2008, 2009? 

Mr. ELLISON. Excuse me Mr. Rosner— 

Mr. ROSNER. Or did the crisis begin before? 

Mr. ELLISON. They only give me 5 minutes, I am sorry. 

Mr. ROSNER. Sorry. 

Mr. ELLISON. I wish we could hear more. But I read your book. 

And in your book you say, of all the partners in the homeownership 

push, no industry contributed more to corruption of the lending 

process than Wall Street. And then on another page, you say, ‘‘Wall 

Street had financed the questionable mortgages before, of course, 

but it was during the manias climactic period of 2005 to 2006 that 

these firms’ activities as the same primary enablers to the freewheeling lenders really went wild. No longer were the firms simply 

supplying capital to lenders trying to meet housing demand across 

America. Now Wall Street was supplying money to companies making increasingly poisonous loans to people with no ability to repay, 

and the firms knew precisely what they were doing.’’ 

Now again, we are in the very messy business of trying to apportion blame and fault. And I think that, as I said, my first comVerDate Nov 24 2008 15:18 Jun 14, 2013 Jkt 080871 PO 00000 Frm 00049 Fmt 6633 Sfmt 6633 K:\DOCS\80871.TXT TERRI
44 

ments were, that is unfortunate. But I didn’t bring this on you, Mr. 

Rosner. The committee chairman did by naming the hearing as he 

did. And I just want the record to be clear, you clearly are not trying to minimize the role of the GSEs. You have made it clear. But 

if I may just be explicit one more time, you don’t contend that they 

led to it, not withstanding other things that you do think, you don’t 

contend that they led to it? 

Mr. ROSNER. I don’t contend— 

Mr. ELLISON. Can you give me a simple answer to that question? 

Mr. ROSNER. I don’t think it is a simple question. 

Mr. ELLISON. Okay, that is fair. I get it. In other words, I will 

just let your words in the book and your comments on the record 

today stand— 

Mr. ROSNER. ‘‘Led to’’ and ‘‘caused’’ are two different things. 

Mr. ELLISON. And because my problem isn’t with you, Mr. 

Rosner, my problem is that we are, this is a serious problem which 

should be approached in a bipartisan way, and it isn’t. And you are 

coming here to help us understand this crisis as best you understand it. People are trying to use your words to sort of make a particular point. I am trying to, I am giving credit to what you said. 

You said they contributed. You said they ended up playing a fatal 

role. But you also said they did not lead to it. Isn’t that right? 

Mr. ROSNER. So you accept that I contend that they played a critical role? 

Mr. ELLISON. Yes. 

Mr. ROSNER. Then I will accept what you are suggesting. 

Mr. ELLISON. Okay, thank you. How much time—I am on the yellow light. Let me just ask you this, if you could tell Congress what 

they need to do, to make sure that ordinary income people with 

good credit can get a 30-year mortgage, what would you tell us we 

need to think about? Anybody who wants to answer? 

Ms. WACHTER. We can’t have a race to the bottom. You have to 

have standards. We have to have information that allows standards so that we can’t have this stealth underwriting crisis, brought 

about by Wall Street, happen again. We had years of growing 

homeownership before the crisis. We can get back on that path. 

Mr. ELLISON. Thank you. 

Mr. WHITE. ‘‘Conforming’’ and ‘‘conventional’’ are terms that 

should be definitionally standard terms. And they became constantly more and more distorted. I think that is really the problem, 

once you set a standard, that standard can’t creep over time. And 

the markets need to understand that is the standard, it is inviolable, and that is where it will stay. 

Mr. ELLISON. Let me thank all of the panelists and you, Mr. 

Chairman, and the ranking member. 

Chairman GARRETT. The gentleman yields back. And with that, 

let me just say, first of all, thank you to the panel. It is important 

testimony that we received today. We heard unanimity from both 

sides of the aisle that we need to go forward on this issue of the 

mortgage housing market, to try to fix it. 

Today’s hearing was important in that regard, that before you 

can solve a problem, before we can fix a problem, you have to know 

what caused the problem. In order to go forward, you have to know 

45 

where you have been. And so, that was the point of today’s hearing. 

I think we heard significant testimony— 

Mr. BACHUS. Mr. Chairman? 

Chairman GARRETT. —out of that. The gentleman from Alabama? 

Mr. BACHUS. Mr. Chairman, let me second that. I think Shakespeare originated, ‘‘the past is the prologue of the future,’’ in ‘‘The 

Tempest.’’ But this has been a very educational panel, and I want 

to thank all of you. And I would say that all our Members who 

didn’t go through this crisis, should read and I think by reading all 

four testimonies, we can certainly get some guideposts for the future. 

Mr. LIGON. Thank you, Congressman. 

Chairman GARRETT. I thought that you were going to suggest 

that they all read Mr. Rosner’s book to help support the sale of 

that book. 

The Chair notes that some Members may have additional questions for this panel, which they may wish to submit in writing. 

Without objection, the hearing record will remain open for 5 legislative days for Members to submit written questions to these witnesses and to place their responses in the record. Also, without objection, Members will have 5 legislative days to submit extraneous 

materials to the Chair for inclusion in the record. 

And again, thank you all. Thank you to the ranking member for 

staying with us through all of this and for her participation as well. 

The hearing is adjourned. 

[Whereupon, at 1:01 p.m., the hearing was adjourned.] 

(47) 

A P P E N D I X 

March 6, 2013 

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80871.001

erlie .. 

Hefitage Foundation 

214 Massachusetts Avenue, NE 

Washington, DC 20002-il999 

(202) 546·4400 

LEADERSHIP FOR AMERICA hcritage.org 

CONGRESSIONAL TESTIMONY 

Fannie Mae and Freddie Mac: 

How Government Housing Policy 

Failed Homeowners and Taxpayers 

and Led to the Financial Crisis 

Testimony before the 

Committee on Financial Services, 

Subcommittee on Capital Markets and 

Government Sponsored Enterprises 

United States House of Representatives 

March 6, 2013 

John L. Ligon 

Policy Analyst 

Center for Data Analysis 

The Heritage Foundation 
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80871.002

I. Introduction 

My name is John Ligon. I am a Policy Analyst in the Center for Data Analysis at 

the Heritage Foundation. The views I express in this testimony are my own and should 

not be construed as representing any official position of the Heritage Foundation. 

I thank Chairman Garrett, Ranking Member Maloney, and the rest of the 

committee for the opportunity to testify today. 

The sections in this written testimony lead to the following conclusion: Federal 

housing policies related to the government-sponsored enterprises (GSEs), Fannie Mae 

and Freddie Mac, have proved costly not only to the federal taxpayer, but also to the 

broader financial system. We should recognize their failure and move toward a U.S. 

mortgage market without these finance GSEs. 

II. Fannie Mae and Freddie Mac: Role in the U.S. Housing Finance Market 

ronnie Mae and Freddie Mac are the Ultimate Guarantors a/U.s. Mortgages. 

Fannie Mae, was originally chartered in J 938 as the Federal National Mortgage 

Association (FNMA). Freddie Mac, the Federal Home Loan Mortgage Corporation 

(FHLMC), was created in 1970. These institutions have grown significantly in size and 

scope in the U.S. mortgage market since their origination. Their asset holdings - either 

through mortgage securitizations or direct portfolio holdings - have increased from 

approximately 7 percent of total residential mortgage market originations in 1980 ($78 

billion) to about 47 percent in 2003 ($3.6 trillion).) 

By 2010, Fannie Mae and Freddie Mac owned or guaranteed approximately half 

of all outstanding mortgages in the United States, including a significant share of subprime mortgages, and financed 63 percent of new mortgages originated in that year? 

Other federal agencies, including the Federal Housing Finance Agency and Department 

of Veterans Affairs, guarantee approximately an additional 23 percent of residential 

mortgages. This means that federal taxpayers guarantee approximately 90 percent of all 

new mortgage originations in the current market. 3 

Fannie Mac and Freddie Mac were placed into federal conservatorship under 

regulatory authority conferred to the Federal Housing Finance Agency (FHFA) in the 
50 


80871.003

Housing and Economic Recovery Act (HERA) of2008. 4 These institutions faced a 

combined loss on net income of $108 billion in 2008 on defaulted mortgage assets in 

their respective portfolios, and the federal government provided the capital to cover the 

losses.s The net loss to federal taxpayers has been $143 billion-$188 billion in transfers 

from the federal government less $45 billion in dividend pay-outs from the GSEs.6 

Moreover, now that Fannie Mae and Freddie Mac fall within federal 

conservatorship, their combined agency debt, mortgage, and mortgage-related holdings 

are directly guaranteed by the federal government. The federal government provides 

direct financing, and the ageney debt is not considered official government debt 

therefore not included in the accounting of federal publicly held debt. The level of agency 

debt is massive and has exploded over the last 40 years: in 1970 agency debt as a share of 

U.S. Treasury debt was 15 pereent, and as of201 0, this share was 81 percent (a combined 

$7.5 trillion)7 

F'ederal~y Initiated Affordable Housing Goals Undermine Homeownership. 

Fannie Mae and Freddie Mac have operated under congressionally mandated missions to 

expand mortgage credit to specific income groups and achieve specific housing goals 

while trying to also compete for higher profits in the U.S. m0l1gage and secondary 

mortgage markets.s These federally initiated affordable housing goals led to gradual 

deterioration oflending standards in the entire U.S. mortgage market beginning in the 

1990s. 

The relaxation of lending standards in the U.S. mortgage market started in earnest 

in the 1990s. In 1995, the Department of Housing and Urban Development (BUD) 

established a target goal relating to the homeownership rate among low-income groups, 

which was eventually set at 70 percent. Then in 1999, BUD directed Fannie Mae and 

Freddie Mac to relax their requirement standards on mortgage loans, includlllg a mevc 

toward sub- and non-prime loan approval, yet maintained their inability to make moves in 

the non-conforming market. (See Table 1.) During the 1990s, the GSE share of mortgage 

loans with high loan-to-value (LTV) ratios rose from around 6 percent of purchases in 

1992 to 19 percent in 1995.9 

Starting in 2006, there was further easing of mortgage lending standards 

combined with low interest rate policy by the Federal Reserve. JO In 2002, the private 

2 
51 


80871.004

mortgage market aggressively moved toward non-conforming and jumbo mortgage loans. 

Fannie Mae and Freddie Mac, constrained by the conforming-mortgage thresholds set on 

their mortgage originations, shifted their portfolio allocations towards private label 

mortgage-backed securities to achieve their affordable housing goals. Between 2002 and 

2006, total mortgage-related securities holdings for Fannie Mae and Freddie Mac 

decreased approximately by half while their combined holdings of private label 

mortgage-backed securities increased substantially during this same time period. (See 

Chart I.) 

The erosion of lending standards that stretched across the U.S. mortgage market 

from 2000 to 2006 weakened the quality of holdings even in the GSEs portfolios since a 

sizeable share of their mortgage-backed security holdings were securitized from subprime and non-prime mortgages. From 200 I to 2006, sub-prime loans increased from 

$120 billion (5.5 percent of U.S. mortgage originations) to $600 billion (20 percent of the 

U.S. mortgage market originations). I I Moreover, the level of borrowing against equity in 

home mortgages (home equity lines of credit (HELOCs)) increased from $130 billion (6 

percent of the U.S. mortgage market) in 2001 to $430 billion (about 15 percent of the 

U.S. mortgage market) in 2006. Thus, the total level of non-prime mortgage loans peaked 

at 48 percent of the mortgage market in 2006 12 Between 2006 and 2007, Fannie Mae 

held 25 percent of its total loans with LTV above 80 percent and 18 percent in loans with 

credit scores lower than 660 and nearly 23 percent in sub-prime and other high-risk 

mortgages and 15 percent in interest-only loans. 13 

During the 2002 to 2006 boom period, overall debt-to-income levels rose sharply 

for many U.S. households. Mortgage and non-home-related debt rose at a similar pace 

from 1996 to 2002, but mortgage-related debt accelerated faster than Ilon-home-related 

debt from 2002 to 2006. 14 While housing-related asset valuations were risi'ig, the lev.::] of 

borrowing activity against the higher home values - home-equity-based borrowing also 

increased. This borrowing behavior remained mostly concentrated among younger 

households with low credit scores or households with high initial credit card utilization 

rates. Between 2002 and 2006, with lower lending standards and rising home values, a 

significant share of these younger and lower-credit-quality homeowners aggressively 

borrowed against the higher value of their homes. By 2008, homeowners who had 

3 
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80871.005

borrowed against the increased value of their homes ended up with $1.25 trillion more in 

total houschold debt. ls These same homeowners accounted for 39 percent of total ncw 

mOltgage defaults between 2006 and 2008. 16 

Since 2006, national home prices have declined substantially, and some regional 

markcts have experienced catastrophic decreases. In many regional housing markets, 

since 2007, these price changes and weakening macroeconomic fundamentals (e.g., high 

unemployment rates and falling household incomes) have put downward pressure on both 

the demand and the supply of housing and mortgage credit. 17 The combination of 

dramatic asset price reversion and macroeconomic instability left and still leaves -

many households unable to stay current on their home payments. Consequently, 

beginning in 2007, the rate of defaults and delinquencies spiked as prices began to 

plummct. 

Fannie Mae and Freddie Mac Undermined Stability in the US. Financial System. 

Because of the broad reach of the mortgage assets - including direct mortgage holdings 

and market securitizations - to the U.S. financial markets, the recent downturn in prices 

dramatically affected household wealth. The loss in value in mortgage-related assets 

significantly affected financial institutions, especially Fannie Mae and Freddie Mac, 

which were systemically part of the financial system. 

As economist Lawrence J. White notes, the aggregate financiallosscs during the 

"tech" bubble of the late 1990s and financial losses from the mortgage and housing 

bubble of2007 were comparable at approximately $7 trillion. 18 While households 

absorbed many of these losses in both bubble episodes, nearly $1.3 trillion ofthe losses 

was in key financial institutions from depository institutions to the mortgage GSES. 19 

Many of the largest financial institutions did not have the capital to cover these losses and 

this led to a bailout of hundreds of billions of dollars, and bankruptcies for some. The 

losses led to widespread uncertainty about the viability of many of the leading financial 

institutions, which triggered a sharp dccline in the stock market and, subsequelltly, the 

overall eeonomy?O 

4 
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80871.006

III. Fannie Mae and Freddie Mac: Estimated Value of Taxpayer Subsidy 

Prior to FHF A conservatorship and the explicit backing of the federal 

govemment, market purchasers of the GSE debt believed that Fannie Mae and Freddie 

Mac's agency debt was implicitly backed by the federal government. This belief 

stemmed from the many borrowing, tax, and regulatory advantages not conferred to any 

other shareholder corporation. First, these two housing finance GSEs were exempt from 

many state investor protection laws, and received specific federal charters, mainly 

issuances of mortgage credit to income-specific groups ofhouseholds.21 Second, Fannie 

Mae and Freddie Mac were exempt from state and local income taxation. Third, they 

were exempt from Securities and Exchange Commission registration and bank 

regulations on security holdings. Fourth, they held a direct line of credit with the U.S. 

Treasury, issuing agency debt and borrowing between corporate AAA credit interest rate 

yields and U.S. Treasury interest rate yields. Last, they received U.S. agency status and 

the guarantee of the federal govemment on mortgage-backed securities. 22 

The annual estimated value of these subsidy benefits is substantial, ranging from 

about $7 billion to $20 billion before FHFA conservatorship. (See Chart 2.) This subsidy 

value translates into an estimate between 20 and 50 basis points on mortgage interest 

rates, a share ofthe value passed through to the shareholders of these firms and a share 

passed through to mortgage holders. 

Eeonomists have made several attempts to estimate the value of these federal 

subsidies. The Congressional Budget Office estimates that ageney debt subsidy (lower 

borrowing costs) results in a 41 basis point value to shareholders and borrowers. Fannie 

Mae and Freddie Mac pass through 25 basis points of the subsidy value to borrowers and 

shareholders retain an estimated 16 basis points on each dollar of debt. These economists 

estimate a subsidy value on mortgage-backed securities at 30 basis points, where 

approximately 25 basis points are passed to the borrowers ofmortgages. 21 Additionally, 

Wayne Passmore and his co-authors estimate a 40 basis point subsidy to GSE debt,24 

They estimate that the pass-through of the GSE debt subsidy lowers mortgage rates to 

homeowners by 7 basis points, or 16 percent of the total 40 basis point subsidy value. 25 

5 
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80871.007

IV. Fannie Mae and Freddie Mac: The Economic Impact of Ending the 

Taxpayer Subsidy 

The cessation of activity by Fannie Mae and Freddie Mac would effectively 

translate into a removal of an interest rate subsidy. Recent research by analysts at the 

Heritage Foundation indicates that removing this subsidy would have minimal effect on 

the U.S. housing market and the U.S. economy more broadly. This line of research 

encompasses three studies that estimate the impact of removing the GSE interest rate 

subsidy on housing starts, home prices, and overall homeownership. In a final study, we 

estimate the economic effect of eliminating the subsidy. 

The Heritage studies on housing starts, home prices, and homeownership indicate 

that changes in the housing market are more responsive to changes in overall economic 

fundamentals (e.g., personal income levels, real output, level of household debt, etc.) 

relative to changes in interest rates or certain credit approval requirements, such as down 

payment levels?6 Once the housing and financial markets recover from the recent 

turmoil, shutting down Fannie Mae and Freddie Mae would have, at most, a minimal 

impact on the overall housing market. 

Additionally, our researeh studies the likely impact of removing the interest rate 

subsidy in a macroeconomic framework. Opponents of eliminating GSEs in the housing 

finance industry assert that phasing out the GSEs would leave the housing market and 

economy worse off. Heritage research suggests, however, that eliminating Fannie Mae 

and Freddie Mac would have a minimal and predictable impact on these markets and the 

overall economy.27 The average annual decline in real output over the 10-year forecast 

period is 0.04 percent, or a $6 billion average difference from baseline levels, smaller 

than the estimated average annual subsidy value to these institutions and far less than the 

average annual cost of these institutions to the federal taxpayer. Thus, claims of drastic 

economic effects are overstated. 

6 
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80871.008

V. Fannie Mae and Freddie Mac: Eliminating Government-Sponsored 

Enterprises in Housing Finance 

After more than three decades of experience with boom and bust cycles in the 

housing market, which have affected not only household income and wealth but also 

financial markets, federal policymakers should seriously reconsider the federal 

government's role in shaping housing policy through GSEs such as Fannie Mae and 

Freddie Mac. These institutions distort thc U.S. housing and mortgage markets at 

substantial risk to households and U.S. taxpayers. 

Eliminating the present role Fannie Mae and Freddie Mac play in the U.S. 

mortgage market could save billions of taxpayer dollars in the U.S. mortgage market 

through eliminating the subsidy that has induced U.S. households to take on more debtrelated consumption, ending up underwater. Many households were never in position to 

handle such debt; therefore, subsidizing them to become homeowners is not only 

inconsequential in raising homeownership but also detrimental to the financial market. 

The housing finance GSEs played a central role in the systemic nature of the 

collapse of the financial market. It is necessary to learn from the failures of this 

institutional model and restore properly aligned incentives to the U.S. housing and 

housing finance markets.28 Congressional leaders made the mistakes of creating Fannie 

Mae and Freddie Mac and subsidizing their activity in the U.S. mortgage market through 

special access to federal funds and an implicit guarantee prior to federal conservatorship 

in 2008. They need to wind down the GSEs and establish a U.S housing finance market 

free of the distortions this institutional arrangement generates. 

7 
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80871.009

Table 1 -Fannie Mae and Freddie Mac Interventions in the Housing Market 

1975 Risk regulators, with secondary adoption of National Recognized Statistical Rating 

Organizations (NRSROs), begin moving from "prudent" to risk-based rating. 

1986 Real Estate MOitgage Investment Conduits (REMICs), introduced by the Tax 

Reform Act of 1986, encourage private securitization by allowing credit tranches 

into subordinate securities. Opposition from the newly privatized Freddie Mac and 

long privatized Fannie Mae prevent private securitization from being established. 

1992 Federal Housing Enterprise Financial Safety and Soundness Act establishes the 

Office of Federal Housing Enterprise Oversight (OFHEO) as a regulator. 

HUD gives target goals to Fannie and Freddie to raise homeownership rate among 

1995 low-income groups. The Administration raises the homeownership rate goal to 70 

percent. 

1999 Fannie Mae eases the requirements on loans and moves to sub-prime mortgages. 

2004 BUD urges Fannie and Freddie to increase their purchases of SUb-prime and Alt-A 

(between prime and subprime) mortgages. 

May The House passes Federal Housing Finance Reform Act of2007, which would 

2007 create a new regulator, but with no control over the mortgage-backed securities 

portfolios of Fannie and Freddie. 

July When the Fannie and Freddie reach the financial precipice, the House and Senate 

2008 pass the Federal Housing Finance Regulatory Reform Act of2008. 

Source: Nahid Kalbasi Anaraki, "A HOllsing Market Without Fannie Mae and Freddie Mac: Effect on 

Home Prices." Heritage Foundation Special Report No.1 05, April 18,2012, 

http://www.heritage.orgiresearch/reports/20 12/04!a-housing-market-without-fannie-mae-and-freddie-maceffect-on-home-prices. 

8 
57 


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Chart 1 

Securities Held for Investment 

IN81LUONS 

OF 2011 

DOlLARS 

Total MortgageRelated Securities 

FHFA Conservatorship 

Mortgage-Related Securities, 

Private Label 

Fonnie [VIae 

Source: Federal Housing Finance Agency, 2017 Report to Congress, June 13, 2012, pp. 77-79, Table Sb, 

and pp. 94-96, Table 14b, http://www.fhfa.gov/webfiles/24009/FHFA_RepToCongrll_6_14_S08.pdf 

(accessed November 8,2012). 

9 
58 


80871.011

Chart 2 

Estimated Value of the Federal Subsidies to Fannie 

and Freddie Prior to FHFA Conservatorship 

IN BIlliONS OF 2009 DOllARS 

Total Estimated 

Federal Subsidies 

to Fannie Mae 

and Freddie Mac 

Subsidies to Debt 

Issued by Fannie Mae 

. and Freddie Mac 

'. Subsidies to 

Mortgage-Backed 

Securities Guarantees 

by Fannie Mae and 

Freddie Mac 

Annual Value of Tax 

and Regulatory 

... Exemption, Fannie 

Mae and Freddie Mac 

Sources: Heritage Foundation calculations based on data from Congressional Budget Office, "Federal 

Subsidies and the Housing GSEs," May 2001, http://www.cbo.gov/sites/defaultjfiles/cbofiles/ 

ftpdocs/28xx/doc2841/gses,pdf (accessed November 5, 2012); Congressional Budget OHice, 

"Updated Estimates of the Subsidies to the Housing GSEs," AprilS, 2004, http://www,cbo.gov/sites/ 

default/files/cbofiles/ftpdocs/53xx/doc5368/04-08-gse.pdf (accessed November 5, 2012); and 

Federal Housing Finance Agency, 2071 Report to Congress, June 13,2012, p. 72, Table 3, and p, 89, Table 

12, http://www,thfa,gov/webfiles/24009/FHFA_Rep ToCongrlL6_14_508,pdf 

(accessed November 8, 2012), 

10 
59 


80871.012

******************* 

The Heritage Foundation is a public policy, research, and educational organization 

recognized as exempt under section 501(c)(3) of the Intemal Revenue Code. It is 

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perform any govemment or other contract work. 

The Heritage Foundation is the most broadly supported think tank in the United States. 

During 2012, it had nearly 700,000 individual, foundation, and corporate supporters 

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Individuals 

Foundations 

Corporations 

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5% 

The top five corporate givers provided The Heritage Foundation with 2% of its 2012 

income. The Heritage Foundation's books are audited annually by the national accounting 

firm of McGladrey & Pullen. A list of major donors is available from The Heritage 

Foundation upon request. 

Members of The Heritage Foundation staff testify as individuals discussing their own 

independent research. The views expressed are their own and do not reflect an 

institutional position for The Heritage Foundation or its board of trustees. 

1 W. Scott Frame and Lawrence J. White, "Fussing and Fuming over Fannie Mae and Freddie Mac: How 

Much Smoke, How Much Fire?" Journal of Economic Perspectives, Vol. 19, No.2 (Spring 2005), pp. 159-

162. 

, Deborah Lucas, "The Budgetary Cost of Fannie Mae and Freddie Mac and Options for the Future Federal 

Role in the Secondary Mortgage Market," statement before the Commit1ee on the Budget, U.S. House of 

Representatives, June 2, 2011, p. 7. 

http://www.cb,D .. govisite1ibi.l'fault/files/cbofile.iftpdocsIJ 22xx!doc 12213i06-02-gses testimony.pdf 

(accessed June 4, 2012). 

3 Ibid., p. 162. 

'Prior to FHFA conservatorship, Fannie Mae and Freddie Mac were regulated by the Office of Federal 

Housing Enterprise Oversight (OFHEO). The Housing and Economic Recovery Act (HERA) of2008 

transferred the regulatory responsibility to the FHFA. 

5 HERA conferred to the FHFA the power to place Fannie Mae and Freddie Mac in federal conservatorship, 

which the FHFA did in September 2008. 

'Rachelle Younglai, "U.S. Tightens Reins on Fannie Mae, Freddie Mac," Reuters, at 

http://www.reuters.com/articlei20 I 2!08il7/us-usa-housing-idUSBRE87GOEN20 120817 (accessed March 

5,2013). Through March 2011 the net loss to federal taxpayers totaled $154 billion in capital subsidies 

($180 billion net $24 billion in dividends on its preferred stock). Lucas. "The Budgetary Cost of Fannie 

Mae and Freddie Mac," p. 2. 

7 Alex J. Pollack, "The Government's Four-Decade Financial Experiment," The American, July 13,20 II, 

http://www.american.com!archive/20J I Ij ulyffiJ.e-f!overnment20 19s-four-decade-finaD_cial-experiment 

(accessed June 4, 2012) 

II 
60 


80871.013

8 Frame and White, "Fussing and Fuming over Fannie and Freddie," pp, 162-163, 

9 Karl Case r indicates that during the 1 990s, "[the] sum of outstanding mortgages with some form of 

mortgage insurance or guarantee (from the Federal Housing Administration or Veterans Affairs, or through 

private mortgage insurance), the risk-tranched securities of Fannie Mae and Freddie Mac, and the subprime 

market has increased from 16 percent to just under 40 percent of total mortgage credit." Karl E. Case, "Real 

Estate and the Macroeconomy," Brookings Papers on Economic Activity, 2000, pp, 119-162, 

http://www,brookings,ed_u/-/mediafProjects/BPEAlFall%202000/2000b bpea case. PDF (accessed 

November 6, 2012) 

10 The inflation-adjusted yield on lO-year Treasury notes f,,11120 basis points from 1996 to 2006, and 190 

basis points from 2000 to 2005, Edward L Edward L Glaeser, Joshua D, Gottlieb, and Joseph Gyourko, 

"Can Cheap Credit Explain the Housing Boom'?" National Bureau of Ecollomic Research Working Paper 

No, 16230, July 2010, h!lp://www'rlpeLorg/pape[s/wI6230 (accessed November 5, 2012),Additionaliy, 

there is debate about the role that interest rates play in the pattern of home prices in the lead-up to the price 

peak of2006, Numerous economists acknowledge that interest rate policy was one of many factors that 

drove the most recent housing bubble, See John B, Taylor, "Housing and Monelary Policy," National 

Bureau of Economic Research Working Paper No, 13682, December 2007, 

htlp:llwww,nbeLorg/papers/wI3682 (accessed June 4,2012); Karl E, Case and John M, Quigley, "How 

Housing Busts End: Home Prices, User Cost, and Rigidities During Down Cycles," University of 

Califomia, Berkeley, Illstitute of Business and Economic Research, Program Oil Housing and Urban Policy 

Working Paper No. W08-00S, September 1, 2009, pp, 460-471, 

htlp://www,escholarship,orgluc/iteml6mh9m4ff(accessed November 5, 2012); Adam J, Levitin and Susan 

M, Wachter, "Explaining the Housing Bubble," September 1, 20 I 0, revised May 16, 2012, 

http://papers,ssmcom/soI3/papers,cfm?abstract id=1669401 (accessed June 4, 2012), Some posit that 

interest rate policy can substantially affect price movements during bubble periods, particularly the bubble 

of2000-2005, Charles Himmelberg, Christopher Mayer, and Todd Sinai, "Assessing High House Prices: 

Bubbles, Fundamentals, and Misperceptions," Journal of Economic Perspectives, Vol. 19, No, 4 (Fall 

2005), pp, 67-72, http://pubs,aeaweb,org/doilpdfplusil 0, 12571089533005775196769 (accessed November 

6,2012), and Taylor, "Housing and Monetary Policy." Case and Quigley make the case that expansionary 

monetary policy by the Federal Reserve induced strong demand pressures in the U.S, mortgage and housing 

markets, beginning in 2002 with a strong demand for refinancing, Case and Quigley, "How Housing Busts 

End," Still, others argue that interest rates have little role and that other faclors, such as price expectations 

of homeowners, matter more in the strong price movement during bubble periods, Glaeser et aI., "Can 

Cheap Credit Explain the Housing Boom?" Additionally, Fannie Mae and Freddie Mac pass a substantial 

interest rate subsidy in the mortgage market due to their low-cost borrowing advantage with the Treasury, 

Taylor, "Housing and Monetary Policy"; Case and Quigley, "How Housing Busts End"; Levitin and 

Wachter, "Explaining the Housing Bubble", 

Jl Viral V. Acharya et aI, Guaranteed to Fail: Fannie Mae, Freddie Mac, and the Debacle afMortgage 

Finance (Princeton, NJ: Princeton University Press, 20 II), p, 46, 

12 Ibid, 

13 Acharya et ai, Guaranteed fo Fail, p, 39, 

14 Atif Mian and Amir Sufi, "House Prices, Home Equity-Based Borrowing, and the U.S, Household 

Leverage Crisis," American Economic Review, August 20 I!, Vol. 10 I, No, 5 (August 2011), pp, 2132-

2156, 

15 Mian and Sufi, "House Prices," pp. 2132-2156, Acharya et al. note that, including credit card debt, by 

2008, households in the U,S, collectively owed more than! 14 percent of total gross domestic product, or 

$16,4 trillion, By 2010, households still owed $12.8 trillion in mortgage debt and $15,8 trillion in total 

debt. These changes in debt levels correspond to a declining share of home equity as a share of aggregate 

household wealth-the share fell from 62 percent in the third quarter of 2005 to 35 percent in the first 

quarter of2009, Acharya et aI., Guaranleed to Fail, pp, 92-92, 

16 Mian and Sufi find that "a total of$1.25 trillion of the rise in household debt from 2002 to 2006 is 

attributable to existing homeowners borrowing against the increased value of their homes [and that] at least 

39% of total new defaults seen between 2006 and 2008 are from 1997 homeowners who borrowed 

aggressively against the rising value oftheir houses, [Lower] credit quality households living in high house 

price appreciation areas experience a relative decline in default rate from 2002-2006 as they borrow heavily 

12 
61 


80871.014

against their home equity, but experience very high default rates from 2006-2008. [There is] a very strong 

home equity-based borrowing effect for low credit quality borrowers. [In] contrast there is almost no effect 

for high quality borrowers." Mian and Sufi, "House Prices," pp. 2132-2156. 

17 Changes to mortgage credit will likely affect both supply and demand and respond to changes in home 

prices. Additionally, a decline in housing prices does not in itselflead to a downturn in the U.S. housing 

and mortgage market. First, there is a psychological attachment to homes and areas of residence. It is not 

easy to leave and relocate for many families. Second, homeowners, while negatively affected by 

dramatically declining prices, do not necessarily need to sell their homes. Homeowners' behavior 

significantly affects price adjustments in housing-related asset markets, especially residential markets. In 

particular, there is sticky downward adjustment to market clearing equilibrium because homeowners 

generally hold out on lowering home prices. In many cases, if homeowners still have jobs and income to 

make monthly payments, they may not want to leave their location and home. Third, a drop in home prices 

makes it easier for non-homeowners to enter the housing market by making homes more affordable. Case 

and Quigley, "How Housing Busts End," pp. 477-479. 

18 Lawrence J. White, "The Way Forward; U.S. Residential M0I1gage Finance in a Post-GSE World;' 

March 3, 2011, pp. 11-13, bttp;liwebdocs.stern.nvu.edu!old web/economics/docs!workingpapers/20 II/whiteresidentia.!%20mortgage%20finance%203.3.I1.pdf(accessed November 5, 2012) 

"Ibid. 

20 Ibid. 

21 Dwight M. Jaffee and John M. Quigley, "Housing Subsidies and Homeowners; What Role for 

Govemment-Sponsored Enterprises?" University of California, Berkeley, Institute of Business and 

Economic Research and Fisher Center for Real Estate and Urban Policy Working Paper No. W06-006, 

January 2007, pp. 120-123, http;/iurb"JlPQljcv.berkelev.edulpdfIJQ HOtlgl1L~bsidies Proof 053007.pdf 

(accessed November g, 2012). 

22 Ibid., p.122 

OJ Congressional Budget Office, "Federal Subsidies and the Housing GSEs," May 2001, pp. 23 and 26-28, 

http;! Iwww.cbo.govlsites/default/fil~s/cbofiles!ftpdocs/28x.x/ doc 0 S41/gses.pdf (accessed November 5, 

2012). Douglas Holtz-Eakin, "Updated Estimates of the Subsidies to the Housing GSEs," letter (0 Senator 

Richard C. Shelby, Chairman, Committee on Banking, Housing, and Urban Affairs, U.S. House of 

Representatives, April g, 2004, http://www.cbo.gov!sites/defaultlf1les!cbofiles/ftJ),docs/53xxidllc536g!04-

08-gse.pdf(accessed November 5, 2012) 

" Wayne Passmore, S. Sherlund, and G. Burgess, "The Effect of Housing Government-Sponsored 

Enterprises on Mortgage Rates," Real E,late Economics, Vol. 33 No 3 (2005), pp. 19-22. 

25 Ibid. 

26 See Nahid Kalbasi Anaraki, "A Housing Market Without Fannie Mac and Freddie Mac; The Effect on 

Housing Starts," Heritage Foundation Special Report No. 120, October 4, 2012, 

http://wv,w.heritage.orgiresearch/reports/2012/1 O/a-housing-market-without-fannie-mae-and-freddie-maceffect-on-housing-starts. See also, Nahid Kalbasi Anaraki, "A Housing Market Without Fannie Mae and 

Freddie Mac; Effect on Home Prices," Heritage Foundation SpeCial Report No. 105, April 18, 2012, 

http://www.hcritage.orQiresearchlrepolis!20 12/04/a~housing~market-without-fannie-mae-and-freddie-maceftect-on-home-prices. See also, Nahid Kalbasi Anaraki, "A Housing Market Without Fannie Mae and 

Freddie Mac; Effect on the Homeownership Rate," Heritage Foundation Special Report No.1 09, June J J, 

2012, http;llwww.heritage.org/researchfreportsf20 12/06!a-housing-market-without-fannie-mae-and-freddiemac-effect-on-the-homeownership-rate. 

21 John L. Ligon and William W. Beach, "A Housing Market Without of Fannie Mae and Freddie Mac; The 

Economic Effects of Eliminating Govell1ment-Sponsored Enterprises in Housing," Heritage Foundation 

Special Report No. 127, January g, 2013, !J.l1J1;{lwww.heritag~reSJ'_~.r,,-biD1'ortsi20 J 3/0 J la-housingmarket-free-of-fannie-mae-freddie-mac# ftn17 (accessed March 3, 2013) 

28 David C. John, "Free the Housing Finance Market from Fannie Mae and Freddie Mac," Heritage 

Foundation Backgrounder No. 2577. July 12,201 J, http;i/www.heritage.orgiresearch/rcports!20Ili07ifreethe-housing-f1nance-market-from-fannie-mae-and-freddie-mac. 

13 
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80871.015

Testimony of Joshua Rosner 

Subcommittee on Capital markets and Government Sponsored Enterprises: 

Fannie Mae and Freddie Mac: How Government Housing Policy Failed 

Homeowners and Taxpayers and Led to the Financial Crisis: 

10:00 a.m. March 6, 2012 

Room 2128 Rayburn House Office Building 

Thankyou Chairman Garrett, Ranking Member Maloney and members of the 

subcommittee for inviting me to testify on this important subject. 

In July 20011 authored a paper titled "Housing in the New Millennium: A Home 

Without Equity is Just a Rental with Debt".l That paper, written in the aftermath of 

the "dot com" crash, sought to answer questions about the relationship between the 

broader economy and the housing market and whether housing would be hurt by a 

faltering economy. 

The executive summary of the paper noted "there are elements in place for the 

housing sector to continue to experience growth well above CDP. However, we believe 

there are risks that can materially distort the growth prospects of the sector". 

Specifically, I warned, "it appears that a large portion of the housing sector's growth 

in the 1990's came from the easing of the credit underwriting process" and that easing 

included: 

• "The drastic reduction of minimum down payment levels from 20% to 0%"; 

• "A focused effort to target the "low income" borrower"; 

• "The reduction in private mortgage insurance requirements on high loan to value 

mortgages"; 

• "The increasing use of software to streamline the origination process and 

modify /recast delinquent loans in order to keep them classified as 'current"'; and 

• "Changes in the appraisal process that have led to widespread overappraisal/over-valuation problems." 

1 concluded: "If these trends remain in place, it is likely that the home purchase boom 

of the past decade will continue unabated. Despite the increasingly more difficult 

economic environment, it may be possible for lenders to further ease credit standards 

and more fully exploit less penetrated markets. Recently targeted populations that 

have historically been denied homeownership opportunities have offered the mortgage 

industry novel hurdles to overcome .... The virtuous circle of in creasing 

homeownership due to greater leverage has the potential to become a vicious 

cycle of lower home prices due to an accelerating rate offoreclosures." 
63 


80871.016

As you will see in my testimony, the GSEs, which were originally government 

agencies intended to provide liquidity to the secondary mortgage market, were 

repurposed by the Clinton administration to direct social policy through the housing 

and mortgage markets. The combination of using the GSEs as "tools"2 of social policy 

and falling interest rates built the foundation of the housing bubble by supporting 

acceptance of low- and no-down payment loans, lower FICO scores, higher debt-toincome and loan-to-value ratios. These "benefits" are exemplified by the 1999 

comments of Fannie Mae's Chairman that "a record of prompt utility bill and rent 

payments can be substituted for the traditional credit report to verify a potential 

borrower's willingness to pay a mortgage loan".3 

In early 1993, the Clinton administration realized that, among the "available Federal 

resources", "capital investments for housing and community development" could be 

driven "through Fannie Mae, Freddie Mac, FHA, and HUD/USDA programs"4 and 

HUD has established performance goals for Fannie Mae and Freddie Mac. 

As Susan Wachter noted in 2003: 

"The goal of the federal chartering of Fannie Mae and Freddie 

Mac .. is to achieve public policy objectives including the promotion of 

nationwide homeownership through the purchase and securitization of 

mortgages. The Federal government provides a number of economic privileges 

to the GSEs, most important ofwhich is the implied Federal government 

guarantee which decreases the enterprises'funding costs ... 

Fannie Mae and Freddie Mac have contributed to the expansion of 

homeownership in America, providing affordable residential mortgages for 

low- and moderate-income households who otherwise might not have the 

opportunity to become homeowners ... GSEs have accomplished this in part 

through their special affordable lending programs but also importantly 

through lower mortgage and down payment rates that would not prevail but 

for the presence of the GSEs." 

In 1994, the Administration set about to "raise the ownership rate by 0.5% - 1.0% 

per year for the seven years, from 65% to 70% by the year 2000" and recognized 

this "can be done almost entirely off-budget-through creative leadership and 

partnerships with HUD, FHA, Fannie Mae, Freddie Mac, FHLBS, CDFls, the private 

mortgage and insurance companies, and the banks and thrifts".5 

The Administration created a "National Homeownership Strategy"6 which included 

the goal of using the GSEs to "provide low- and no-downpayment loans to eligible 

low- and moderate-income purchasers"7 even to borrowers "the private mortgage 

market has deemed to be un-credit-worthy"8. 

In a 1998 memorandum, then Secretary of the Treasury Robert Rubin recognized 

many of the risks associated with increasing lending to the most 'at risk' borrowers 

noted: 

7 
64 


80871.017

Lowering the down payment requirement is likely to reduce saving among 

low-income people who would like to be home owners; 

We may not want to encourage poor people especially those who cannot save 

to purchase their homes. In an economic downturn, these home owners may 

be more vulnerable and more likely to lose their homes; and 

It is not clear that home ownership causes the effects attributed to 

homeowners. 

Still, the Clinton Administration's plans continued.9 

Reversing major trends, homeownership began to rise in 1995 and continued to rise 

through the late 1990's. Existing home sales grew from 27.5 million units in the 

1970's to 29.8 million units in the 1980's and ended the 1990's at 40 million units. 

New home sales grew from 6.5 million units in the 1970's to 6.1 million units in the 

1980's and ended the 1990's at 7.0 million. By 2000, US homeownership exceeded 

67%. 

"In 1989 only 7 percent of home mortgages were made with less than 10 percent 

down payment. By August 1994, low down payment mortgage loans had increased 

to 29 percent". This trend continued unabated throughout the 1990's and by 1999, 

over 50 % of mortgages had down payments of less than 10%.ln 1976 the average 

down payment by first time homebuyers was 18% and by 1999 that down payment 

had fallen to 12.6%. In 1999, more than 5% of all residential mortgages had no 

equity or had negative home-equity. Eliminating down payment barriers has 

created a homeownership option for Americans who previously were forced to rent, 

due to savings or credit issues.10 While the GSEs were certainly a key driver of these 

results other government actions,u fraud,12 and the impact offalling interest rates 

also fueled the expansion. 

By increasing investor confidence with low and no down payment mortgage 

products, the GSEs seasoned the market. But they were surely not the only 

culprits. In 2001, after much lobbying from the banking industry and rating agencies, 

the Basel Committee determined that AAA and AA rated private label securities should 

carry the same risk weightings as correspondingly rated GSE productsJ3 This action, 

as much as any other, opened the floodgates to the reckless private label securitization 

of the most toxic mortgage products. 

Banks that had only a few years before sought to reduce their exposures to 

consumer lending used their branch network to originate loans to distribute 

through securitization markets. Investment banks, which had no branch networks, 

began to expand their provisioning of warehouse lines of credit to third party 

mortgage originators. 

By 2002 the private label securitization (PLS) market was now at ease with changes 

made in 2000 by the GSEs "which expanded their purchases to include "A It-A," Aminus, and subprime mortgages, in addition to private-label mortgage securities".14 

Private issuers began to aggressively target borrowers with lower down payments, 
65 


80871.018

lower FICO scores, lower documentation, higher debt-to-income and higher loan-tovalue ratios. PLS activity exploded. Conforming securitization rates increased from 

60 percent in 2000 to 82 percent in 2005 and non-conforming securitization rates 

from 35 to 60 percent over that same period. 

As the PLS market took off the investment banks and their third-party mortgage 

origination partners created more and more risky products, including many 

negative amortization products - with support of the credit rating agencies,IS their 

absurd analysis 16 and the CDO marketY With strong investor demand for these 

relatively higher yielding debt securities the PLS issuers began to take significant 

market share from the GSEs. 

As the "law of large number" made it increasingly difficult to find new homebuyers 

the entire industry sought to employ these riskier, negative amortization and hybrid 

products to take advantage offalling interest rates and refinance existing 

homebuyers, encourage cash-out refinancing and encourage the speculative frenzy 

for second homes and investment properties. 

For the first few years, the GSEs avoided direct and aggressive competition with the 

looser standards of these lenders and instead, used their portfolios to become the 

largest purchasers of private label securities. By 2004, Freddie Mac decided to 

expand its direct exposure to Alt-A lending. 

As I noted in a 2007 report, as early as 2004, 16% OF Fannie Mae's portfolio had 

FICO scores below 660 (S&P 12/06) and Fannie Mae's 2004 exposure to second 

homes and vacation properties was already about 8%. It also appears that prior to 

the Joint Guidance on non-traditional mortgages, one or both of the GSE were 

offering negative-amortization products that would not begin to fully amortize until 

after the reset period. As OFHEO noted in their April 2007 Annual Report to 

Congress, "higher-risk products such as interest-only, sub-prime, Alt-A and 

negative amortization loans are growing, but are currently about 20 percent 01 

the book olbusiness".! also noted that "recently, 7 private mortgage insurers insured 

about 17% of the eSE's book (roughly $40088) and it is unclear how the PM! 

industry's capital base (roughly $4088) would have the ability to absorb the possibly 

sizeable impact to their first loss exposures to the eSE's book". 

In the fall of 2004 the Fed began to increase interest rates and with few new buyers 

and most mortgage market activity tied to refinancing, ownership peaked late that 

year. On November 16, 2005 I warned "we continue to expect consumer mortgage 

credit quality to show deterioration in the third quarter (largely from energy prices 

and Hurricane Katrina) and expect that it will continue to rise from there". 

With many borrowers still seeking to lock in low but rising interest rates, 

refinancing and the 40%18 of all sales that were investment or vacation homes 

continued to stoke the bubble. Informational asymmetry in PLS hid risks to 

investors and supported uneconomic activity. 
66 


80871.019

By early 2006 it was clear that "dramatic shrinkage in the RMBS sector is likely to 

arise from decreased funding by the CDO markets as defaults accumulate. Of course, 

mortgage markets are socially and economically more important than manufactured 

housing, aircraft leases,franchise business loans, and 12-bl mutual fund fees. 

Decreased funding for RMBS could set off a downward spiral in credit availability that 

can deprive individuals of home ownership and substantially hurt the U.S. economy".l9 

The GSEs: What Went Wrong: 

There is nothing specifically wrong with the existence of entities whose 

purpose is to support liquidity in the secondary mortgage market. In fact, 

there is a substantial need for such a function to exist. 

The problem was the use of quasi-private institutions as tools of social policy 

for the purpose of driving housing subsidies to the market through a perverse 

off-balance-sheet subsidy that was arbitraged by private market participants. 

The GSEs were no longer merely supporting liquidity in the secondary market as 

they had been created to do. When their public mission was combined with the 

desire to provide outsized private returns to shareholders the increasing use of 

their portfolios and their purchase of almost 25% of private-label-securities, Fannie 

and Freddie fostered uneconomic and distortive excessive market liquidity. 

Still, there is much to be lauded and recognized in the purpose and function ofthe 

GSEs as they existed prior to the 1990's. Some ofthose features are still in place and 

provide value both to the housing and mortgage market. Beside the GSEs' purpose 

as lender oflast resort to banks seeking to fund conforming/conventional home 

mortgages, a purpose which while now distorted could be repaired, the GSEs offer 

standards still absent in the market, particularly as examples of standardized 

representations and warranties and pooling and servicing agreements. 

While there are proposals to replace the GSEs with alternatives, many of those seem 

to transfer many of the subsidies the GSEs received to other private institutions.20 

Besides the other problems embedded in many ofthe proposals is the reality that 

such an approach does not seek, as a key purpose, the repayment of over $140 

billion offunds owed to the U.S. Treasury. Moreover, merely replacing the GSEs will 

result in significant loss of value that exists in their proprietary data sets, millions of 

loans time series, patent processes, underwriting technology, connectivity on both 

the front end and the back end of the origination and servicing process, their 

securitization technologies or their existing capability for scale in securitization and 

investor relations. 

Although it is understandable that the GSEs have become the subject of 

politically charged debate in Washington it is important to remember that, 

between the chartering of Fannie Mae (1938) and Freddie Mac (1970) and the 

1990's, they served as valuable tools of financial intermediation. Repairing 

their failures is an achievable goal and would place them in their proper role 

as counter-cyclical buffers supporting the private mortgage market. 
67 


80871.020

Any consideration of repair of the GSEs functions so that they could serve as 

Congress intended, in support of a functioning secondary mortgage market, should: 

Seek repayment of the almost $140 billion that the GSEs owe the U.S. 

Treasury21; 

Sever the government's sponsorship to prevent the provisioning of an 

implied government guarantee or the inherent conflicts between the 

agencies' public, political and private purposes; 

Prevent the deterioration of underwriting standards through both private 

market mechanisms (greater data disclosure, accurately represented and 

warrantied mortgages with clear, standardized and enforceable putback 

remedies) and by better regulation 

Move pricing and credit risk bearing functions fully into the private sector 

with proper supervision; 

Limit the GSEs activities exclusively to prime borrowers to ensure that banks 

are able to use the GSEs, as originally intended, as liqUidity tools for the 

funding of new mortgages rather than as risk transfer mechanisms. 

o Non-prime business should be left to either: 

A standardized private market; or 

• Direct government programs intended to deliver explicit 

subsidies to specific borrower classes. 

Ensure proper equity capital levels: 

o raise guarantee-fees to market levels; 

o limit the portfolios to liqUidity purposes only; 

o Regulate appropriate levels of capital. 
68 


80871.021

lRosner, Joshua, Housing in the New Millennium: A Home Without Equity is Just a 

Rental with Debt (June 29, 2001). Available at SSRN: 

htJ:.Iulssm.co m/'!.I2;;tf;ll;t= IlJ1HS 60 r m1QJ.Lill>~J2j,Q[gltQ"-V 3 9/ss rn.llJi2J-5 6 

2 Executive Office of the President, RE: Thursday Meeting on Urban issues, August 

1,199403: 38pm p. 2 available at 

bJ!Q:.LJJY"ww.cl in tonJ.ib rary.gQYlas~fM!QIage /Res~1.rch%2 Q: 

%20D!gital%20LibLaIy/rascomgetillg~l!3,Q2'>l)Ip.£Q958/005%2Q.ti±'ZJ4Q~1!Lbanm~E?tj!lg-bo12.~!:!Jbin.s:Qffli:e-5-<!!®lH:1994-2-QQ:3-00-Pill--n-df (See e.g. "Use tools of 

HUD, FHA, Fannie and Freddie to provide low- and no-down payment loans to 

eligible low- and moderate-income purchasers") 

3Private MI Today, Not Someday, MICA Membership Directory, 2000-2001 Fact 

Book, Washington, DC: Mortgage Insurance Companies of America 

4 The White House, Memorandum for the Vice President, "Community 

Empowerment: Resources and Strategy", October 5, 1993, p. 1, available at: 

http) /ww"Y,c1into nUb ra ry.gov I assets/s toragE? /Research O!l!.2 0-

%20Digital%20LibGill'lRee.d-Su.bLe~UH.L5Lfd]3a§:co_mm!!ni1Y:emJ2Q1.Ye.r.mentP4f 

5 MEMORANDUM FOR CHRIS EDLEY & STEVE REDBURN, "HOUSING POLICY", PAUL 

DIMOND, CC: GALSTON, REED, WEINSTEIN, CASHIN, SEIDMAN, SPERLING, 

CUOMO, KATZ, RETSINAS, STEGMAN, May 31,1994 available at: 

ht.tP.Jb:yww.c1intQ!1Jibrary.gQY/~5se1Sllligit:aILi!;>raryLJ3ruceRJ'ed/Subk£t!Box%lQ 

).14/64: 73 86-housing:ige.as.pdf 

6 US Department of Housing and Urban Development, "The National 

Homeownership Strategy: Partners in the American Dream", The White House 

Washington May 2, 1995 Available at: 

bJt!LJD: .. Q[)f9U nded in terestJiles.1.:YilI.QpLeSS.comj1 0 12 /05 /nhsd realIhP.Qf 

7 Executive Office of the President, RE: Thursday Meeting on Urban issues, August 

1,199403: 38pm p. 2 available at 

hlli2Jlwww "-clilltonlibrary.gm[las~E?!sjsto rE!gg[Re sE?.'!.fc;b % 2 0-

%2 0~D.2. 0 LipS30c,Lllij:9 .. l1lee1ings[.BDX%.f 0 0 5 alQO.') %20647140-U1:bj!ll: 

m eeti ng:.bo b-fllbjns::Q[fic:e-5 -;;Lu$l!H:.l.9.9 4- 2 -0 0-3-0 O-pm.cPill 

8 Rubin, Robert, Secretary of the Treasury, Department of the Treasury, 

Memorandum for Gene Sperling, Director ofthe National Economic Council, 

"Meeting on tax Cut Options", December 2,1998 p. 18 Available at: 

http://www.c1intonlibrMJT.gQY/asset.~DigjJ;9.I\..j!JG!rJ.Ll~.mC:E?Re .. ed IS u hiE?c:tJlLQX.JIo2.Q 

126/647;3j36-taxgs,I1df 

9 White House, "Race Report Meeting", January 20,1999, Oval Office, 

ht!R: Ilwww.c1intonlibrary.gov.Lassets.Lstorage/ReseaL!:..h%20: 

%20Djgital%10Libr<!rYLReed:~ubLec:!Ll24/64 73 86-race-book-l..,p.Qf (See: 

"Recommendation,' Launch a major refocusing 0 f the large housing-related GSEs -

FNMA, Freddie Mac and the Federal Home Loan Bank Board System ... in general, 

GSEs commonly assert that they are "private" and cannot be expected to make 

uneconomic investments. But their profitability is fueled by their access to "cheap" 

money via a government debt guarantee or a discount Fed window ... Specifically, the 

President should propose to: First, adopt new regulatory and statutory provisions to 

(a) press the GSEs to focus more of their housing activity on severely distressed 

7 
69 


80871.022

-----------------------------

communities. and(b)give the GSEs more effective tools to promote targeted lending 

for community development purposes." 

10 See: Rosner, Joshua, Housing in the New Millennium p. 7 

11 E.g. - In 1999, the Congress enacted the "First-time Homebuyer AffordabiJity Act 

of 1999". The premise of the Act is that "it is desirable to make funds available from 

individual retirement plans to encourage first-time homeownership". This 

legislation reduces the difficulty a potential buyer may have in financing a down 

payment, but with risks. In the event of a decline in real estate values or in the event 

of a foreclosure, some or that borrower's entire retirement asset may be lost. Also, 

in 2000, Congress enacted "The American Homeownership and Economic 

Opportunity Act of 2000". Title I ofthe Act is termed "REMOVAL OF BARRIERS TO 

HOUSING AFFORDABILlTY". Among the bill's provisions is one that allows families 

receiving federal rental assistance to accumulate up to a year's worth of that 

assistance toward the down payment, appraisal and closing costs of a home. 

President George W. Bush, based on public comments, seems to have agreed with 

the previous administration that low-income families should be allowed to apply 

rental vouchers toward down payments. 

12Niesen Roger E., "Audit Report: Family Production Home Ownership Centers", 

March 30, 2000, US Housing and Urban Development, p. ii (HUD's 1999/2000 

internal audit of single family FHA loan production found that56% of defaulted 

loans in their study had significant underwriting deficiencies that were not detected 

by HUD or the contractor. Those deficiencies included fraud, excessive ratios, source 

or adequacy of funds issues, improper income analysis and/ or debt or credit issues.) 

13Morgenson, Gretchen and Joshua Rosner, Reckless 

Endangerment, Times Books, New York, 2011 p.141 

14DeVenti, Theresa R., "Fannie Mae and Freddie Mac: 

Past, Present, and Future", HUD Policy Briefs p. 236 

h!.!p;iL.www.h ud \J_~GI. 0!:g~rjQQ1~<!ltifi1:yg:Qtivo 111 n I1m3/ chll&df 

15 See: Mason, Joseph R. and Rosner, Josh. Where Did the Risk Go? How Misapplied 

Bond Ratings Cause Mortgage Backed Securities and Collateralized Debt Obligation 

Market Disruptions (May 3, 2007). Available at SSRN: 

hl!Q;ill~In.c_QI!1&~traQ;=lD2Z.4 7 !:jor !illJ2;ilf\!X3c\oLo[gilQ.2139/ssrn.l 027475 

16Rosner. Joshua (2007) "Financial Services Exposures to Subprime, Why we are not 

'Seeing Red"', Graham Fisher, 26 July 
70 


80871.023

Number of MA-Rated Securities, by Type 

9,000 

8,000 

7,000 

6,000 

5,000 

Number 

4,000 

3.000 

2,000 

1,000 

US Corporates Sovereigns US MunlGipals RMBS COOs 

Security 

Yield 01 MA-Rated Securities, by Type 

Yield 

US Corpor.ales Sovereigns US Municipals RMBS COOs 

Security 

17 See: Mason, Joseph R. and Rosner, Josh, How Resilient are Mortgage Backed 

Securities to Collateralized Debt Obligation Market Disruptions? (February 13, 

2007)_ Available at SSRN: ht:J:pJl~srn_comhQstI9.£t=lp27472or 

h.t.!;p,:jf..9][.doi.onUl O.213'Uss[n.Jjl~ 742.Z. 

Q 
71 


80871.024

18 See: http JLww\y~.'?cribd.co m! d ocLllQ4 4-2 SZ 1 ! OctQ..be r-LOJ]-=:tI9JJ.'?lng::DS9fl 

(N <:ItioJl<:llA~_~Qfi'l!LQ!lQtR~alJ:QI$(t<:l!'l) 

2003 

2004 

2005 

2006 

2007 

2008 

2009 

2010 

2011 

Primary Residence 

67 

64 

60 

64 

67 

70 

73 

73 

62 

Vacation Hom Investment Property 

12 22 

11 25 

12 28 

14 22 

12 21 

9 21 

10 17 

10 17 

11 27 

19Mason, Joseph R. and Rosner, Josh, Where Did the Risk Go? How Misapplied Bond 

Ratings Cause Mortgage Backed Securities and Collateralized Debt Obligation 

Market Disruptions (May 3,20.0.7), p. 7S Available at SSRN: 

http: ImJn.com! ah$tr~t= 1 0. 22:17 Sw ,h ttnJ I dx,-4m,Qfgl1l1.21J2hslJl.l 0. 2] 475. 20 "Housing America's Future: New Directions for National Policy", Bipartisan Policy 

Center, February 20.13 Available at: 

h tm.JLbJrutrJlg!lPQI.i~Q.rgf s it~dL~t~@Jlltj m~!2£"~Q.l!S i ng%2 0. Eepo rt we b D.pdl 

21 Rosner, Joshua, OpEd Contributor, "Hey Fannie and Freddie, Pay Us Back!", The 

New York Times, November 19, 2012 Available at: 

httpdJYY..IY_IiY..ID1Lrnf.'?"~QID/2D 1 fiUJ12LQpiniQilL<L-J 4o.~.hini on:.iou.h tml? r= Q 
72 


80871.045

"THE FINANCIAL CRISIS AND THE ROLE OF 

THE GSES" 

Testimony prepared for 

"FANNIE MAE AND FREDDIE MAC: HOW GOVERNMENT 

HOUSING POLICY FAILED HOMEOWNERS AND TAXPAYERS 

AND LED TO THE FINANCIAL CRISIS" 

ON 

MARCH 6TH, 2013 

BEFORE THE 

SUBCOMMITTEE ON CAPITAL MARKETS AND 

GOVERNMENT-SPONSORED ENTERPRISES 

U.S. HOUSE OF REPRESENTATIVES 

WRITTEN TESTIMONY 

SUSAN M. WACHTER 

Richard B, Worley Professor of Financial Management 

Professor of Real Estate and Finance 

The Wharton School 

University of Pennsylvania 

3733 Spruce Street 

430 Vance Hall 

Philadelphia, PA 19104 
73 


80871.046

Chairman Hensarling, Ranking Member Waters, and other distinguished members of the 

Subcommittee: 

Thank you for the invitation to testify at today's hearing on "Fannie Mae and Freddie Mac: How 

Government Housing Policy Failed Homeowners and Taxpayers and Led to the Financial 

Crisis." I am the Richard B. Worley Professor of Financial Managcment at The Wharton School 

of the University of Pennsylvania. Together with co-authors, I have researched and written 

scholarly papers on the GSEs and the mortgage crisis. Recent publications are listed at the end of 

this statement. It is an honor to be here today to discuss a critical issue for the future of the 

housing finance system, that is, the role of Fannie Mae and Freddie Mac in the financial crisis. 

Government housing policy failed homeowners and taxpayers and it is important to understand 

why. The GSEs contributed to the meltdown. The direct cause of the crisis was the proliferation 

of poorly underwritten and risky mortgage products. The majority of these products, and the 

most risky products, were funded through private label securitization. 

We know now but did not know in real time the shifi toward unsound lending. Nontraditional 

and aggressive mortgages (such as teaser rate ARMs and interest only mortgages) proliferated in 

the years 2003 to 2006 changing from their role as small niche products to become nearly 50% 

of the origination market at the height of the bubble in 2006. In particular, the extent to which 

the loan-to-value ratio of the underlying loans was increasing through second liens was not 

monitored, tracked, or known. As the market share of these products expanded, the market share 

of the GSEs declined, as shown in Exhibit A. 

In the years that J have identified as "the housing bubble" - that is, 2003 to 2006 - the GSEs saw 

their market share plummet. According to the Financial Crisis Inquiry Commission (FCIC), 

private-label securitizers issued over 30 percent more mortgage-backed securities (MBS) than 

the GSEs during these boom years. As shown in Exhibit 8, this dominance by private-label 

securitization (PLS) was a new phenomenon. It is only during the years when housing prices rose 

to unprecedented heights that PLS achieved this unprecedented takeover. 

As non-agency private label securitization was expanding, overall leverage was increased by the 

creation and growth of financial derivatives, collateralized debt obligations (COOs), COOs 

squared, and CDS. The so-called B-rated pieces ofMBS were re-securitized as triple-A rated 

COO securities, increasing leverage. Credit default swaps were issued to insure the providers of 

funding to MBS, but without requiring reserves. The amount of the increasing leverage 

introduced by the issuance of COOs, CDS squared, and CDS was not known. The deterioration 

of the quality of the mortgages used as collateral for these securities was not known. These risk 

sources were obscured due to the lack of consistent and transparent reporting requirements. 

The rise in prices that the expansion of eredit enabled initially masked the increase in credit risk. 

If borrowers were having trouble with payments, homes could be sold and mortgages could be 

refinanced, thus concealing the increases in credit risk. In mid-2006, prices peaked and 

mortgage delinquencies, defaults and foreclosures started their inevitable upward course. In the 

panic of mid- 2007, private label security issuing entities imploded and financing was no longer 

available: the issuanee of new PLS went from $1 trillion to effectively zero. 
74 


80871.047

The US economy faced the real threat of a second Great Depression. As housing prices declined, 

below mortgage valucs, forced sales through foreclosures caused prices to fall further. The 

resulting wealth destruction togcther with the freezing of finance caused the real economy to 

falter, leading to the recession of2009. The recession itself brought about the so-called double 

trigger: households who lost theirjobs could not sell their homes making ongoing foreclosures 

inevitable, with the potential of an outcome of a vicious downward spiral. 

The housing price decline of30%, only now being reversed, was due to this dynamic. The 

Federal government, the Treasury and thc Federal Reservc Board policy responses supported the 

housing mortgage market, preventing the worst case outcome. Nonetheless, the loss of jobs, the 

decline in household wealth and the increase in US debt are continuing legacies of the crisis. 

As I stated, the GSEs contributed to the crisis. Prior to 2007 the GSEs purchased the triple-A 

rated portion ofMBS and they also securitized alt a loans. The GSEs were part of the 

irresponsible expansion of credit both before and after 2007 but other entities were far more 

responsible for the riskiest product originatcd and securitized. 

There is, in fact, a simple way to measure the success or failure of the GSEs, relative to other 

entities. All we have to do is examinc default rates. The GSEs' delinquency rates were far below 

those of non-GSE securitized loans. The distribution of mortgage failure is apparent in the 

performance of mortgages underlying securitization as shown in Exhibit C. I ask that these three 

Exhibits be entcred into the official record. 

However, in a broad sense, the GSEs or their overseer may have had a larger responsibility 

which they failed to fulfill. The failure to identify credit and systemic risk in the markets in 

which they operate was at the heart of the financial crisis. No entity was looking out for the US 

taxpayer: Neither the Fed nor other financial regulatory agencies, nor the Treasury, nor OFHEO 

which at that time oversaw Fannie Mae and Freddie Mac. Financial markets did not operate to 

correct the growing risk. We know from this crisis and from previous crises, that markets do not 

self-correct in the absence of arbitrage, that is, in the absence of markets in which securities' 

sales can price and trade risk, and for arbitrage and market trading of securities to occur we must 

have market standardization and transparency. 

The failure to identify credit and systemic risk is at the heart of the financial crisis and must be 

corrected going forward. This will require the reform of the housing finance system, in 

particular, to assure mortgage security standards and transparency. There must be a monitoring 

function to identify credit risk through the documentation and identification of risks in mortgage 

products and in mortgage securities. This role is a central requirement for effective markets and 

it requires a standardization and coordination function for its realization. This need not be 

performed by the GSEs or the regulator, although such a role had been theirs in the stable 

decades before the crisis, but the role is nonetheless a necessary one. We can rebuild a resilient 

housing finance system, one which can protect homeowners and the US taxpayer going forward, 

but in order to do so we must understand and correct the failures of the past. 

I thank you for the opportunity to testify today and I wclcome your questions. 
75 


80871.048

Exhibit A 

Market Share of Nontraditional Mortgage Products and Private Label Securitization 

60% 

50% 

40% 

30% 

20% 

10% 

0% 

_Nontraditional Mortg-age Product Origination -PlS Share of MBS Issuance 

Source: Inside Mortgage Finance 2012 Mortgage Market Statistical Annual. Nontraditional 

mortgage products are subprime, Alt-A and home equity loans. 
76 


80871.049

Exhibit B 

MBS Issuance Volume ($ in billions) 

$300 

$250 

$200 

$150 

$100 

$50 

$0 

III Fannie Mae III Freddie Mac III Ginnie Mae Private-Label 

2001 

67% 

1l~ 

80% 

2002 2003 2004 

47% 

III 

54% 

2005 2006 2007 2008 2009 YTD 

Enterprises 

Ginnie Mae 

Total Agency 

~oun:;es' 

68% 

~ 

77% 

70% 

~ 

78% 

Inside Mortgage Finance, Enterprise Monthl)' Volume Summaries, 

41% 

~~ 

45% 

40% 

~ 

44% 

58% 

;;~ 

63% 

Issuance figures exclude MBS issuad backed by assets previously held in the Enterprises' portfolios. 

Source: Federal Housing Finance Agency (2010) 

73% 

22% 

95% 

72% 66% 

25% 29% 

97% 95% 
77 


80871.050

Exhibit C: Foreclosure by Market Segment 

% % of loans going into foreclosure per quarter 

~~. Prime 

- - Prime: FRM 

--Prime: ARM '\ ,. . . --Sub prime / ',: 

- - Sub prime: ARM, t \ 

- Sub prime: FRM /' 

% 

8 

7 

6 

5 

4 

3 

~2 

1 

~~~~~~~~~~~~~~~O 

98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 
78 


80871.051

Bibliography. 

Financial Crisis Inquiry Commission. (2011). "The Financial Crisis Inquiry Report," U.S. 

Government Printing Office. http://fcic-static.law.stanford.edu/cdn media/fcicreports/fcic final report full.pdf. 

Levitin, Adam, and Susan M. Wachter. (2012). "Explaining the Housing Bubble," Georgetown 

Law Journal 100(4): 1177-1258. 

http://georgetownIawjournal.org/filesI20 12/04 ILevitinWachter.pdf. 

Levitin, Adam, and Susan M. Wachter. (2013). "Why Housing," Housing and Policy Debate 23 

(1): 5-27. http://www.tandfonline.com/doi/abs/10.1080/10511482.2012.749936 

Levitin and Wachter (2012). The Rise, Fall, and Return of the Public Option in Housing 

Finance. Regulatory Breakdown? The Crisis of Confidence in U.S. Regulation. Cary 

Coglianese, editor. University of Pennsylvania Press. 

Levitin, Pavlov and Wachter (2010). Will Private Risk-Capital Return? Yale Journal on 

Regulation. http://papers.ssrn.com/soI3 Ipapers.cfm?abstract id=1970288 

McCoy, Patricia A., Andrey D. Pavlov, and Susan M. Wachter. (2009). "Systemic Risk 

Through Securitization: The Result of Deregulation and Regulatory Failure," 

Connecticut Law Review 41 (4): 493-541. http://fcicstatic.law.stanford.edu/cdn media/fcic-docs/2009-05-

00%20McCoy%20Systemic%20Risk%20Through%20Securitization.pdf. 

Smith and Wachter, editors. (2011). The American Mortgage System: Crisis and Reform. 

University of Pennsylvania Press. 

Pavlov and Wachter (2011). Subprime Lending and Real Estate Prices. Real Estate 

Economics 38-11-17. http://papers.ssrn.com/soI3 Ipapers.cfm?abstract id=1784092 
79 


80871.025

TESTIMONY 

Lawrence 1. White 

Professor of Economics 

Stem School of Business 

New York University 

Before the 

Subcommittee on Capital Markets and Government Sponsored Enterprises 

Committee on Financial Services 

United States House of Representatives 

lIearing on 

"Fannie Mae and Freddie Mac: How Government Housing Policy Failed Homeowners and 

Taxpayers and Led to the Financial Crisis" 

March 6, 2013 

Chainnan Hensarling. Ranking Member Waters, and members ofthe Subcommittee: My 

name is Lawrence 1. White. I am a Professor of Economics at the NYU Stern School of 

Business. During 1986-1989 I served as a Board Member of the Federal Home Loan Bank 

Board; in that capacity I was also one of the three Board Members of Freddie Mac. I have 

written extensively on the subject of the government-sponsored enterprises (GSEs); I a 

chronological list of these writings is at the end of this statement, as is my short biographical 

summary and the "Truth in Testimony" disclosure fonn. I represent solely myself at this hearing. 

Thank you for the opportunity to testify today on this important topic. Despite having 

been in government conservatorships since September 2008, Fannie Mae and Freddie Mac 

remain at the center of the U.S. residential mortgage finance system. Although there is a general 

consensus that this dominant role for these GSEs is not a viable long-run pattern for the 

mortgage finance system, there is no consensus as to what should replace them; and this political 

stasis has led de facto to the GSEs' continued dominant position. 

I As a technical matter, the Federal Home Loan Bank System (FHLBS) should also be included in the category of 

"housing-oriented GSE". However, since the topic oftoday's hearing is solely Fannie Mae and Freddie Mac, my 

references to GSEs will apply solely to Fannie Mae and Freddie Mac, unless otherwise indicated. 
80 


80871.026

Accordingly, a review of their history is surely worthwhile. After all, in order to know 

"Where should we go?" it is often useful to know "How did we get here?" Or, to quote George 

Santayana, "Those who cannot remember the past are condemned to repeat it." 

In the remainder of this statement I will first provide some general background on the 

two GSEs and then discuss their specific roles in the housing bubble of the late I 990s and early 

and mid 2000s and the subsequent housing collapse and the financial crisis of 2008-2009. 

Some general background. 

Fannie Mae and Freddie Mac are two private-sector, publicly traded corporations, with 

shareholders. Until their conservators hips in 2008, the shares of each company were traded on 

the New York Stock Exchange. 

The two companies do fundamentally the same things: They operate in the secondary 

market for U.S. residential mortgages. They buy mortgages from originators - the first-instance 

lenders to mortgage borrowers - and then do either of two things: 

(a) They may bundle pools of hundreds of mortgages into residential mortgage-backed 

securities (RMBS) and sell the RMBS to investors. These RMBS represent "pass-through" 

claims on the streams of interest payments and principal repayments by the underlying mortgage 

borrowers. These RMBS carry the guarantee of the issuing GSE (for which the GSE charges a 

fee) that. in the event that the underlying borrower of a mortgage in the bundle defaults on 

his/her payment obligation, the GSE will keep the RMBS investor whole by making payments 

from the company's resources in lieu of the borrower's payments. Or 

(b) The GSEs may hold the mortgages in their own portfolios, with the funding for these 

portfolio holdings coming almost entirely (prior to 2008) or entirely (since 2008) from their 

issuance of debt obligations that represent direct claims on each company. 

2 
81 


80871.027

Fannie Mae had its origins in 1938, as an agency within the Federal Housing 

Administration. After modest growth through the 1960s (see Table I), Fannie Mae was 

privatized in 1968 and became a publicly traded company. However, it retained many special 

ties with the federal government (which will be detailed below). Freddie Mac came into 

existence in 1970. Both GSEs grew modestly in the 1970s and early J 980s. The contraction of 

the savings & loan (S&L) industry (which had hitherto been the major financer of residential 

mortgages) in the mid 1980s gave both GSEs an expanded opportunity to grow, as did legislation 

in 1989 (the Financial Institutions Reform, Recovery, and Enforcement Act, or FIRREA) and 

1992 (the Federal Housing Enterprises Financial Safety and Soundness Act, or FHEFSSA). 

Prior to their conservatorships in 2008, both companies might have looked like ordinary 

U.S. corporations, since they had public shareholders, their shares were traded on the NYSE, and 

their corporate governance structure included a chief executive officer (CEO) and board of 

directors. However, they had many other features that clearly made them special: 

Their corporate charters were created through specific congressional legislation; 

• The board of directors of each company was mandated to have 18 members. of which the 

president of the United States could appoint five members; 

They paid no state or local income taxes; 

They each had a potential line of credit with the U.S. Treasury of up to $2.25 billion; 

Their securities were considered to be "government securities" under the Securities 

Exchange Act of 1934; 

They were not required to register their securities with the U.S. Securities and Exchange 

Commission (SEC), and they were exempt from SEC fees; 

3 
82 


80871.028

Their securities could be purchased and held in unlimited quantities by U.S. banks and 

savings institutions; 

• Their securities could be purchased by the Federal Reserve for the latter's "open market 

operations"; 

They each could use the Federal Reserve as their fiscal agent; and 

Their insolvencies could not be resolved by a bankruptcy process or by a regulatory 

agency but instead would have to be resolved by the U.S, Congress. 

There were also limitations: 

Their activities were specifically restricted (again, by statute) to the secondary mortgage 

market; they were specifically prohibited from originating mortgages; 

The size of mortgage that they could buy (the "conforming loan limit''), either for 

investment or for securitization, was limited in amount (which was adjusted each year in 

accordance with an index of house prices); as ofcarly 2008 that amount was $417,000, 

which continues to apply today in most areas of the U.S. (but the Congress subsequently 

expanded this amount for high-cost housing areas to as high as $729,750 and today to 

$625,500 in those high-cost housing areas);2 "conforming loans" were also expected to 

be high-quality mortgages that met "investment quality standards"; 

They were subject to prudential regulation by a federal regulatory agency (until 2008, this 

was the Office of Federal Housing Enterprise Oversight [OFI-IEO]; in the summer of 

2008 the Federall-lousing Finance Agency [FI-IFAJ replaced OFHEO); and 

They were subject to "mission regulation" (i.e., regulatory requirements that they meet 

targets with respect to their mortgage purchases in areas with low- and moderate-income 

2 Mortgage loans that are larger than the conforming loan limit are typically described as 'jumbo" loans. 

4 
83 


80871.029

and underscrved households), which was under the jurisdiction of the U.S. Department of 

Housing and Urban Development (HUD) until the summer of 2008 (when FHFA 

absorbed this role). 

It was thus no accident that the GSE label came to be applied to these two companies. 

There was at least one other characteristic that made the GSEs special: their sheer size. 

From the early 19905 onward, their holdings of mortgages plus the RMBS that they issued and 

guaranteed accounted for over a third of the value of all residential mortgages in the U.S. (see 

Table 1); and from 1999 onward (with the exception of 2005 and 2006) they accounted for over 

40%. As of year-end 2008. the aggregate value of their mortgages held and guaranteed exceeded 

$5.2 trillion. 

The GSEs' specialness had an important consequence: The GSEs were able to borrow at 

interest rates that, were lower than their financial condition would have otherwise justified. In 

essence. the financial markets believed (correctly. as it turned out) that if either (or both) of the 

GSEs were to experience financial difficulties, the federal government would intervene and 

make sure that the companies' creditors would remain whole. The consensus of academic 

studies is that this perception - this belief in an "implicit guarantee" allowed the GSEs to 

borrow at rates that were approximately 2/5 of a percentage point lower than wou ld otherwise 

have been the case. 

In tum, their favorable borrowing costs translated into lower mortgage interest rates for 

conforming mortgages (i.e., the mortgages that the GSEs were allowed to buy and hold or 

securitize). The academic consensus is that conforming mortgages carried interest rates that 

were approximately Y. of a percentage point lower than would otherwise have been the case. 

5 
84 


80871.030

In addition to these favorable borrowing costs, the GSEs had other important advantages 

that encouraged them to grow rapidly in the 1990s and the early 2000s (see Table I): They had 

lower capital requirements (2.5% of the value) for holding mortgages in their portfolios than did 

depository institutions (for which the comparable capital requirement was at least 4%); and they 

had much lower capital requirements (0.45%) for covering the credit risk on their RMBS than 

was required for depository institutions (again, 4%) to cover the same category of risk. As a 

consequence, their balance sheets were highly leveraged, with capital (net worth) equal to only 

3-4% of assets (and thus debt providing the funding for 96-97% of assets). 3 Further, when 

depository institutions held the GSEs' RMBS (and, starting in 2002, other issuers' highly rated 

RMBS), the capital requirement was only 1.6%, as compared with the 4% requirement for 

holding unsecuritized "whole" mortgages, which provided a favorable market for the GSEs' 

RMBS. 

Given these advantages - plus the shrinking of the S&L industry after the mid 1980s, the 

conversion of Freddie Mac into a less restrained company in 1989, and the discarding of Fannie 

Mae's caution after experiencing financial difficulties in the early 1980s - the rapid absolute and 

relative growth of the GSEs in the 1990s and the early 2000s was not surprising. It was only 

accounting scandals at Freddie Mac in 2003 and at Fannie Mae in 2004 that gave their prudential 

regulator (OFHEO) the ability to put caps on the sizes of their portfolio holdings of residential 

mortgages. Limits (other than the 0.45% capital requirement) were not, however, placed on the 

securitization of their RMBS, which continued to grow4 

3 This could also be described as an assets-to-capitalleverage ration of 25-to-1 or 33-to-1. If the "off balance sheet" 

guarantee on their RMBS were included as an additional claim for which their capital was supposed to provide 

protection, the GSEs' leverage ratio could be described as 75-to-1. 

4 Since the GSEs were experiencing little or no credit-related losses at the time. the major fears by the GSEs' critics 

were of interest-rate risks: that the GSEs were not adequately hedging their portfolios against the financial damage 

that changes in interest rates could bring to the value of the 3D-year fixed-rate mortgages that dominated their 

balance sheets. Since the GSEs' guarantees on their RMBS covered only credit-related losses -- the RMBS investors 

6 
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Finally, it is worth emphasizing that the special governmental advantages for the GSEs 

were not an anomaly in U.S. economic policy. Instead, these advantages _ .. with the expectation 

that they would reduce the cost of housing finance were a part of a much larger and wider set 

of government policies at the federal, state, and local levels - that are intended to reduce the 

cost of housing for households 5 At the federal level, these have encompassed widespread tax 

deductions (such as the mortgage interest deduction for households), the existence and 

widespread involvement of other government agencies (such as thc FHLBS, FHA and Ginnie 

Mae), tax advantages and direct subsidy programs for housing construction, direct subsidies for 

renters, etc. 

With respect (0 housing and housing policies, the characterization "Too much is never 

enough!" seems appropriate. 

The housing boom - and bust. 

Starting around 1997. the U.S. economy experienced a major housing boom (which is 

now, with hindsight, recognized to have been a bubble).6 Annual housing starts increased, home 

ownership rates rose, and housing prices increased above the general rate of inflation in the lJ .S. 

Between 1997 and 2006, the S&P/Case-Shiller national index of house prices rose by about 

125%, while (he U.S. Consumer Price Index (CPl) rose by only 28%. By the early 2000s there 

was a widespread belief that housing prices could only go up. 

The growth of Fannie Mae and Freddie Mac in the] 990s surely helped support this boom 

- although, as the data in Table I indicate, the GSEs had been growing vigorously since the late 

were the parties that would have to deal with the interest-rate risk on those RMBS - the expansion of the GSEs' 

RMBS issuances was not seen as a problem. 

, It is important to realize that these efforts at lowering the costs of home ownership and of rental housing have 

effectively lowered the "price" of housing and have thereby encouraged U.s. households to buy and consume more 

housing than they otherwise would have - at the expense of other things that households, and American society 

more generally could have consumed and/or invested in. 

6 The U.S. was not alone in this regard. Other countries - e.g., the U.K .. Treland, and Spain - experienced similar 

housing booms at roughly the same time. 

7 
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80871.032

1980s, whereas the housing boom only took off around 1997. At least as important in helping 

stoke the boom was the development and growth of "private label" residential mortgage 

securitization i.e., the development of techniques and structures whereby financial institutions 

(typically investment banks, commercial banks, and mortgage banks) (hat were not GSEs and 

that could not provide the kind of guarantee that the GSEs provided were nevetiheless able to 

issue RMBS that could be sold to financial institution investors 7 

The widespread belief that housing prices could only go up had an important implication 

for mortgages: Residential mortgage loans would rarely/ail to be repaid' Even if a borrower 

could not repay the mortgage from hislher normal income say, because of an accident or 

extendcd illness, or because of loss of employment - he/she could still repay the mortgage by 

selling the house (at a profit) and repaying the mortgagc from the proceeds. 8 

There was a further important implication: The traditional creditworthiness criteria for a 

mortgage borrower su fficient household income to make the necessary mortgage payments, 

sufficient household financial resources (0 make a 20% down payment, a good credit history, etc. 

as well as the importance of the monthly mortgage amortization payment were increasingly 

seen as less important to protect the lender in a context where housing prices would only go up 

and mortgages would rarely fail to be repaid. Accordingly, increasing numbers of"alt-A" and 

"sub-prime" mortgages were granted to borrowers with flawed credit histories, inadequate 

incomes, poor documentation, or other irregularities and with lower down payments. And the 

initial experience with these mortgages in the environment of rising prices in the late 1990s and 

7 After other methods were tried, the "tranching" technology became the method of choice in the early 2000s. This 

involved the pooling of hundreds of mortgages into a bundle and then issuing multiple layers of junior and senior 

securities, such that the junior securities would be the first absorbers of losses from any defaults by the underlying 

mortgage borrowers, which thereby gave greater protection and assurance to the holders oflhe more senior 

securities. 

, And if mortgages would rarely fail to be repaid, then private·label RMBS would largely be safe investments. 

8 
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80871.033

early 2000s that defaults were few and that the losses to lenders were small when those few 

defaults did occur seemed to confirm that lending to these below-prime bOlTowers was not as 

risky as had previously been believed. In turn, of course, this experience encouraged yet more 

lending ofthis type. 

As mentioned above, the "confonning" mortgages that the GSEs were allowed to buy 

were expected to meet "investment quality standards" (as determined by OFI-IEO). In the early 

19905 and before, these standards had usually meant mortgage loans where the borrower had 

made at least a 20% down payment (or, equivalently, the loan-to-value [LTV] was 80% or less) 

or had private mortgage insurance for loans where the down payment was as little as 5%; where 

the borrower had a good credit history (as represented by a good "credit score" that was usually 

compiled by Fair, Isaac and Company and that came to be known as the "FICO score"); where 

the borrower's income was deemed adequate so that the monthly payments on the mortgage were 

affordable; and where there was good documentation. These indicia meant that the borrower 

was unlikely to default and that even in the event of default the sizable down payment (or 

mortgage insurance) provided a buffer that would protect the GSEs (as investors or as 

guarantors) against losses. 

Beginning in the mid I 990s, however, the GSEs began buying some mortgages that 

would not otherwise meet these quality standards; this was done partly because lower-quality 

mortgages provided an additional area for expansion for the GSEs and partly because the 

regulatory pressures (which were encompassed in FHEFSSA) on the GSEs to increase their 

purchases of mortgages from low- and moderate-income households and households that were 

located in underserved areas were increasing. Some combination of the upward trend in housing 

prices, especially after 1996, and the GSEs' expertise in selecting higher-quality borrowers 

9 
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80871.034

among those with apparently lower qualifications, kept the GSEs' losses low. From 1990 

through 2007 Freddie Mac's credit losses on its mOl1gages in portfolio plus guaranteed RMBS 

never exceeded 0.11 % annually; for Fannie Mae the comparable credit losses never exceeded 

0.06%. For the years 1999-2005 (for Fannie Mae) and 2000-2006 (for Freddie Mac) the credit 

losses were only 0.0 I % annually! 

Around 2003 the GSEs' involvement in lower-quality mortgages became more 

substantial. From around 2000 onward, the growth in alt-A and sub-prime mortgage lending and 

the related private-label securitization threatened the market shares of the GSEs. At first glance, 

this should not have been so, since the higher quality mortgage standards of the GSEs should 

have kept them separate and aloof from the suh-prime borrowers and lenders, and vice-versa. 

However, in the environment of rising prices and the widespread expectations that prices would 

continue to rise, lenders were encouraging borrowers who otherwise would have qualified for a 

conforming loan to borrow larger amounts (which would push them into '~jumho" territory) 

and/or to structure their loans in ways that would not meet the GSEs' underwriting standards 

(which would push them into nonconforming territory). The latter was done, for example, by 

allowing the horrower to make a down payment that was less than 20% but not insisting on 

(costly) mortgage insurance; or hy allowing a second-lien mortgage loan to cover some or even 

all of the down payment; or by allowing a higher ratio of mortgage payments to income; or by 

providing initial low "teaser" rates but with a scheduled upward adjustment after two or three 

years (these were the so-called "2/28" or "3/27" mortgage loans); or by tolerating reduced levels 

of documentation. 

In addition to these market share pressures, the GSEs were subject to increased regulatory 

pressures to expand their shares of mortgage purchases from low- and moderate-income 

10 
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80871.035

households and from households in underserved areas. These regulatory pressures also led to the 

GSEs' decisions to buy signiflcant amounts of private-label high-rated RMBS tranches that had 

sub-prime andlor alt-A mortgage loans as their underlying collateral, since many of these 

borrowers were households in the designated regulatory categories and the GSEs received 

regulatory credit for these securities purchases. 

The contimled increase in house prices initially masked the consequences of these actions, 

and annual credit losses for the GSEs stayed extremely low. But the S&P/Case-Shillcr national 

index of house prices peaked in the second quarter of2006 and then began to decline. Without 

the safety valve of "the borrower can always sell the house at a proflt", mortgage delinquencies 

began to rise, and mortgage defaults followed. Although the increases were especially 

pronounced for sub-prime mortgages, all categories of mortgages suffered increases, ineluding 

(not surprisingly) the GSEs' mortgages. 

The patterns of cumulative defaults by cohort based on year of origination can be seen in 

Figures I and 2 for Fannie Mae and Freddie Mac, respectively. It is clear that the cohort of 

originations in 2004 marked the beginning of a different default experience, as compared to the 

cohorts of earlier years. This was due to the combination of the lower quality mortgages that the 

GSEs bought and the lesser amount of time (until mid 2006) for hOllse price appreciation to 

cover the "sins" of the lower quality mortgages that had been bought. The successive annual 

cohorts through 2008 were even worse. 

The rising defaults on sub-prime and alt-A mortgages and then on the private-label 

RMBS that had these mortgages as collateral also meant that the GSEs suffered losses on their 

investments in these apparently safe high-rated private-label RMBS. 

The financial crisis of 2008-2009. 

II 
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80871.036

The GSEs failed to earn profits in 2007, instead running losses for the first time ever for 

Freddie Mac and for the first time since 1985 for Fannie Mae. 

The first major "casualty" from the rising defaults in mortgages and in private-label 

RMBS was the large investment bank Dear Stearns. Like the tour other large investment banks,9 

Bear Stearns had a capital-to-assets ratio at the end of2007 that was less than 4%. In early 2008 

the financial markets came to believe that the mortgage- and RMBS-related losses that were 

embedded in Bear Stearns' balance sheet might well cause its insolvency, and Bear Stearns 

found it increasingly difficult to refinance its short-term debt. In March 2008 the Federal 

Reserve engineered the absorption of Bear Steams by JPMorgan Chase. 

In the first two quarters of2008 the losses of both GSEs continued to rise. Although the 

delinquencies on the GSEs' mortgages were at lower rates than for the general population of 

mortgages economy-wide, nevertheless the GSEs' thin capital levels were an insufficient buffer 

against these losses. By the end of the summer of2008. their insolvencies were looming, and 

the financial markets were beginning to worry whether the Treasury really would come to the 

rescue of their creditors. Like Bear Stearns six months earlier, the GSEs found it increasingly 

difficult to refinance their short-term debt. On September 6, 2008, in coordination with the 

Treasury, the FHFA placed both GSEs into conservatorships. In principle, the companies were 

still intact, with their shareholder/owners still in place; in practice, the GSEs had become the 

wards of the U.S. Government (which immediately dismissed and replaced their senior 

managers). The Treasury agreed to cover their losses and thus keep their creditors whole. The 

financial markets' belief in the "implicit guarantee" had proved correct. 

9 These were Goldman Sachs, Morgan Stanley, Merrill Lynch. and Lehman Brothers. 

12 
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80871.037

Because the Treasury did keep the GSEs' creditors whole, the GSEs' insolvencies did not 

create a cascade of other financial difficulties elsewhere in the U.S. financial sector. 10 However, 

their insolvencies and conservatorships likely did heighten the financial markets' concerns in 

September 2008 about the possible insolvencies and instabilities of other large and thinly 

capitalized financial institutions in the U.S. economy, such as the remaining four large 

investment banks, A.l.G., and the large Citigroup holding company. The Lehman Brothers 

bankruptcy filing a week later converted these concerns into a reality, which then unleashed the 

fu Il forces of the financial crisis. 

Conclusion. 

As of March 2013, the Treasury's capital injections into Fannie Mae and Freddie Mac 

have been approximately $188 billion. Although initial estimates had raised the possibility that 

the Treasury's losses could rise as high as $400 billion, the stabilizing of the U.S. housing 

markets in 2012 appear to have meant the stabilizing of the GSEs' losses as well. FHFA now 

predicts a range of aggregate losses to the Treasury of $191-$209 billion. By any indicator, this 

has been a costly experience. 

Although each of the GSEs has remained in a conservatorship since September 2008, 

they both have remained actively involved in residential mortgage finance. When private-label 

securitization collapsed at the end of2007, the GSEs plus FHA expanded to fill the gap. Their 

expanded roles have been maintained: The three agencies account for the financing of 

approximately 90% of all new residential mortgages; the two GSEs alone account for 60-70% of 

the aggregate. 

10 The presence of significant foreign central bank holdings of the GSEs' obligations also appears to have been a 

significant factor in the Treasury's decision to keep all ofthe GSEs' creditors whole. 

13 
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80871.038

There are at least two major policy lessons to be learncd from the GSE experience: First, 

there are rarely (if ever) "free lunches" to be found in economic policy. The lower mortgage 

costs that the GSEs provided Y, of a percentage point on conforming mortgages appeared to 

be a free lunch, since there were no budgetary implications at the time in connection with the 

GSEs' special status and the "implicit guarantee". However, the "lunch" has become costly 

indeed. it behooves the federal government to be extremely wary of situations where the 

financial markets assume that the Treasury will come to the rescue of a financial institution's 

creditors. 

Second, large systemic financial institutions in this case, involved with residential 

housing finance must be subject to rigorous prudential regulation, with high capital 

requirements at the center of this regulation. Anything less is an invitation to a repeat of this 

costly experience. 

14 
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80871.039

Table I: Mortgages Held and MBS Outstanding. by Fannie Mae and Freddie Mac. 1948-2009 

(all dollar amounts are in $ billions) 

Fannie Mae Freddie Mac 

Mortgages Mortgages Total U.S. Total (10+1')/ 

Held in MBS Held in MBS Residential Total Res. 

Year Portfolio Outstanding Portfolio Outstanding Mortgages Mort. 

1948 $0.2 $39.8 0.5% 

1949 0.8 45.2 1.8 

1950 1.3 54.3 2A 

1951 1.8 1-- 62.3 -2:9 

1952 2.2 69.9 __ lL 1----.---------- ---'-""' 1953 2.5 78.1 3.2 

1954 2A 88.0 2.7 

1955 2.6 lOlA 2.6 

1956 3.1 112.8 2.7 

1957 4.0 121.9 3.3 

1958 3.9 133.7 2.9 

1959 5.3 148.7 3.~ 1960 6.2 162.1 3.8 

1961 6.1 177.6 3A 

1962 5.9 195.0 3.0 

1963 4.7 215.1 2.2 

1964 4.4 136.9 3.2 

1965 4.7 257.6 1.8 

1966 7.1 274.0 2.6 

1967 8.9 290.7 3.1 

1968 7.1 311.1 2.3 

1969 11.0 331.8 3.3 -.~.-"--~-

1970 15.5 352.2 4A 

1971 17.9 $0.9 $0.1 388.5 4.9 

1972 19.7 1.7 OA 440.2 5.0 

1973 23.6 2.5 0.8 493.0 5.5 

1974 28.7 4.5 0.8 535.1 6A 

1975 30.8 4.9 1.6 574.6 6.5 

1976 31.8 4.2 2.8 640.9 6.1 

1977 33.3 3.2 6.8 742.0 5.8 

1978 42.1 3.0 12.0 863A 6.6 

1979 49.8 4.0 15.3 990.7 7.0 

1980 55.6 5.0 17.0 1100.4 7.1 

1981 59.6 $0.7 5.2 19.9 1172.6 7.3 

1982 69.4 14.5 4.7 43.0 1216.3 10.8 

1983 75.2 25.1 7.5 57.7 1347.3 12.3 

1984 84.1 35.7 10.0 70.0 1507.2 13.3 

1985 94.6 54.6 13.5 99.9 1732.1 15.2 

1986 94.1 95.6 13.1 169.2 2068.8 18.0 -----" --]2.4 1987 93.7 135.7 212.6 2186.1 20.8 

1988 100.1 170.1 16.9 226.4 2436.6 21.1 

1989 108.0 216.5 21.4 272.9 2655.9 23.3 

15 
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80871.040

---- 1990 $114.1 $288.1 $21.5 $316.4 $2893.7 

1991 126.7 355.3 26.7 359.2 3058.4 

1992 156.3 424.4 33.6 407.5 3212.6 

1993 190.2 471.3 55.9 439.0 3368.4 

1994 220.8 486.3 73.2 460.7 3546.1 

1995 252.9 513.2 107.7 = 459.0 3719.3 

1996 286.5 548.2 137.8 473.1 3967.7 

1997 316.6 579.1 164.5 476.0 4214.0 

1998 415.4 637.1 I 255.7 478.4 4603.9 

1999 523.1 679.1 I 322.9 537.9 5070.0 

2000 607.7 706.7 385.5 576.1 5524.3 

2001 706.3 863.4 503.8 653.1 6118.0 

2002 820.6 1040.4 589.9 729.8 6911.9 

2003 919.6 UOO.5 660.5 752.2 7809.1 

2004 925.2 1408.0 664.6 852.3 8895.9 

200S 736.8 1598.9 709.5 974.2 10070.6 . _. . .. 

2006 726.4 1777.6 700.0 1122.8 11189.6 

2007 723.6 2118.9 710.0 1381.9 11985.1 

2008 768.0 2289.5 748.7 1402.7 11922.3 

2009 745.3 2432.8 717.0 1495.3 11717.8 

2010 704.2 2399.6 681.6 1468.0 11248.5 

2011 639.0 2433.7 640.6 1422.1 10988.2 

Note: All mortgage amounts encompass single· family mortgages plus multi-family mortgages. 

Sources: Federal Reserve "Flow of Funds", various years; FIIF A Report to Congress, 20 II. 

16 

25.6% 

28.4 

3~+ 34.3 

35.0 

3~~ 

36.4 

36.5 

38.8 

40.7 

41.2 

44.6 

.~~ 46.5 

-~ 

39.9 

38.7 

41.2 

43.7 

46.0 

46.7 

46.7 
95 


80871.041

Figure 1: Fannie Mae Cumulative Default Rates by Year of Origination 

TJnM!3btoflSeQl~Of~mYI!lll 

2002 ",$,,2003 -2004 -ro05 _2006 _2001 -rooo -2009 "·2Ol11 _ro11 -ro12 

Source: Fannie Mae, "2012 Third-Quarter Credit Supplement," November 7, 2012, p. 14; 

available at: http://www.fanniemae.comlresources/filelir/pdf/quarterly-annualresults/20 12/q320 12 credit summary.pdf 

17 
96 


80871.042

S 

~ 

i 

I/) 

& 

i 

!II 

j 

I 

~ 

i 

~ 

10.50% 

10.00% 

9.50% 

9.00% 

8.50% 

8.00% 

7.50% 

7.00% 

6.50% 

6.00% 

5.50% 

5.00% 

4.50% 

4.00% 

3.50% 

3.00% 

2.50% 

2.00% 

1.50% 

1.00% 

0.50% 

0.00% 

Figure 2: Freddie Mac Cumulative Default Rates by Year of Origination 

~!2 

Yr1 Yr1 

Ql Q3 

2001 

MMmm~~MMMMMMMMMMWW~~ 

~ 00 ~ 00 ~ 00 ~ 00 ~ 00 ~ 00 ~ 00 ~ 00 ~ 00 ~ 00 

Quarter Post Ollgma!ioo 

-6:-2002 ~2a03 *2004 

Source: Freddie Mac, "Fourth Quarter 2012 Financial Results Supplement," February 28, 2013, 

p. 29; available at: http://www.freddiemac.comlinvestors/er/pdflsupplement 4g12.pdf 

18 
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80871.043

Publications by Lawrence J. White on the GSEs 

"Comments on 'The Privatization of Fannie Mae and Freddic Mac;" in U.S. Department of 

Housing and Urban Development, Studies on Privatizing Fannie Mae and Freddie Mac, 1996. 

"What's It All About?" in P. Wallison, ed., Public Purposes and Private Interests: Fannie Mae and 

Freddie Mac. Vol. I: Government Subsidy and Conflicting Missions, AEI, 2000. 

"focusing on Fannie and Frcddie: The Dilemmas of Reforming Housing Finance," Journal of 

Financial Services Research, February 2003. 

"Regulating Housing GSEs: Thoughts on Institutional Structure and Authorities," Economic 

Review, Federal Reserve l3ank of Atlanta, First Quarter 2004 (with W.S. Frame). 

"Emerging Competition and Risk-Taking Incentives at Fannie Mae and Freddie Mac," in Federal 

Reserve Bank of Chicago. I-low Do Banks Compete? Strategy. Regulation. and Technology, 40th 

Annual Conference on l3ank Structure and Competition, 2004 (with W.S. Frame). 

"The Trouble with Fannie and Freddie." SternBusiness, Fall 2004. 

"Competition for Fannie Mae and Freddie Mac"" Regulation, Fall 2004 (with W.S. Frame). 

"Fannie Mae. Freddie Mac. and Housing Finance: Why True Privatization is Good Public Policy." 

Policy Analysis, No. 528, Cato Institute, October 7, 2004. 

"Fussing and Fuming at Fannie and Freddie: How Much Smoke. How Much Fire?" Journal of 

Economic Perspectives, Spring 2005 (with W.S. Frame). 

"On Truly Privatizing Fannie Mae and Freddie Mac: Why It's Important, and How to Do ft." 

Housing Finance International, December 2005. 

"Charter Value. Risk-Taking Incentives, and Emerging Competition at Fannie Mae and Freddie 

Mac," Journal of Money. Credit and l3anking, February 2007 (with W.S. Frame). 

"Mortgage-Backed Securities: Another Way to Finance Housing," in K.N. Rao, ed., Financial 

System in US: Emerging Issues, Icfai University Press, 2007. 

"Fannie & Freddie: Part ofthe Solution, or Part of the Problem?" Milken Institute Review, Second 

Quarter 2008. 

"What to Do about the Government Sponsored Enterprises?" in V. Acharya and M. Richardson. 

eds., Restoring Financial Stability: How to Repair a Failed System, Wiley, 2009 (with D. Jaffee, 

M. Richardson, S. Van Nieuwerburgh, and R. Wright). 

"Fannie Mae, Freddie Mac, and Housing: Good Intcntions Gone Awry," in R. Holcombe and 13. 

Powell, eds., Housing America: Building out of a Crisis, Transaction, 2009. 

19 
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80871.044

Guaranteed to Fail: Fannie Mae, Freddie Mac and the Debacle of Mortgage Finance, Princeton 

University Press, 2011 (with V.V. Acharya, M. Richardson, and S. Van Nieuwerburgh). 

"The Government-Sponsored Enterprises," in V.V. Aeharya and M. Richardson, cds., Regulating 

Wall Street: The Dodd-Frank Act and the New Architecture or Global Finance. Wiley, 2011 (with 

V.V. Acharya, T.S. Oncu, M. Richardson, and S. Van Nieuwerburgh). 

"Fannie Mae. Freddie Mac and the Crisis in US Mortgage Finance," in S.N. Durlauf and L.E. 

Blume, cds., The New Pal grave Dictionary of Economics, Online Edition. Pal grave Macmillan, 

2011. 

"Fannie Mae, Freddie Mac and the Crisis in US Mortgage Finance," in S.N. Durlauf and L.E. 

Blume, cds., The New Palgrave Dictionary of Economics. Online Edition. Pal grave Macmillan, 

2011. 

"The Industrial Organization of the U.S. Residential Mortgage Market," in S.J. Smith, ed., The 

International Encyclopedia of Housing and Home, Vol. 4, Elsevier, 2012 (with W.S. Frame). 

"The Devil's in the Tail: Residential Mortgage Finance and the U.S. Treasury," Journal of Applied 

Finance, forthcoming 2013 (with W.S. Frame and L. Wall). 

20 
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80871.052

June 6, 2006 Tuesday ONE-THREE EDITION 

BROKERS IN THE BALANCE; 

CONGRESSIONAL PROPOSAL MAY CHANGE ROLE BROKERS PLAY IN MORTGAGES 

DO HOMEOWNERS NEED PROTECTION FROM LENDERS? 

BYLINE: BINYAMIN APPELBAUM, BAPPELBAUM@CHARLOTIEOBSERVER.COM 

SECTION: BUSINESS; Pg. 10 

LENGTH: 1396 words 

Under federal law, people shopping for home mortgage loans are largely responsible for protecting 

themselves. 

The main limit on the interest rate and fees is the borrower's willingness to pay. 

A study released last week underscored that the system is not working for everyone. The Center for 

Responsible Lending, a Durham nonprofit that critiques the industry, found blacks and Hispanics are 

more likely to pay high interest rates for mortgage loans than whites with similar financial 

circumstances. 

But even before its release, a bipartisan group in Congress was meeting quietly to discuss new rules for 

the lending industry, rules to inhibit lenders from leading borrowers into bad choices. 

The most dramatic proposal would transform the relationship between customers and the independent 

brokers who sell most loans: It would make the brokers represent the interests of the customers. 

Other ideas focus on regulating the terms of loans, and limiting the fees charged by lenders and brokers. 

The negotiators, induding N.C. Democrats Mel Watt of Charlotte and Brad Miller of Raleigh, say the 

discussions could end a years-long deadlock over how to regulate the mortgage lending industry, and 

particularly the fast-growing "subprime" business of lending at high interest rates. 

"We've been quietly trying to find common ground," Watt said. The new study, he said, "will increase 

the pressure to do something in this area." 

Rep. Spencer Bachus, an Alabama Republican who chairs a subcommittee ofthe House Committee on 

Financial Services, is the driving force behind the negotiations. He is trying to mediate between a bill 

favored by Miller, Watt and consumer advocates, and a bill favored by several Republican legislators and 

the lending industry. 

Observers say the prospects for a compromise were bleak until Bachus got involved. A spokeswoman for 

Bachus said he hoped to hold a "mark-up" session where a compromise bill would be discussed later this 

month. 

That would be the first of many steps required to change the law. It will be difficult not least because the 

discussion is brimming with emotion. 

For many loan seliers, the idea that discrimination is widespread and that they require additional 

regulation - is personally offensive. The industry has argued that borrowers are responsible for 

educating themselves, and for shopping around to find the best rate. 

"The only discrimination that occurs in the mortgage industry is against the lazy," Kyle Killian, a Charlotte 

loan seller, wrote in an e-mail. He said he considers only financial factors in lending decisions. 

For many minorities, personal experience makes the opposite argument. 
100 


80871.053

"I grow tired of the assumption that biased practices are the result of our collective inability to budget, 

get ready, think," said Tressie Cottom, a black Charlotte resident who said her mother was lured into a 

bad loan. "There is a higher cost associated with being black in this country." 

Mortgage brokers' role 

The discussions are focused heavily on the role of mortgage brokers, partially because they sell most 

high-interest loans, partially because the law says little about their role. 

The federal laws that govern the mortgage industry largely were written in the 1970s, when lenders sold 

loans directly to borrowers. Now lenders are mostly national companies that sell their loans through 

small, independent brokers. 

Brokers can offer better rates than a lender will quote directly, and they can eliminate the hassle of 

shopping around. Studies sponsored by the industry show the average customer saves money by 

working through a mortgage broker. 

But the government has found some brokers pad profits by rolling undisclosed fees into the cost of the 

loan. The Department of Housing and Urban Development estimated in 2002 that brokers overcharged 

customers by about $3 billion a year. 

A Harvard study of the most common hidden fee, called a yield spread premium, found minorities were 

overcharged disproportionately. 

"The broker is the one who knows what's going on," said Rep. Miller, who favors the idea of making 

brokers represent their customers. When brokers overcharge customers, "That is unconscionable to me 

and a real betrayal of trust by the broker." 

A compromise proposal offered by lenders and consumer advocates, the groups on either side ofthe 

brokers, suggests a cap on the fees that brokers can charge. That would limit the cost to any individual, 

and reduce the opportunity for discrimination. 

Both ideas have been strongly opposed by the National Association of Mortgage Brokers. 

"I don't think that price controls are the American way of life," said Kate Crawford, an N.C. mortgage 

broker and a member of NAMB's board. 

The brokers also have made clear they will oppose any law that does not focus equally on loans sold to 

customers directly by mortgage lenders. 

"We are not going to be singled out as the only industry that would have certain restraints on our 

business practices," Crawford said. 

State laws vary 

In the absence of a federal law, many states have passed their own mortgage lending laws. The fate of 

those laws is another issue at the heart of the congressional discussions. 

In 1999, North Carolina passed a predatory lending law still widely regarded as a national model. It 

restricted the sale of loans with the highest interest rates, and barred certain fees and restrictions on 

most loans. For example, it limited the use of prepayment penalties fees charged by lenders when 

borrowers attempt to repay a loan ahead of schedule. Such fees can prevent customers from 

refinanCing to a lower interest rate. 

Other states have adopted similar laws, but the efforts have created a jagged regulatory landscape for 

lenders. In recent years, they have pushed Congress to adopt a single national standard. 

Consumer advocates and state regulators say any national law should not replace state laws, because 

states can respond faster to changes in the mortgage industry. Instead, they have pushed Congress to 

adopt a national law that would define minimum regulations, leaving states free to go further. 

The recent negotiations began when Bachus suggested a compromise: A national law similar to North 

Carolina's, but still replacing the state laws. The discussions now center on areas that are ignored in the 

N.C. law. Among those areas is the thorniest: The role of mortgage brokers. 
101 


80871.054

Binyamin Appelbaum: (704) 358-5170 

What This Means to Borrowers 

A national lending law could add protections for people shopping for mortgage loans - or it could 

replace an existing N,C. law with a weaker federal standard. 

Ideas for Improvement 

There are three basic ideas for protecting borrowers. A compromise bill would probably require some 

combination of these strategies: 

Regulate the product. Congress could restrict the types of loans that can be sold, orthe fees that can be 

charged. A 1999 N.C. law is often cited as a possible model. It limits the terms of loans with high interest 

rates. It also bars certain fees, such as penalties for repaying a loan ahead of schedule. 

The problem: Most products on the market are suitable forat least some borrowers. Blanket restrictions 

would limit the availability of those loans, potentially reducing the ability of some people to buy homes 

or tap their equity. 

Regulate the seller. Congress could require mortgage brokers to serve the interest of the borrower, 

something that is already required of stock brokers, for example. Such a law could require the broker to 

find the best deal for a customer. Congress could also set national standards for brokers. 

The problem: Brokers say they work for both the lender and the borrower, so they cannot solely 

represent either party. They also say any law should apply equally to loan sellers employed directly by 

lenders. 

Educate the borrower. Congress could increase support for programs that teach borrowers to navigate 

the lending process. It could also reform the way loan prices are explained to borrowers, making the 

true cost of a loan easier to understand and easier to compare with other offers, 

The problem: Consumer advocates say the interaction between an experienced lender and a borrower is 

inherently unequal. Education and disclosure, while important, are not sufficient by themselves. 
102 


80871.055

SPENCFR BACHUS 

F:N/,NCJAl SERV1CES. !"I,'iil",1P."itf"Ebl1"S 

JVDICIAHY 

fLCongrezz of tbe Winiteb ~tatez 

}t)OUfI'c of :Ii.\cprrBentc1tibcli 

WillIl!5l)ingtoll, !\(/[ 

September 28, 2006 

The Honorable Barney Frank 

Ranking Member 

I-louse Financial Services Committee 

2252 Rayburn Oft1ee Building 

Washington, DC 20515,0001 

Dcar Mr. Frank, 

Enclosed is a legislative dratl of a Stlb'prime Lending Bill which [believe closely 

tracks the proposal submitted to you and your Democratic colleagues in mid-June of this 

year. This proposed legislation is intended to provide a national standard to extend 

protection against predatory lending practices to consumers in all 50 states. 

The draa bill is based upon the North Carolina Anti,predatory Lending Law with 

some provisions frorn New Jersey law. Importanlly, it conlrllns significant new or 

enhanced protections for consumers including: 

A suitability standard; 

Yield spread premiums in the points and fees trigger: 

Prohibition on mandatory arbitration; 

Prohibition on prepayment penaities on loans of less than $75,OO(); 

The right of an individual consumer tD initiate private rights of action to 

enforce the provisions of this law. 

Hopefully this dtan can 1110ve the process forward and serve as a focus for our 

continued disclissions of this important area of consumer protection law. 1 look fOlward 

to working \vith you and your colleagues to reach a consensus \\'hich will allow 

enactment of1cgislatioo which hoth protects and benefits com-mmers. 

cc: Hon. Paul Kanjorski 

I-Ion. Melvin Watt 

H(m. Brad Miller 

Sincerely, 

/{lr~13~A'l~~. Spencer Bachus 

Member of Congress 
103 


80871.056

April 25, 2007 

The Honorable David M. Walker 

Comptroller General 

GAO 

441 G Street, N.W., Room 7100 

Washington, D.C. 20548 

Dear General Walker, 

As Chairman and Ranking Member of the Committee on Financial Services, with jurisdiction over both federal 

housing policy and the financial services industry, we are, very concerned with the significant increase in 

foreclosures on residential mortgages seen in recent months. Developing workable solutions to the current 

problems in the subprime mortgage market is a high priority for Members of both Houses and both parties, 

and our Committee will be considering legislation on the subject in the coming months. 

To assist the Committee in its deliberations, we are requesting that the GAO conduct a thorough study of the 

reasons for the recent surge in foreclosures. It seems clear that the type of mortgages that have been offered 

to borrowers in recent years is one such factor, but there is no reason to conclude that that it is the only 

factor. Morecver, even if the types of mortgages recently being offered are the predominant fador, the 

question is why they have only now begun to lead to higher foreclosure rates. 

In performing its analysis, GAO should examine the current state of the problem, its causes, and potential 

solutions, and should seek to provide answers to the following questions, as well as any others that the GAO 

finds to be relevant. 

Current state of Problem. What is the scope and magnitude of the current increase in foreclosures, and has 

the increase been concentrated: geographically; in the subprime or prime market; in refinancing or purchase 

money transactions; among first-time homebuyers or speculators; in loans made by or through particular 

classes of lenders (e.g., federally chartered versus other lending institutions)? How does the recent rise in 

foreclosures compare to the scope of foreclosures in previous housing downturns? Are foreclosure rates higher 

in regions that are also experiencing higher unemployment levels? 

Causes of the Problem. What role has been played by: the rise in subprime lending and risk-based loan 

pricing; "alternative" or "exotic" mortgages (e.g., interest-only, high loan-to-value, no-documentation and 

similar loans); predatory practices (e.g., loan flipping and deceptive sales practices, among others); 

evaluations of borrowers' ability to repay? What effect has the increased involvement of secondary markets 

(securitization, parceling and packaging of risk, and the like) had on foreclosures? What impact have the 17 

consecutive Federal Reserve interest rate increases had on borrowers with adjustable rate mortgages (ARMs)? 

What role have federal and state regulators played in monitoring and averting foreclosures, and have their 

actions been adequate and effective? What effect have trends in employment both nationally and regionally 

had on delinquency rates? What impact has the slow down or absence of home price appreciation had on 

foreclosure rates, particularly in high unemployment regions? Have life events, such as job loss, major 

sickness or death had an impact on current foreclosure rates? 

Potential Solu~ons. Wtlat constructive role in resolving the problem and averting future Foreclosures can be 

played by; mortgage counseling, financial education, lender forbearance and loan "work-outs," among other 

tools? What role can the Federal Housing Administration (FHA) and the housing Government Sponsored 

Enterprises (GSEs) play in refinanCing failing loans and offering new mortgage products? What impact, if any, 

will use of these tools have on the number of borrowers who will have access to mortgage credit? 

Given the potential effects of foreclosures on consumers and the economy, and the potential need for 

Congressional action on these issues, we look forward to GAO's prompt response. 

BARNEY FRANK SPENCER BACHUS 
104 


80871.057

GAO 

For Release on Delivery 

E},.1H~cted at 10:00 a.m. CST 

Thursday) December 4, 2008 

GAO·09·23IT 

United States Government Accountability Office 

Testimony 

Before the Subcommittee on Financial 

Services and General Government, 

Committee on Appropriations, U.S. Senate 

TROUBLED ASSET RELIEF 

PROGRAM 

Status of Efforts to Address 

Defaults and Foreclosures 

on Home Mortgages 

Statement of Mathew J. Scire, Director, 

Financial Markets and Community Investment 

i 

j:; GAO 

Accountability * Integrity * Reliability 
105 


80871.058

Highlights of GAO·09-231T, a testimony to 

Subcommittee on Fimmcia! Services and 

General Government, Committee on 

Approprialtons, U.S, Senate 

Why GAO Did This Study 

A dramatic increase in mortgage 

loan defaults and foreclosures is 

one of the key contributing factors 

to the current downturn in the U.s. financial markets and economy. In 

response, Congress pa'3sed and the 

President signed in July the 

Housing and Economic Recovery 

Act of 2008 and in October the 

Emergency Economic Stabilization 

Act of 2008 (EESA), which 

established the Office of Financial 

Stability (OF'S) within the 

Department of the Treasury and 

authorized the Troubled A."set 

Relief Program (TARP). Both acts 

establish new authorities to 

preseIVe homeownership. In 

addition, the administration, 

independent [manciaI regulators, 

and others have illldertaken a 

number of recent efforts to 

preseIVe homeownership. GAO 

was asked to update its 2007 report 

on default and foreclosure trends 

for home mortgages, and describe 

the O1"S's efforts to preserve 

homeownership. 

GAO analyzed quarterly default and 

foreclosure data from the Mortgage 

Bankers Association for the period 

1979 through the second quarter of 

2008 (the most recent qumt.er for 

which data were available). GAO 

also relied on work performed as 

part of its mandated review of 

Treasury's implementation of 

TARP, which induded obtaining 

and reviewing information from 

Treasury, federal agencies, wd 

other organizations (including 

selected banks) on home 

ownership preseIVation efforts. To 

acces..') GAO's fIrst oversight report 

on Treasury's implementation of 

TARP, click on GAO-09-161. 

To view the full product, including the scope 

and methodology, click on GAO-09·231T. 

For more information, contact Mathew Scire 

at (202) 512-8678 or sciremj@gao.gov. 

TROUBLED ASSET RELIEF PROGRAM 

Status of Efforts to Address Defaults and 

Foreclosures on Home Mortgages 

What GAO Found 

Default and foreclosure rates for home mortgages rose sharply from the 

second quarter of 2005 through the second quarter of 2008, reaching a point at 

which more than 4 in every 100 mortgages were in the foreclosure process or 

were 90 or more days pa..<:;t due. These levels are the highest reported in the 29 

years since the Mortgage Bankers Association began keeping complete 

records and are ba<,ed on its latest available data. The subpriroe market, which 

consists of loans to bOlTowf"rs who generally have blemished credit and that 

reature higher interest rates and fees, experienced substantially steeper 

increases in defauU and foreclosure rates than the prime or goverrunentinsured market.-'), accoUllting for over half of the overall inerea..<;e. In t.he prime 

and subprime market. segment.", adjustable-rate mortgages experienced 

steeper growth in default and foreclosure rates than fixed~rate mort.gages. 

Every state in the nation experienced growth in the rate at which loans 

entered the foredosUl'c proces..'l from the second quarter of 2005 through the 

second quarter of 2008. The rate rosl;:~ at lea"t 10 percent in every state over 

the 3~year period, but 23 states experienced an increase of 100 percent or 

more. Several states in the "Sun Belt" region, including Arizona, California, 

Florida, and Nevada, had among the highest percentage increases, 

OFS initially intended to purchase troubled mortgages and mortgage-related 

assets and use its ownership position to influence loan servicers and to 

achieve more aggressive mort.gage modification standards. Howpver, within 

two weeks of EESNs passage, Treasury detennined it needed to move more 

quickly to stabilize financial markets and armounced it would use $250 billion 

of TARP flmds to hued capital directly into qualified [mandai institutions by 

purchasing equity. In recitals to the standard agreement with Treasury, 

Institutions receiving capital injection..<:; state that they will work diligently 

under existing programs to modify the tenus of residential mort.gages. It 

remains unclear, however, how OFS and the banking regulators will monitor 

how these institutions are using the capital injections to advance the ptl.Jl)oses 

of the ad, including preserving homeownership. As part of its first TARP 

oversight report., GAO recommE'nded that Treasury, among other things, work 

with the bank regulators to E'stablish a systematic means for detennining and 

reporting on whether financial insLitutions' activities are generally consistent 

with program goals. Treasmy also est.ablished an Office of lIomeownership 

Preservalion within OFS that is reviewing various options for helping 

homeowners, such as insuring troubled mortgage-related assets or adopting 

programs based on the loan modification efforts of FDIC and others, but it is 

still working on its strategy for preseIVing homeownership, ·While Treasur:v 

and others will face a number of challenges in Ulldertaking loan modification.", 

including making transparent to invest.ors the analysis supporting the value of 

modification versus foreclosure, rising defaults and foreclosures on home 

mortgages uuderscore the import.anee of ongoing and futmp. efforts to 

preserve homemvnership. GAO will continue to monitor Treasury's efforts as 

part of its mandated TARP oversight responsibilities. 

______________ United States Government Accountability Office 
106 


80871.059

Mr. Chainnan and Members of the Committee: 

I am pleased to be here t.oday to provide an update on our 2007 report on 

default and foreclosure trends for home mOltgages and to discuss the 

Department of Treasury's efforts to preserve homeownership as part of its 

implementation of the Troubled Asset Relief Program (T ARP).' My 

statement is gromlded in recent work we did to update our 2007 report 

and in our ongoing review of Treasury's implementation of TARP as 

authorized by the Emergency Economic Stabilization Act of 2008, TARP's 

enabling legislation. 2 

Today the U.S. financial markets are undergoing stresses not seen in our 

lifetime. These stresses were brought on by a fall in the price of fmancial 

assets associated with housing, in particular mortgage assets based on 

subprime loans that lost value as the housing boom ended and the market 

tmderwent a dramatic correction.s Defaults and foreclosures have affected 

not only those losing their homes but also the neigbborhoods where 

houses now stand empty. They have imposed significant costs on 

borrowers) lenders, and mortgage investors and have contributed to 

increased volatility in the U.S. and global financial markets. 

The Emergency Economic Sta.bilization Act, which Congress passed and 

the president signed on October 3, 2008, in response to the turmoil in the 

financial and housing markets, established the Office of Financial Stability 

(OFS) within the Department orthe Treasury and authorized the Troubled 

Asset Relief Program (TARP), which gave OFS authority to purchase and 

insure troubled mortgage-related assets held by fmancial institntions. One 

of the stated purposes of the act is to ensure that the authorities and 

facilities prOvided by th(' act are used in a manner that, among other 

things, presenres homeownership. Additionally, to the extent that troubled 

mortgage-related assets were acquired tu1derTAHP, Treasury was required 

to implement a plan that sought to "maximize a.ssistance to homeowners" 

and use the Secretary's authority to encoumge the use of the HOPE for 

Homeowners Program or other available programs to nlinimize 

IGAO, blfonnation on Recent De,/ault and Foredosure. Trend,<; J01' Horne Mortgages and 

Associa.f,ed bconornic and Markel. Developments, GAO-08-78R (Wa..:;hington D.C: October 

16,2007). 

'Puh. L. 110-34:1, 122 Stat. 3765 (October 3,2008). 

lSubprime loans arc loans generally madE' to borrowers ... ith blemished credit that feature 

higher interest rates and fef's than prim!:' loans. 

Page 1 GAO-09-231T 
107 


80871.060

foreclosures. The HOPE for Homeowners program was created by 

Congress under the Housing and Economic Recovery Act of 2008 (HERA). 

The program, which was put in place in October 2008, is administered by 

the Federal Housing Administration within the Department of Housing and 

Urban Development. It is designed to help those at risk of default and 

foreclosure refinance into more affordable, sustainable I03ll..'i. HERA also 

made a nmnber of other significant changes to the housing finance system, 

including creating a single regulator for the government-sponsored 

enterprises (GSEs )-Fannie Mae, Freddie Mac, and the Federal Home 

Loan Banks-and giving Treasury authority to purchase obligations and 

securities of the GSEs. 

To update information contained in our 2007 report on default and 

foreclosure trends, we analyzed data from the Mortgage Bankers 

Association's quarterly National Delinquency Sunrey, which covers about 

80 percent of the mortgage market. The survey provides infonnation 

dating back to 1979 on first-lien purchase and refinance mortgages on aneto four-family residential properties.' 

For the period 1979 through the second quarter of 2008 (the most recent 

qUaIier for which data wem available for the dataset we were using), we 

examined national and state-Jevel trends in the numbers and percentage of 

loans that were in default, starting the foreclosure process, and in the 

foreclosure inventory each quarter. For the second quarter of 2005 through 

the second quarter of 2008, we dL,aggregated the data by market segment 

and loan type, calculated absolute and percentage increases in default and 

foredosure measures, compared and contra<5ted trends for each state, and 

compared default and foreclosure start rates at the end of this period to 

historical highs. In our previous report, we assessed the reliability of the 

NDS data by «,viewing existing information about the quality of the data, 

performing electronic testing to detect errors in completeness md 

reasonableness, and interviewing MBA officials knowledgeable about the 

data. We detennined that the data were sufficiently reliable for purposes 

of the report. To describe Treasury's efforts to develop a homeownership 

preservation progrmn as part ofits TARP implementation efforts, we 

relied on the work that we performed as part of our mandated review of 

4The National Delinquency Survey presents default <Old foreclosure rates (i.e., the number 

of loans in u('fuuli. or foreclosure divided by the number of loans being serviced). 

Page 2 GAO-09-231T 
108 


80871.061

Summary 

Treasury's implementation of TARP." Specifically, we obtained and 

reviewed available infonnation, including public statements by Treasury 

officials, tenns for participation in the Capital Purchase Progranl (CPP), 

data on loan modification program efforts of other agencies and 

organizations, and OFS organization charts. Additionally, we interviewed 

Treasury officials to obtain information on actions taken to date and to 

discuss their plamled actions and priorities regarding homeownership 

preservation. We also held discussions with the first 8 financial institutions 

that received TARP funds under its CPP. 

The work on which this testimony is ba.<;ed was perfonned in accordance 

with generally accepted government auditing standards. TIlOse standards 

require that we plan and perfornl the audit to obtain sufficient, appropriate 

evidence to provide a reasonable ba."iis for our finding and conclusions 

based on our audit objectives. We believe that the evidence obtained 

provides a reasonable basis for our findings and conclusions based on our 

audit objectives. 

Default and foreclosure rates for home mortgages rose sharply from the 

second quarter of 2005 through the second quarter of 2008, reaching a 

point at which more than 4 in every 100 mortgages were in the foreclosure 

process or were 90 or more days past due.r, These levels are the rughest 

that have been reported in the 29 years since the Mortgage Bankern 

Association began keeping complete records. The subpriIne market 

experienced substantially steeper increases in default and foreclosure 

rates than the prime or govenunent-insured markets, accounting for over 

half of the overall increase in the number of loans in default or foreclosure 

tlming this time frame. In both the prime and subprime market segments, 

adjustable-rate mortgages experienced relatively steeper growth in default 

and foreclosure rates compared with fIxed-rate mortgages, which had 

more modest increases. Every state in the nation expetienced growth in 

the rate at which foreclosures started from the second quart.er of 2005 

through the second quarter of 2008. By the end of that period, foreclosure 

"GAO, Troubled Asset ReUef Program: ./l.dfiitional Actions Needed to Better Ensure 

[n.l.cgrity, AccountabUity, and Transpare-ncy, GAO-09-161 (Washington, D.C.: December 2, 

2008). 

(iAlthough definitions vary, a mortgage loan is commonly considered in default when the 

borrower has missed three or more consecutive monthly paymE'nts (te., is 90 or more days 

delinquent). 

Page 3 GAO--09-23IT 
109 


80871.062

start rates were at their 29-year maximwns in 17 states. The foreclosure 

start rate rose at least 10 percent in every state over the 3·year period, but 

23 states experienced an increase of 100 percent or more. Several states in 

the "Sun Belt" region, such as Arizona, California, Florida, and Nevada, 

had among the highest percentage increases in foreclosure start rates. 

In light of its initial decision not to conduct large-scale purchases of 

troubled mortgage-related a.<;sets held by fmandal institutions, Treasury's 

OF'S has been considering different approaches to preserving 

homeownership. OFS had initially intended to purchase troubled 

mortgage-related assets and use its mvnership position to influence loan 

servicers and achieve more aggressive mortgage modification standards, 

which would help meet the purposes of the act. Instead, OFS chose to use 

$250 billion of TARP funds to inject capital directly into qualilled financial 

institutions through the purchase of equity. According to OFS, this shift in 

strategy was intended to have an inunediate impact on the health of the 

U.S. financial and housing markets by ensuring that lenders had sufficient 

funding and encouraging them to provide credit to businesses and 

consmners, including eredit for housing. Treasury also has indicated that it 

intends to use its cpr to encourage financial institutions to work to 

modify the terms of existing residential mortgages. However, Treasury has 

not yet determined if it will impose reporting requirements on the 

participating fmancial institutions, which would enable Treasury to 

monitor, to SOfie extent) whether the capital infusions are achieving the 

intended goals. A5 a resuit, we recommended in our fIrst TARP oversight 

report that Treasury work with the bank regulators to establish a 

systematic mean...", for reviewing and reporting on whether fmancial 

institutions' activities are consist.ent with the purposes of CPP. 'Treasury 

is taking additional steps toward the act's goal of preserving 

homeownership. It bas established an Office of tbe Chief of 

Homeownership Preservation within OFS that is considering variOlt';; 

options, such as insuring troubled mortgage-related assets or adopting 

programs based on the loan modification efforts of FDIC and otbers. 

These include recent efforts announced by the GSEs and their regulator to 

streamline loan modifications. While loan modification presents a number 

of cballenges, rising defaults and foreclosures on home mortgages 

underscore the importance of ongoing and future efforts to preserve 

homeownership. We will continue to monitor Treasury's efforts to 

preserve home ownersbip as prot of our TARP oversight responsibilities. 

GAO·09·161 

Page 4 GAO·09·23IT 
110 


80871.063

Background As of June 2008, there were approximately 58 million first-lien home 

mortgages oul,tanding in the United States. According to a Federal 

Reserve estimate, outstanding home mortgages represented over $10 

trillion in mortgage debt. The primary mortgage market has several 

segments and offers a range of loan products: 

The prime market segment serves borrowers with strong credit histories 

and provides the most competitive interest rates and mortgage tenus, 

The subprime market segment generally serves borrowers with blernLshed 

credit and features higher interest rates and fees than the prime market. 

The Altemative-A (Alt-A) market segment generally serves borrowers 

whose credit histories are close to prime, but the loans often have one or 

more higher-risk featufPs, such as limited documentation of income or 

assets. 

The government-insured or -guaranteed market segment primarily serves 

borrowers who may have difficulty qualifying for prime mortgages but 

features interest rates competitive with prime loan..') in return for payment 

of insurance premiums or guarantee fees. 

Across all of these market segments, two types of loans are common: 

fixed-rate mortgages, which have interest rates that do not change over the 

life of the loans, and adjustable-rate mortgages (ARM), which have interest 

rates that change periodically based on changes in a specified index. 

Delinquency, default and foreclosure rates are common measures of loan 

pcrfomlaIlce. Delinquency is the failure of a borrower to meet one or more 

scheduled monthly payments. Default generally occurs when a borrower is 

90 or more days delinquent. At this point, foreclosure proceedings against 

the borrower become a strong possibility. Foreclosure is a legal (and often 

lengthy) process with several possible outcomes, including that the 

borrower sells the property or the lender repossesses the home. Two 

measures of foreclosure arc foreclosure starts (loans that enter the 

foreclosure process during a particular time period) and foreclosure 

inventory (loans that are in, but have not exited, the foreclosure process 

during a particular time period). 

One of the main sources of information on the status of mortgage loans is 

the Mortgage Bankers Association's quarterly National Delinquency 

Survey. The survey provides national and state-level information on 

mortgage delinquencies, defaull" and foreclosures back to 1979 for firstlien purchase and refinance mortgages on one-to-four family residential 

Page 5. 
111 


80871.064

units.' The data are disaggregated by market segment and loan type--

fixed-rate versus adjustable-fate-but do not contain information on other 

loan or borrower characteristics. 

In response to problems in the housing and [mandal markets, the Housing 

and Economic Recovery Act of 2008 was enacted to strengthen and 

modernize the regulation of the govenunent-sponsored enterprises 

(GSEs)-Fannie Mae, Freddie Mac, and the Federal Home Loan Banksand expand their mission of promoting homeownership.\l The act 

established a new, independent regulator for the GSEs called the Federal 

Housing Finance Agency, which has broad new authority, generally 

equivalent to the authority of other federal financial regulators, to ensure 

the safe and sound operations of the GSEs. The new legislation also 

enhances the affordahle housing component of the GSEs' mi')sion and 

expands the number of families Fannie Mae and Freddie Mac can serve by 

raising the loan limits in high-cost areas, where median house prices are 

higher than the regular conforming loan limit, to 150 percent of thatlinlit. 

The act requires new affordable housing goals for Federal Home Loan 

Bank mortgage purchase programs) similar to those already in place for 

Fannie Mae and Freddie Mac. 

The act also established the HOPE for Homeowners program, which the 

Federal Housing Administ.ration (FHA) will administer within the 

Department of Housing and Urban Development (HUD), to prO\~de 

federally in..sured mortgages to distressed borrowers. The new mortgages 

are intended to refinance distressed loans at a significant discOlmt for 

owner~occupants at risk of losing their homes to foreclosure. In exchange, 

homeowners share any equity created by the discounted restructured loan 

as well as future appreciation with FHA, which is authorized to insure up 

to $aOO billion in new loans under this program. Additionally, the borrower 

cannot take out a second mortgage for the first five years of the loan, 

except under certain circumstances for emergency repairs. The program 

became etTective October 1, 2008, and will conclude on September 30, 

2011. To participate in the HOPE for Homeowners progranl, borrowers 

must also meet specific eligibility criteria a..'l follows: 

8NDS data do not separately identify Alt-A loans but include them among loans in the prime 

and subpJime categories. State-level breakouts are basf'd on the address of the property 

associated with each loan. The NDS presents default a.nd foreclosure rates (Lt'., the number 

of loans in default. or foreclosure divided by the number of loans being serviced). 

"Pub. L. 110-289, 122 Stat. 2651 (July 30, 2008). 

Page 6 GAO-09-23IT 
112 


80871.065

Their mortgage must have originated on or before January 1,2008. 

They must have made a minimmn of six full payments on their existing 

first mortgage and must not have intentionally missed mortgage payments. 

They must not own a second home. 

Their mortgage debt-ta-income ratio for their existing mortgage must be 

greater than 31 percent. 

They must not knowingly or willfully have provided false information to 

obtain the existing mortgage and must not have been convicted of fraud in 

the last 10 years. 

The Emergency Economic Stabilization Act, passed by Congress and 

signed by the President on October 3,2008, created TARP, which outlines 

a troubled asset purchase and insurance program, among other things. Hl 

The total size of the program cannot exceed $700 billion at any given time. 

Authority to purchase or insure $250 billion was effective on the date of 

enactment, with an additional $100 billion in authority available upon 

submission of a certification by the PreBident. A final $350 billion is 

available under the act but is subject to Congressional review. The 

legislation requlred that financial institutions that sell troubled assets to 

Treasury also provide a warrant giving Treasury the right to receive shares 

of stock (common or preferred) in the iILc;titution or a senior debt 

in.."trurnent from the institution. The temlS and conditions of the warrant 

or debt instrument must be designed to (1) provide Treasury with 

reasonahle participation in equity appreciation or "'lith a reasonable 

interest rate premium, and (2) provide additional protection for the 

taxpayer against losses from the sale of assets by Treasury and the 

administrative expenses of TARP. To the extent that Treasury aequircs 

troubled mortgage-related assets, the act also directs Treasury to 

encourage servicers of the underlying loans to take advantage of the 

HOPE for Homeowners Program. Treasury is also required to consent, 

where appropriate, to rca..')onable requests for loan modifications from 

homeowners whose loans are acquired by the government. The aet also 

requires the Federal Housing Finance Agency, the Federal Deposit 

Insurance Corporation (FDIC), and the Federal Reserve Board to 

implement a plan to maximize assistance to homco'WTlers, that may 

Page 7 GAO-09-231T 
113 


80871.066

include reducing interest rates and principal on residential mortgages or 

mortgage-backed securities owned or managed by these institutions. 

The regulators have also taken steps to support the mortgage finance 

system. On Novemher 25,2008, the Federal Reserve annoIDlced that it 

would purchase up to $100 hillion in direct obligations ofthe GSEs 

(Fannie Mae, Freddie Mac, and the Federalllome Loan Banks), and liP to 

$500 billion in mortgage-backed securities backed by Fanme Mae, Freddie 

Mac, and Ginnie Mac. It undertook the action to reduce the cost and 

increase the availability of credit for home purchases, thereby supporting 

housing markets and improving conditions in financial markets more 

generally. Also, on November 12, 2008, the four financial institution 

regulators issued a joint statement underscoring their expectation that all 

banking organizations fulfill their fundanlental role in the economy as 

intennediaries of credit to businesses, consumers, and other creditworthy 

borrowers, and that banking organizations work with existing mortgage 

borrowers to avoid preventable foreclosures. The regulators further stated 

that banldng organizations need to ensure that their mortgage seIVicing 

operations are sufficiently funded and staffed to work with borrowers 

while implementing effective risk-mitigation measures. Finally, on 

November 11, 2008, the Federal Housing Finance Agency (F'HFA) 

announced a streamHned loan modification program for home mortgages 

controlled by the GSEs. 

Most mortgages are bundled into securities called residential mortgagebacked securities that are bought and sold by investors, These securities 

may be issued by GSEs and private companies. Privately issned mortgagebacked securities, known as private label securities, are typically backed 

by mortgage loans that do not confonn to GSE purchase requirements 

because they are too large or do not meet GSE IDlderwriting criteria 

Investment banks bIDldle most subprime and Alt-A loans into private label 

residential mortgage-backed securities, The originatorllender of a pool of 

securitized assets usually continues to service the securitized portfolio, 

Servicing includes customer service and payment processing for the 

borrowers in the securitized pool and collection actions in accordance 

with the pooling and semcing agreement.. The decision to modify loans 

held in a mortgage-backed security typically resides with the semcer. 

According to some industry experts, the semcer may be limited by the 

pooling and servicing agreement with respect to performing any largescale modification of the mortgages that the security is based upon. 

However, others have stated that the va.:.;t majority of servicing agreements 

do not preclude or routinely require investor approval for loan 

Page 8 GAO-09-23IT 
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80871.067

Default and 

Foreclosure Rates 

Have Reached 

Historical Highs and 

Are Expected to 

Increase Further 

modifications. We have not assessed how many potentially trouhled loan.."> 

face restrictions on modification. 

National default and foreclosure rates rose shaIJlly during the 3-year 

period from the second quarter of 2005 through the second quarter of 2008 

to the highest level in 29 years (fig.l). U More specifically, default rates 

more than doubled over the 3-year period, growing from 0.8 percent to 1.8 

percent. Similarly, foreclosure start rates-representing the percentage of 

loans that entered the foreclosure process each quarter~grew almost 

three-fold, from 0.4 percent to 1 percent. Put another way, nearly half a 

million mortgages entered the foreclosure process in the second quarter of 

2008, compared with about 150,000 in the second quarter of 2005." Finally, 

foreclosure inventory rates rose 175 percent over the 3-year period, 

increasing from 1.0 percent to 2.8 percent, with most of that growth 

occurring since the second quarter of 2007. As a result, almost 1.25 million 

loans were in the foreclosure inventory as of the second quarter of 2008. 

l11n the second quarter of2005, foreclosure rates began to rise after remaining relatively 

stable for about 2 years. 

12We calculaterl the number of foreclosure- st,arts and the foreclosure inventory by 

nlultiplying foreclosurE' ratcs by the number of loans that the National Delinquency Survey 

showed as being serviced and rounding to the rwarest thousand. Because the survey does 

not ('over all loans being selViced, the actual number of foreclosures is probably higher 

than the amounts we calculated. 

Page 9 GAO-09-231T 
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80871.068

Figure 1; National Default and Foreclosure Trends, 1979 Second Quarter 2008 

011979-022008 

Percenlage 

Default 

02 2005 - 02 2008 

PeI'"centage 

3.00 

2.75 

2.50 

2.25 

2.00 

1.75 

lEO 

1.25 1.00_.,.. .... ~~---../ 

D.75 

0.50 ." .• '"~,. __ 

0.25 

0203 Q401 02 Q3 04 01 Q2 03 Q4 01 02-

2005 2006 2007 2008 

Foreclosureslarts _Foreclosuroinventory Periods of economic recession 

Sourco: GAO ooalysis 01 MBA. data, National Bureau of fr::onomiC Rew!\rch, 

Default and foreclosure rates varied by market segment and product type, 

with subprime and adjustabl~rate loans experiencing the largest increases 

during the 3-year period we examined. More specifically: 

In the prime market segment, which account£d for more than threequarters of the mortgages being serviced, 2.4 percent of loans were in 

default or foreclosure by the second quart.er of 2008, up from 0.7 percent 3 

years earlier. Foreclosure stari rat.es for prime loans began the period at 

relatively low levels (0.2 percent) but rose sharply on a percentage basis, 

reaching 0.6 pAlrcent in the second quarter of 2008. 

In the subprime market segment, about 18 percent of loans were in default 

or foreclosure by the second quarter of 2008, compared with 5.8 percent 3 

years earlier. Subprime mortgages accounted for less than 15 percent of 

the loans being serviced, but OVer half of the overall increase in the 

number of mortgages in default and foreclosure over the period. 

Additionally, foreclosure stari rates for subprime loans more than tripled, 

rising from 1.3 percent to 4.3 percent (see fig. 2). 

Page 10 GAO-09-231T 
116 


80871.069

In the government-insured or -guaranteed market segment, which 

represented about 10 percent of the mortgages being serviced, 4.8 percent 

of the loans were in default or foreclosure in the second quarter of 2008, 

up from 4.5 percent 3 years earlier. Additionally, foreclosure start rates in 

this segment incrc,,-,cd modestly, from 0.7 to 0.9 percent. 

ARl\1..'l accounted for a disproportionate share of the increase in the 

number of loans in default and foreclosure in the prime and subprime 

market segments over the 3-year period. In both the prime and subprime 

market segment.." ARMs experienced relatively steeper increases in 

default and foreclosure rates, compared with more modest grOVtill for 

fixed rate mortgages. In particular, foreclosure start rates for subprime 

ARMs more than quadrupled over the 3-year period, increasing from 1.5 

percent to 6.6 percent. 

Page 11 GAo·09·23IT 
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80871.070

Figure 2: Foreclosure Start Rates by Market Segment, Second Quarter 2005 through Second Quarter 2008 

Foreclosure start rate 

4.5 

4.0 

3.5 

3.0 

2.5 

2.0 

1.5 

1.0 

0.5 

0.0 

02 03 04 01 02 03 04 01 02 03 Q4 01 02 

2005 2006 2007 2008 

Prime 

Government-insured or ~guaranteed 

Subprime 

Source: GAO analysis of MBA data. 

Default and foreclosure rates also varied significantly among states. For 

example, as of the second quarter of 2008, the percentage of mortgages in 

default or foreclosure ranged from 1.1 percent in Wyoming to 8.4 percent 

in Florida. Other states that had particularly high combined rates of 

default and foreclosure included California (6.0 percent), Michigan (6.2 

percent), Nevada (7.6 percent), and Ohio (6.0 percent). Every state in the 

nation experienced growth in their foreclosure start rates from the second 

quarter of 2005 through the second quarter of 2008. By the end of that 

Page 12 
118 


80871.071

period, foreclosure start rates were at their 29-year maximums in 17 states. 

As shown in figure 3, percentage increases in foredosure start rates 

differed dramatically by state. The foreclosure start rate rose at least 10 

percent in every state over the 3-year period, but 23 states experienced an 

increase of 100 percent or more. Several states in the "Sun Belt" region~ 

such as Arizona, California, florida, and Nevada, had among the bighest 

percentage increases in foreclosure start rates. In contrast, 7 states 

experienced increases of 30 percent or less, including North Carolina, 

Oklahoma, and Utah. 

Figure 3: Percentage Change in Foreclosure Start Rates by State, Second Quarter 2005 through second Quarter 2008-~ 

PertentagQ change in 

foreclosure start rate 

1,200 

1.000 

600 

400 

200 

PereentagllcllSl"lge!n 

foreclosure start rate 

(02 2D05 - 02 2006) 

~1CF/QtD50%increase 

II1II 51J"k. to 100% increase 

.al'Morethan100%1I'lCro3Se 

Sources: GAO analysts ofM6A data; Art ExpiooiOl1 (map) 

Page 13 
119 


80871.072

Treasury is Examining 

Options for 

Homeownership 

Preservation In Light 

of Recent Changes in 

the Use ofTARP 

Funds 

Some mortgage market analysts predict that default and foreclosure rates 

will continue to rise for the remainder ofthls year and into nex-t year. The 

factors likely to drive these trends include expected declines in home 

prices and increases in the unemployment nlte. The i\lt-A market, in 

particular, may contribute to increases in defaults and foreclosures in the 

foreseeable future. According to a report published by the Office of the 

Comptroller of the Currency and the Office of Thrift Supervision, Alt-A 

mortgages represented 10 percent of the totnl number of mortgages at the 

end of June 2008, but constituted over 20 percent of total foreclosures in 

process. 13 The seriously delinquent rate for Alt-A mortgages was more than 

four times the rate for prime mortgages and nearly twice the rate for all 

outstanding mortgages in the portfolio. Also, Alt-A loans that were 

originated in 2005 and 2006 showed the highest rates of serious 

delinquency compared with Alt-A loans originated prior to 2005 or since 

2007, according to an August 2008 Freddie Mac financial report." This 

trend may be attributed, in prut, to Alt-A loans with adjust.able-rate 

mortgages whose interest rates have started to reset, which may translate 

into higher monthly payments for the borrower. 

Treasury is currently examining strategies for homem·vnership 

preservation .. including maximizing loan modifications, in light of a refocus 

in its use of TARP funds. Treasury's initial focus in implementing TARP 

wa<; to stabilize the financial markets and stinmlate lending to businesses 

and eOl1Suruers hy purchasing troubled mort:gage-related assetssecurities and whole loans-from financial institutions. Treasury planned 

to use it'S leverage as a major purchaser of troubled mortgages to work 

with servicers and achieve more aggressive mortgage modification 

standards. However, Treasury subsequently concluded that purchasing 

troubled assets would take time to implement and would not be sufficient 

given the severity of the problem. Instead, Treasury determined that the 

most timely, effective way to improve credit market conditioI1."i was to 

strengthen bank balance sheets quickly through direct purchases of equity 

in banks. 

nus. Department of Ule Treasury, Comptroller of the Currency and Office of Thrift 

Supervision, oee and OTS Mortgage Metrics Report, Disclosure of Nat'ional Bank and 

Pederal ThriJl Mortgage Loan Data, January-June 2008. 

HFrcddie Mac, Freddie Mac's Second Quarter 2008 Financial ResulLs, August 6, 2008. 

Page 14 GAO-09-231T 
120 


80871.073

The standard agreement between Treasury and the participating 

institutions in the CPP includes a number of provisions, some in the 

"recitals" section at the begirming of the agreement and other detailed 

temlS in the body of the agreemenl. The recitals refer to the participating 

institutions' future actions in general telTll.'i--for example, "the Company 

agrees to work diligently, IDlder existing programs to modify the terms of 

residential mortgages as appropriate to strengthen tlle health of the U.S. 

housing market." Treasury and the regulators have publicly stated that 

they expect these institutions to use the ftmds in a manner consistent with 

the goals of the program, which include both the expansion of the flow of 

credit and the modification of the ternlS of residential mortgages. But, to 

date it remains unclear how OFS and the regulators will monitor how 

participating institutions are using the capital injections to advance the 

purposes of the act. The standard agreement between Treasrny and thE' 

participating institutions does not require that these institutions track or 

report how they use or plan to use their capital investments. In our first 

50-day report to Congress on TARP, mandated by the Emergency 

Econontic Stabilization Act, we reconunended that Treasury, among other 

things, work witll t.he bank regulators to establish a systematic means for 

detennining and reporting on whether fmandal institutions' activities are 

generally consistent wit.h the purposes of CPP." 

Without purchac;;ing troubled mortgage assets as an avenue for preserving 

homeownership, Treasury is considering other ways to meet this 

objective. Treasury has established and appointed an interim chief for the 

Office of the Chief of Homeownershlp Preservation under OF'S. According 

to Treasury officials, t.he office is currently staffed with federal 

government detailees and is in the process of hiring individuals with 

expertise in housing policy, community development and ecouomic 

research. Treasury has stated that it is working with other federal 

agencies, including FDIC, HUD, and F1IFA to explore options to help 

homeowners nnder TARP. According to the Office of Homeownership 

Preservation interim chief, Treasury is con.<:;idering a number of factors in 

its review of possible loan modification options, induding the cost of the 

program, the extent to which the program minimizes recidivism among 

borrowers helped out of default, and the number of homeowners the 

program has helped or is projected to help remain in their homes. 

However, to date the Trea.-;ury has not completed it.":i strategy for 

preserving homeownership. 

"GAO-09-161. 

Page 15 GAO·09·231T 
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80871.074

Among the strategies for loan modification that Treasmy is considering is 

a proposal by FDIC that is based on its experiences with loans held by a 

bank lhal was recently put in FDIC conservatorship. The former lrulyMac 

Bank, F.S.B., was closed ,July 11, 2008, and FDIC was appointed the 

conservator for the new institution, IndyMac Federal Bank, F.S.B. As a 

result, FDIC inherited responsibility for servicing a pool of approximately 

653,000 fusHien mortgage loans, including more than 60,000 mortgage 

loans that were more than 60 days past due, in banknlptcy, in foreclosure, 

and otherwise nol currently paying. On August 20,2008, the FDIC 

armounced a program to systematically modify troubled residential loans 

for borrowers with mortgages owned or serviced by IndyMac FederaL 

According to FDIC, the program modifies eligible delinquent mortgages to 

achieve affordable and sustainable payments using interest rate 

reductions, extended anlOrtization, cmd where necessary, deferring a 

portion of the principal FDIC has stated that by modifying the loans to an 

affordable debt-to-income ratio (38 percenl at the lime) and using a menu 

of options to lower borrowers' payment..<; for the life of their loan, the 

program improves the value of the troubled mortgages while achieving 

economi.es of scale for senricers and stability for borrowers. According to 

FDIC, as of November 21, 2008, IndyMac Federal has mailed more than 

23,000 loan modification proposal, to borrowers and over 5,000 borrowers 

have accepted the offers and are making payments on modified mortgages. 

FDIC states that monthly payments on these modified mortgages arc, on 

average, 23 percent or approximalely $380 lower than the borrower's 

previous monthiy payment of principal and inlerest. According to FDIC, a 

federal loss sharing guarantee on re-defaults of modified mortgages under 

TARP could prevent as many as 1.5 million avoidable foreclosures by the 

end of 2009. FDIC estimated that such a program, including a lower debtto-income ratio of 31 percent and a sharing of losses in the event of a redefault, would cost. about $24.4 billion on an estimated $444 billion of 

modifled loans, based on an assumed re-default rate of 33 percent. We 

have not had an opportunity to independently analyze these estimates and 

assumptions. 

Other similar programs under review, according to Treasury, include 

strategies to guarantee loan modifications by private lenders, such as the 

HOPE for Homeowners program. Under this new FIlA program, lenders 

can have loans in their portfolio refinanced into FHA-insured loans with 

fixed interest rales. HERA had limited the new insured mortgages to no 

more than 90 percent ofthe property's current appraised value. However, 

on November 19, 2008, after action by the congressionally created Board 

of Directors of the HOPE for [[orne owners program, HUD announced that 

the program had been revised to, among other things, increase the 

Pag(' 16 
122 


80871.075

maximum amount of the new insured mortgages in certain 

cireumst<lllces. 16 Specifically, the new insured mortgages cannot exceed 

96.5 percent of the current appraised value for borrowers whose mortgage 

payments represent no more than 31 percent of their monthly gross 

income and monthly household debt payments no more than 43 percent of 

monthly gross income. Alternatively, the new mortgage may be set at 90 

percent of the current appraised value for borrowers with monthly 

mort,gage and household debt-to-income ratios as high as 38 and 50 

percent, respectively. These loan-to-value ratio maximmlls mean that in 

many circumstances the amount of the restructured loan would be less 

than the original loan amount and, therefore, would require lenders to 

write down the existing mort.gage amounts. According to BfA., lenders 

benefit by turning failing mortgages into perfomling loans. Borrowers 

mtL.<;t also share a portion of the equity resulting from the new mortgage 

and the value of future appreciation. This program first becarne available 

October 1, 2008, FHA has listed on the program's Web site over 200 

lenders that, as of November 25,2008, have indicated to FHA an interest in 

refInancing loans under the nOPE for Homeowners program. See the 

appendix to this statement for examples of federal government and private 

sector residential mortgage loan modification programs. 

Treasury is also considering policy actions that might be taken llilder CPP 

to encourage participating institutions to modify mortgages at risk of 

default, according to an 01"8 official. While not technically part of CPP, 

Treasury announced on November 23) 2008, that it will invest an additional 

$20 billion in Citigroup from TARP in exchange for preferred stock with an 

8 percent dividend to the Treasury. In addition, Treasury and FDIC will 

provide protection against lli1usually large losses on a pool of loans and 

securities on the books of Citigroup. The Federal Reserve will backstop 

residual risk in the asset pool through a non~reeourse loan. The agreement 

requires Citigroup to absorb the first $29 billion in losses. Subsequent 

losses are shared between the government (90 percent) and Citigroup (10 

percent). As part of the agreement, Citigroup will be required to use FDIC 

loan modification procedures to manage guaranteed a.ssets unless 

otherwise agreed. 

Although any program for modifying loans faces a number of challenges, 

particularly when the loans or the cash flows related to them have been 

bundled into securities that are sold to investors, foreclosures not only 

H'See ht.tp:llw1v'w.hud.gov!newslreleast'.cfm?content=;pr08,178.cfm. 

Page 17 GAO~09·231T 
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80871.076

affect those losing their homes but also their neighborhoods and have 

contributed io increased volatility in the :fmancial markets. Some of the 

challenges that loan modification programs face include making 

transparent to investors the analysis supporting the value of modification 

over foreclosure, designing the program to limit the likelihood of redefault) and ensuring that the program does not encourage borrowers who 

otherwise would not default to fall behind on their mortgage payments. 

Additionally, there are a number of potential obstacles that may need to be 

addressed in performing large-seale modification of loans supporting a 

mortgage-backed security. As noted previously, the pooling and seIVicing 

agreements may preclude the servicer from making any modifications of 

the underlying mortgages without approval by the investors. In addition, 

many homeowners may have second liens on their homes that may be 

cont.rolled by a different loan seIVicer, potentially complicating loan 

modification efforts. 

Treasury also points to chaUenges in financing any new proposal. The 

Secretary of the Treasury, for example, noted that it was important to 

distinguish between the type of assistance) which could involve direct 

spending, from the type of investment"; that are intended to promote 

financial stability, protect the taxpayer, and be recovered under the TARP 

legislation. However, he recently reaffinned that maximizing loan 

modifications was a key part of working through the housing correction 

and maintaining the quality of conununities across the nation. However) 

Trea.sury has not specified how it intends to meet its commitment to loan 

modification. We will continue to monitor Treasury's efforts as part of our 

ongoing TARP oversight responsibilities. 

Going forward, the federal government faces significant challenges in 

effectively deploying its resources and using its tools to bring greater 

stability to financial markets and preseIVing homeownership and 

protecting home values for millions of Americans. 

Mr. Chaimmn, this concludes my statement. I would be plea..<;ed to respond 

to any question.", that you or other members of the subcommittee may have 

at this time. 

Page 18 GAO-09-231T 
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80871.077

Appendix I: Examples of Federal 

Government and Private Sector Residential 

Mortgage Loan Modification Programs 

or Institution Selected Program Characteristics 

Federal Government Sponsored Programs 

Federal Deposit Indy Mac Loan Eligible borrowers are those with loans owned or serviced by Indy Mac Federal Bank 

Insurance Modification 

Corporation Program 

(FDIC) 

Federal Hope for 

Housing Homeowners 

Administration 

(FHA) 

Affordable mortgage payment achieved for the seriously delinquent or in default borrower 

through interest rate reduction, amortization term extenSion, and/or principal forbearance 

Payment must be no more than 38 percent of the borrower's monthly gross income 

Losses to investor minimized through a net present value test that confirms that the 

modification wi!! cost the investor less than foreClosure 

Borrowers can refinance into an affordable loan insured by FHA 

Eligible borrowers are those who, among other factors, as of March 2008, had total 

monthly mortgage payments due of more than 31 percent of their gross monthly income 

New insured mortgages cannot exceed 96,5 percent of the current loan-ta-value ratio 

(LTV) for borrowers whose mortgage payments do not exceed 31 percent of their monthly 

gross income and total household debt not to exceed 43 percent; alternatively, the program 

allows for a 90 percent LTV for borrowers with debHo~jncome ratios as high as 38 

(mortgage payment) and 50 percent (total household debt) 

Requires lenders to write down the existing mortgage amounts to either of the two LTV 

options mentioned above 

--:FC-e"7de-r-Cal---:;:St,-re-a-m-cli-ne-d;----~E;;:!ig:c.ib=le borrow'''er=s-=a'''re'"'t''"ho:C:s=e-:Cw"'h=o,-:a=m:C:o=n=g=ot'''h-=er''f=ac:7to:Cr=s,·h=a"ve::-m=iss:Ce:-:d"th"'r=ee::-::'pa"y=m:-:e=nt"'s-=o=rHousing Loan 

Finance Modification 

Agency (FHFA) Program' 

Private Sector Programs 

Bank of 

America 

JPMorgan 

Chase & Co. 

National 

Homeownership 

Retention 

Program 

Genera! loan 

modification 

options 

more 

Servicers can modify existing loans into a Freddie Mae or Fannie Mac loan, or a portfolio 

loan with a participating investor 

An affordable mortgage payment, of no more than 38 percent of the borrower's monthly 

gross income, is achieved for the borrower through a mix of reducing the mortgage interest 

rate, extending the life of the loan or deferring payment on part of the princ:..,ipa_I ___ _ 

Eligible borrowers are those with subprime or pay option adjustable rate mortgages 

serviced by Countrywide and originated by Countrywide prior to December 31 t 2007 

Options for modification include refinance under the FHA HOPE for Homeowners program, 

interest rate reductions, and principal reduction for pay option adjustable rate mortgages 

First~year payments mortgage payments will be targeted at 34 percent of the borrower's 

income, but may go as high as 42 percent 

Annual principal and interest payments wi!! increase at limited step~rate adjustments 

Affordable mortgage payment achieved for the borrower at risk of default through interest 

rate reduction andlor principal forbearance 

MOdification may also include modifying pay-option ARMs to 30-year, fixed-rate loans or 

interest-only payments for 10 years 

on origination dates, loan-to-value ratios, rate 

lTIli<;. program was created in consultation with F,mnie Mae, Freddie Mac, HOPE NOW and 

its twenty-seven serviccr partners, the Department of the Treasury, :F1lA and F1-IFAPage 19 GAO-09-23IT 
125 


80871.078

or 

Institution Selected Program Characteristics 

JPMo~a-n----~B~la-n~k~m~lo-a-n------'E~li=gi~b~le"b~o=rro=w~e~ffi=a=r=e7.th=o=se=w~jth~s~h=o~rt-~te=rm=Ch~yb~r~jd~a~dJ~'u~st~ab"'l~e=ra~te~m=o=rt~g~a=ge=s~o~w~n=e~d~by~-

Chase & Co. modification Chase 

(Continued) program Chase locks in the initial interest rate for the ljfe of the loan on all short-term adjustable rate 

mortgages with interest rates that will reset in the coming quarter 

American 

Securitization 

Forum Fast 

Track 

Cill Homeowner 

Assistance 

program 

Loan 

Modification 

Program 

HOPE NOW Foreclosure 

Alliance prevention 

assistance 

programs 

Contacts and Staff 

Acknowledgement 

(250436) 

Eligible borrowers are those with non~prjme short term hybrid adjustable rate mortgages 

serviced by Chase 

Under the program developed by the American Securitization Forum Chase freezes the 

current interest rate for five years 

Eligible borrowers are tho-se-'-n-o~t-cu-r-re-n~t1y-CbC-e'h~jn""d-o-n"C~iti~h-e~ldc-m-o""rtc-g-ag-e-s'b-ut~tc-ha~t may 

require help to remain current 

em wll! offer loan workout measures on mortgages in geographic areas of projected 

economic distress including falling home prices and rising unemployment rates to avoid 

foreclosures 

Affordable mortgage payment achieved for the delinquent borrower through interest rate 

reduction, amortization term extension, and/or principal forbearance 

According to cm, program is similar to the FDIC Indy Mac Loan Modification Program 

HOPE NOW is an alliance between Department of Housing and Urban Development 

(HUD) certified counseling agents, servicers, Investors and other mortgage market 

participants that provides free foreclosure prevention assistance 

Forms of assistance include hotHne services to provide information on foreclosure 

prevention, which according to HOPE NOW receives an average of more than 6,000 calls 

per day; and access to HUD approved housing counselors for debt management, credit, 

and overall foreclosure counseling 

Coordinates a nationwide outreach campaign to aHisk risk borrowers and states that it has 

sent nearly 2 million outreach letters 

Since March 2008, has hosted workshops in 27 cities involving homeowners, Jenders, and 

HUD certified counselors 

SQurce. P"bllcly available m!ormatmn from agencIes and orgamzat.ons ilsjed above 

F'or furt1\er infonnation about this statement, please contact Mathew J. 

Scire, Director, Financial Markets and Community Investment, on (202) 

512-8678 or sciremj@gao.gov. In addition to the contact named above the 

following individuals from GAO's Financial Markets and Community 

Investment Team also made major contributors to this testimony: Harry 

Medina and Steve Westley, A..:;sistant Directors; Jarnila Jones and .Julie 

Trinder, Analysls-in-Charge; .lim Vitarello, Senior Analyst; Rachel 

DeMarcus, Assistant General Counsel; and Emily Chalmers and .Jennifer 

Schwartz, Conmlunications Analyst..:;. 

Page 20 GAO-09-231T 
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80871.079

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128 


80871.081

Eye on the Market I May 3rd, 2011 J.P.Morgan 

Retractions: US earnings growth. the Euro, and the primary catalyst rOT the US housing crisis 

By May of each year, we get a sense for where we need to revise expectations. Several things panned out as we expected in 

January (stocks outperforming bonds; another good year for credit; an M&A rebound, benefiting certain hedge fund and mid 

cap equity strategies~ Japan undcrpcrfonning other regions; another leg to rising commodity prices; a rise in Asian currencies 

versus the dollar; and the resilience ofl11unicipal bond prices in the face of selling and notable skeptics [see EoTM Feb 14]). 

But this note is not about that, it's about expectations we need to revise. This week: a note on Retractions of Prior Views. 

US large cap operating earnings growth in 2011 may exceed our 10% forecast 

We showed the first chart below last week. It highlights how atypical this earnings cycle has been relative to weak nominal 

GDP growth. We had been forecasting 10% earnings growth for 2011, but now it looks like earnings growth will exceed these 

levels. To put this exercise: in context, consider the second chart After earnings collapse in a recession, they tend to rebound 

sharply, with camings growth tailing off after a year or two. By the end ofQl, year-an-year earnings growth will have slowed 

to 15% H·om 90% in March 20 10. Estimating earnings growth for all of 20 11 is like projecting where a large boulder will stop 

rolling atter having been released from the top of a hill. It now looks like it will roll a bit further than we thought. 

US profits recovery outpacing economic recovery 

Ratio of 2 year earnings growth to 2 year nominal GOP growth 

15 

12.Sx 

10 

-5 

-10 

1952 1959 1966 1973 1980 19137 1994 2001 2008 

Source: Standard & Poor's, Bureau of Economic Analysis J.P. Morgan PB. 

Where will the earnings boulder stop rolling? 

S&P SOD quarterly operating earnings per share, % change - YoY 

100% 

Revised 2011 

estimate: 15% 

\ 

90% 

80% 

70"/0 

60% 

50% 

40% 

30% 

20% 

10% Original 2011 t 0%+-__ _r----~--_r--__ ~--~e~s~t~~.t~e~:1~12%'_, 

Mar-10 Jun-10 Sep-10 Dec-10 Mar-11 Jun-11 Sep-11 Dec-11 

Source; Standard & Poor's. 

Before we discuss the implications of rising camings projections, let's look one more time at the drivers of corporate profits 

during this recovery. In the 5 prior earnings recoveries, sales rose, labor compensation rose as well (though not as fast as 

sales), resulting in rising profits (see first chart). In the current cycle, labor compensation is unchanged after two years givcn 

the abysmal condition of the job markets (second chart), As a result, almost the entire increase in sales flows through to 

bottom-line profits. This is what is referred to as "high incremental margins", a topic we wrote about in April of2010. 

Corporate profit cycle - 5 past recoveries 

Change since profittrough - billions 

$400 

$350 

$300 

$250 

$200 

$150 

$100 

$50 

Sales 

$O~~~~~~~--__ ~--~--____ ~ 

-$50 Quarters since trough 

o 4 5 6 7 10 

Source: BureauofEconomk; Analysis, J.P. Morgan PB. 

Corporate profit cycle - current recovery 

Change since profittrough - billions 

$700 Profits $600 Sales $500 

$400 

$300 

$200 Labor 

$100 

$0 

-$100 

-$200 

-$300 Quarters since trough 

0 4 5 6 7 10 

Source: Bureau of Economic Analysis. J.P. Morgan PB. 

The profits recovery is not entirely a story of lower labor costs. As shown above, sales are rising. But the labor compensation 

picture, in our view, throws some cold water on the valuation implications of corporate profits right now. The reason: weak 

labor compensation has resulted in outsized government transfers to households and businesses, and the largest fiscal 

deficits in decades. 
129 


80871.082

- ~ - -

~~&~! I ~ J'"", ~,,~ ~E:!l.~ - -~- --- -- -~ 

In terms of breadth, the profits recovery is spread across sectors. So far in QI 2011. with 2/3 of companies reporting, 78% 

are outperfonning estimates, with earnings beating estimates by around 5%. The outpcrformance is spread across all sectors, 

with the best performance (vs expectations) from Technology, Hcalthcare, Industrials, Materials and Consumer Discretionary. 

Three cautionary notes, however. First, rising energy eamings (up ~40% in Ql) may eventually have negative feedback loops 

for other sectors. Second, energy and industrials were the only sectors to outperform the S&P 500 on a price basis in Ql, 

resulting in the narrowest market leadership since 1999 (sec chart below). And third, financial sector profits benefitted from the 

reduction in loan loss provisions, which is a Iower~quality SOUTce of earnings than top~line increases in loan demand. 

Number of sectors outperfomling the S&P 500 

Quarterlybasis 

TecllBut>bie 

1989 1991 1993 '\995 1997 '1999 2001 2003 2005 2007 2009 

Source; Bloomberg. 

YTD evolution of earnings estimates S&P .5.Qf.l 2f.>.!:IJ!V.g.s [:!F.:f.sflare 

$104 

$100 

$96 

$92 

$BB 

$84 

$80 

II! Jan 1 estimate 

• Mar 31 estimate 

Source: S&P 500, J.P. Morgan Securities LLC, Bloomberg, 

How much earnings growth should we expect in 2011? The second chart shows the evolution of earnings forecasts this year 

from company analysts, market strategists, and J.P. Morgan Securities. Even without factoring in any multiple expansion, 

earnings growth of 13% to 15%, times a forward PIE multiple of 14x-15x, yields an S&P 500 valuation range of 1,350 to 1,470. 

The higher end of earnings growth and PIE multiple ranges would result in 17% retnrns this year. While the 16% b()ttoms~up 

estimate looks high to ns, 2011 earnings growth is likely to exceed the 10% expectations we had in January. M&A trends and 

stock bnybacks are helping as well; global M&A volnmes are up 18% from 2010, and announced stock buybacks are on pace to 

double. There are still uncertainties related to energy prices, China slowing and tightening a-cross the developing world, 

the coIJapsing dollar and the debt ceiling (nm\, pushed to August due to better than expected Treasury tax receipts). As a 

result, we arc not making major changes to overall equity and hedge fund allocations from levels shown on April Ul 1

, 

The EOTO continues to rally, reflecting widening Fed and ECB policy differences we did not expect 

We did not have a strong view on the US$/Euro excbange rate heading into 2011, but perhaps we should have. As shown, the 

Euro has been moving lock step with intcrest rate differentials between the two regions. Since January, these rate differentials 

widened again, and the Euro rallied from $1.30 to $1.48. Why 

arc policy rate expectations for 2012 so much higher in Europe 

than in the US? Tight German labor markets2

, and a focus on 

rising cnergy prices and headline inflation by the EeB, mostly. 

Exchange rate has moved with interest rate expectations USDIEUR,S-day moving average bps 

1~ 100 

On the other hand, the Fed appears content to sit tight and let 1.46 140 

Bernanke's "Portfolio Rebalancing Channel" (e,g., rising stock 1.42 

1.38 100 

1.34 60 

1.30 

20 1.26 

prices) run a bit morc, since the Fed's reading of US core 

inflation is benign, and believes that rising energy prices arc 

"transitory" When considered in local currency terms, 

European equities trail the US and Asia ex-Japan this year (as 

they did in 2010). But after factoring in the bigher Euro, 

European equities generated the highest returns by region in 

2011. Our view is that the ECB will not tighten as mnch as the 

markets expect (6 times by June 2012), which shonld slow the 1 <23u., t!'OL--Se~P-'O--N-O'~1-0--Ja~n-'-'--M-a~r-"--M-+ay 1;20 

Euro's appreciation vs. thc dollar. Source: Bloomberg, J.P. MorganPB. 

J For example. in Balanced porttolios allocate 32%-35% to public equities, 25% to hedge funds and 5% to private equity. 

2 Tight labor markets in Germany (a record number ofjoh vacancies in April) and Spanish unemployment rising to 21.3%? With strong 

growth and an aging population, Gem13.ny needs around 400,000 immigrants per year to maintain labor productivity, For historical reasons, 

job-seekers are more likely to come from Poland than from Spain, highlighting strnctural tensions in the European Monetary Union. 

2 
130 


80871.083

-- - - --

J!"~m!_iE~J - -~ ~ "''' 'l"", §'j~ _ ;"r,~~~ -

US Agencies played a larger role in the housing crisis than we first reported 

1n January 2009, I wrote that the housing crisis was mostly a consequence of the private sector. Why? US Agcncies appeared to 

be responsible for only 20%1 of all subprime, Alt A and other mortgage exotic-aJ

• However, over the last 2 years, analysts havc 

dissected the housing crisis in grcatcr detail. What emerges from new research is something quite different: government 

agencies now look to have guaranteed, originated or underwritten 60% of aU "non-traditional" 1ll0ligages, which totaled $4.6 

trillion in June 2008. What's more, this research asserts that housing policies instituted in the early 1990s wcre explicitly 

designed to require US Agencies to make much riskier loans, with the ultimate goal of pushing private sector banks to adopt the 

samc standards. To be sure, private sector banks and investors are responsible for taking the bait, and made terrible mistakes. 

Overall, what emerges is an object lesson in well-meaning public policy gone spectacularly wrong. 

Exposure to Subprime and AItMA loans using AEI 

expanded definition, Percent of total as of June 30,2008 

Source: American Enterprise Institute. 

FHANAI 

RuralHousing 

FHLB 

For Pinto and WaUison, this quote from the Department of 

Housing and Urban Development in 2000 is a smoking gun 

of sorts, and lays out a blueprint for the housing crisis: 

"Because the GSEs have a funding advantage over other 

market participants, they have the ability to under price their 

Sources 

• Edward Pinto" "Government Housing Policies in the Lead-up 

to the Financial Crisis: A Forensic Study", November 2010. 

During the 1980's. Mr. Pinto was Fannie Mae's SVP for 

Marketing and Product Management, and subsequently its 

Executive Vice President and Chief Credit Officer. 

Peter Wallison, "Dissent/rom the Majority Report a/the 

Financial Crisis inquiry Commission", published January 

2011. Mr. Wa1lison, a member of the Financial Rcfonn Task 

Force and Financial Crisis Inquiry Commission, worked in 

the US Treasury Department under President Reagan. 

US Agency High lTV & Subprime loan exposure 

Percent of markettotal, using AEI expanded definition 

80% 

75% 

70% 

65% 

60% 

55% 

50% 

competitors and increase their marl\et share, This advantage, 45% 

as has been the case in the prime market, could allow the 

GSEs to eventually playa significant role in the subprime 

40% 

35% 

market. As the GSEs become more comfortable with subprime 30% 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2D07 

lending, the line between what today is considered a 

subprime loan versus a prime loan will likely deteriorate, Source: American Enterprise !nstftute 

making expansion by the GSEs look more like an increase in the prime market. Since, as explained earlier in this chapter, 

one could define a prime loan as one that the GSEs will purchase, the difference between the prime and subprime markets 

will become less clear. This melding of markets could occur even if many of the underlying characleristics of subprime 

borrowers and the mar1<.et's (i.e., non·GSE participants) evaluation of the risks posed by these borrowers remain 

unchanged." (HUD Affordable Lending goals for Freddie Mac/Fannie Mae, Oct 2000) 

The strategy worked, as shown in the chart: the Agencies took the lead in the 19905 and early 2000's in both subprimc and high 

LTV (>=95%) loans, acquiring over $700 billion in non-traditional mOltgages before private markets had even reached $}OO 

billion. Then in 2002-2003, private sector banks took the bait and jumped in with both feet. According to Wallison, the 

distortion of the housing bubble from 1997 onward obscured what would otherwise have been rising delinquencies and losses. 

As a result, when investors, banks and rating agencies finally got involved in a substantial way, they ended up looking at understated default statistics on subprime, Alt A and high LTV borrowers. 

J Why was it hard to figure this out in the immediate aftermath of the housing collapse? Creative Reporting. According to Pinto, Fannie 

Mae classified a loan as subprime only if the loan was originatcd by lliender specializing in subprime, or by subprime divisions oflarge 

lenders_ They did not use FICO scores to report alJ subprime exposure, despite their usc to define subprimc as far back as 1995 in Freddie 

Mac's industry letters, and guidelines issued by Federal regulators in 2001. As Pinto notes, this had the effect of reducing its reported 

subprime loan count 
131 


80871.084

Eye on the Market I May 3rd, 2011 J.RMorgan 

Retractions: US earnings growth, the EUfO, and the primary catalyst for the US housing crisis 

The ""allison/Pinto timcline of events looks something like this, and is best viewed when superimposed on home 

ownership rates and home prices (see first chart below). which had been stahle ror the prior 3 decades: 

A: Senate hearings in J991 start the ball Tolling with commentary from community groups that banks need to be pushed to 

loosen lending standards, and that Agencies must take the lead: <'Lenders will respond to the most conservative slandard\' unless 

[Fannie Mae and Freddie j\1ac] are aggressive and convincing in their efforts to expand historica/~v narrow underwriting" 

B: In 1992, Congress imposes afrordahlc housing goaJs orr Fannie and Freddie through the "Federal I-lousing Enterprises 

Financial Safety and Soundness Act of 1992", and become competitors with FIlA. To meet these goats, the Agencies relaxed 

down payment requirements. By 2007, they guaranteed an estimated $140 billion ofloans with down payments <"---3% (after 

having done none at <=5% as of 1991). Half of these high LTV loans required no down payments at all. This was the driver 

behind a larger trend: by 2007, required down payments of <,,--3% were 40% of all home purchase loans. 

Home prices, home ownership and government policy HUD affordable housing lending targets 

Index Percent Percentoftotal loans Percent of total loans 

200 70% 60% 28% 

190 69% 26% 

180 55% 24% 

170 68% 

22% 

160 67% 50% 20% 

150 66% Special Affordable (RHS) 18% 

140 45% 65% 16% 

130 64% 14% 120 40% 

110 63% 12% 

100 62% 35% 

1965196919731977 1981 1985198919931997200120052009 1996 1998 

10% 

2000 2002 2004 2006 2008 

Source: "Irrational Exuberance," Robert Shiller, 2005, U.s Census Bureau So urce: Amencan Entetprlse In stitute 

C: In its 1995 National Homcownership Strategy publication, HUD announces that while low down payment mortgages were 

already 29% of the market by August 1994, they wanted more: "Lending institutions, secondaf}' market investors, mortgage 

insurers, and other members vfthe partnership should work collaborafjvel.v to reduce homehuyer down payment requirements". 

D: ]n 2000, HUn raises affordable lending targets again. The chart ahove shows the escalation oflending targets for low 

and moderate income borrowers, and "Special AffordabJe,,4 borrowers. The problem for Agencies: the only way to meet these 

targets was to relax down payment requirements even more, and income verification/loan to value standards as well. When 

announcing even higher affordahle housing targets in 2004, IIUD made it dear that their purpose was to get private sector banks 

to follow suit: "These nc}v goals .viII push the GSEs to genuinely lead the market". (HUD Press Release, Nov. 2004). Bad 

news: they did. 

The rest, as they say, is history. Wallison and Pinto make a variety ofassllmptions in several hundred pages of research, some 

of which has unsllrprisingly resulted in conservative and liberal policy groups disagreeing with each other. One point is not in 

dispute: dollar for dollar, private sector banks and brokers made much worse loans than the Agcncies, when considering 

delinquency rateR and losses per dollar ofloan principal. 

But Wallison and Pinto arc not trying to find out who made the worst loans. They're 

trying to figure out why underwriting standards collapsed across the hoard; how policy 

objectives were designed to have private sector banks follow the Agencies off the cliff; 

and why Agency losses to taxpayers are estimated to be so large ($250-$350 hillion). 

It's a hollow victory for Agency supporters to claim that their version of Alt A and 

Subprime was not as bad as private sector ones: the Agencies had almost no capital to 

absorb losses in the first place, given what their mandate was. According to the 

Financial Crisis Inquiry Commission, "by the cnd of2007, Fannie Mac and Freddic 

Mac combined lcverage ratios, including loans thcy owned and gnarantced, stood 

at 75 to 1." After factoring out tax-loss carry-forwards, Agency capital ratios were 

probably below 1 % on over $5 trillion of aggressively underwritten exposure. 

US Agency Equity Capital Ratios 

December 2007 

4 "Special AfTordable" goal: the percent of dwelling units financed by GSE's mortgage purchases be for very low-income families. defined as 

those with incomes no greater than 60-80 percent of median incomes. 

4 
132 


80871.085

Eye on the Market I May 3rd, 2011 JJ~Morgan 

Retractions: US earnings growth, the Euro, and the primary catalyst for the US housing crisis 

The WallisonlPinto research appears to be a weil-reasoned addition to the body of work dissecting the worst housing crisis in 

the post-war era. It is convincing enough to retract what we wrote in 2009. As regulators and politicians consider actions 

designed to stabilize the financial system and the housing/mortgage markets, rcilcction on the role that policy played in the 

collapse would seem like a critical part ufthe process. 

~ichael Cembalest 

Chief Investment Officer 

Acronyms 

BUD 

FHLD 

VA 

CRA 

FIlA 

GSE 

ECD 

FCrC 

LTV 

Department of llollsing and Urban Development 

Federal Home Loan Banks 

Veterans Administration 

Community Reinvestment Aet 

Federal Housing Authority 

Government Sponsored Enterprises (Freddie Mac, Fannie Mac) 

European Central Bank 

Financial Crisis lnquiry Commission 

Loan to Value 
133 


80871.086

~ I 

313810th Street North 

Arlington, VA 22201-2149 

703.522.47701800.336.4644 

NAFCU ~~ic~~~;i;~Oo~~ National Association of Federal Credit Unions! www.nafcu.org 

March 5, 2013 

The Honorable Scott GatTett 

Chairman 

House Financial Services Subcommittee on 

Capital Markets & GSEs 

United Statcs House of Representatives 

Washington, D.C. 20515 

The Honorable Carolyn Maloney 

Ranking Member 

House Financial Services Subcommittee on 

Capital Markets & GSEs 

United States House of Representatives 

Washington, D.C. 20515 

Dear Chairman Garrett and Ranking Member Maloney: 

On behalf of the National Association of Federal Credit Unions (NAFCU), the only trade association 

exclusively representing the interests of our nation~s federal credit unions~ I write today with respect 

to tomorrowls hearing, (jFannie Mae and Freddie Mac: How Government Housing Policy Failed 

Homeowners and Taxpayers and Led to the Financial Crisis." As you know, the future of housing 

finance is of great importance to our nation's credit unions. NAFCU member credit unions appreciate 

your leadership on this issue and look forward to working with the subcommittee on this issue 

moving forward. 

NAFCU would like to stress the importance of retaining a system that provides credit unions with the 

access to the seeondaty market and the liquidity necessary to serve the mOitgage needs of their 95 

million members. We believe the core principles outlined below must be considered to ensurc that 

credit unions al'e trented fai.rly during any housing financc reform process: 

A healthy and viable secondary mortgage market must be maintained. A secondary mortgage 

market, where mortgage loans are pooled and sold to investors, is essential in providing the 

liquidity necessary for credit unions to crcate new mOltgages for their members. 

There should be at least two Gove111ment Sponsored Enterprises (GSEs). To effectuate 

competition in the secondary market and to ensure equitable access for credit unions, 

NAFCU supports the creation or existence of multiple GSEs that would perform the essential 

fnnctions currently performed by Fannie Mae and Freddie Mac. Tbese entities should have 

the ability to purchase loans and convcrt them into mortgage backed sccurities (MESs), each 

of these functions serves to facilitate mortgage lcnding. 

NAFCU I Your Direct Connection to Education, Advocacy & Advancement 
134 


80871.087

The Honorable Scott Garrett 

The Honorable Carolyn Maloney 

March 5, 2013 

Page Number 2 00 

• The U.S. govcrnment should issue explicit guarantees on the payment of principal and 

interest on MllSs. The explicit guarantee will provide cer1ainty to the market, espccially for 

investors. who will need to be enticed to invest in the MBSs and facilitate the flow of 

liquidity. 

Fannie Mae and Freddie Mac havc been crucial partners tor credit unions and have served an 

important function in the mortgage lending industry. Both have been valuable entities to the 

nation, particularly to the nation's cconomy. It is important that during any transition to a 

new system (whether or not current GSEs are to be patt of it) credit unions have 

uninterl1lpted access to the GSEs, and in turn, the secondary market. 

• We could support a model for the GSEs that is consistent with a cooperative or a mutual 

entities model. Each GSE would have an elected Board of Directors, be regulated by the 

Fcderal Housing Finance Agency, and be required to meet strong capital standards. The 

GSEs should also meet other appropriate regulatory standards to limit their ability to take on 

risk while ensuring safety and soundncss. Rigorous oversight for safety and soundness is 

also paramount. 

A board of advisors made up of representatives from the mortgage lending indusu-y should be 

formed to advise the FHFA regarding GSEs. Crcdit unions should be represented in such a 

body. 

While a central role for the U.S. government in the sccondary mortgage market is pivotal, the 

GSEs should be self-funded, without any dedicated government appropriations. GSH's fee 

structures should, in addition to size and volume, place increased emphasis on quality of 

loans. Credit union loans provide the quality necessary to improve the salability of agency 

securities. 

Fannie Mae and Frcddie Mac should continue to function, whether in or out of 

conservatorship, and honor the guarantees of the agencies at Icast until such time as 

necessary to repay their current govel'l1mcnt debts. Legislation to reform the GSEs should 

ensure that taxpayer losses are not locked in, but should allow for time for the GSEs to make 

taxpayers whole. 

At this time, NAFCU does not support full privatization of the GSEs because of serious 

concerns that small community-based financial institutions could be shut-out from the 

secondary market. 

The Federal Home Loan Banks (FHLBs) serve an important function in the U.S. mortgage 

market. Most importantly, thcy provide their crcdit union members with a reliable source of 

funding and liquidity. Throughout the financial crisis, despite experiencing financial stress, 

the FHLBs continue to be a strong partner [or credit unions. Reform of the nation's housing 

finance system must take into account the consequence of any legislation on the health and 

reliability of the FHLBs. Importantly, access to FHLBs [or small lenders should not be 

impeded in any way. 
135 


80871.088

The Honorable Scolt Garrett 

The Honorable Carolyn Maloney 

March 5, 2013 

Page Number 3 00 

Thank you for this opportunity to provide input on this critical issue. NAFCU welcomes the 

oPPOltunity to provide additional views on housing finance reform as the legislative process moves 

forward. rfmy colleagues or I can be of assistance to you, or if you have any questions regarding this 

issue, please feel free to contact myself, or NAFCU's Senior Associate Director of Legislative 

Aff.1irs, lillian Pevo, at (703) 842-2836. 

~ Vice President of Legislative Affairs 

cc: Members of the House Financial Services Subcommittee on Capital Markets and 

Government Sponsored Enterprises. 

80871.089

I FannieMae 

Fannie Mae Business and Financial Update 

for Congresswoman Carolyn Maloney 

Timothy J. Mayopoulos 

President and Chief Executive Officer 

February 26,2013 

Fan/'lle M8e Bustness and r-Inanclal U

80871.090

r:tI FannieMae Foreclosure Prevention 

Fannie ,Mae remains focused on loss 

mitigation strategies 

Fannie Mae Single-Family Completed Workouts Since Conversatlonshlp 

l 500 

400 -----------------------1 

t .3 300 

§ 200 

z 

100 -------------1 

200604 2009 

aYeaf"to-date through 03 2012 

20;0 2011 2012 

Fannie Mae continues to help homeowners avoid foreclosure through home retention solutions, such 

modifications, pre-foreclosure sales (short sales), and deeds-In-lieu. 

Fannie Mae Busines$ and Financial U

80871.091

FannieMae Financial Results 

After several years of losses, Fannie Mae posted profits in the first thre

quarters of 2012 

($'s in billions) 

2006 

$4 

2007 

$(3) 

Build in total loss 

reserves, significant 

fair value losses and 

valuation allowance of 

Deferred Tax Asset 

(OTA) 

Comprehensive Income I (Loss) 

2008 2009 2010 

Build In total loss 

reserves and 

of MF Low-Income 

Housing Tax Credit 

(LlHTC) investments 

2011 01 through 03 

$11 

Positive results during the first three quarters of 2012 reflect improvements in national 

home prices. 

Fannie Mae BUSiness and Financial 

80871.092

r:t FannieMae 

Treasury Draw Requests and Dividend Payments 

• lJraw Request From lrea,ur), 

Dividend Payment \0 TrCllSUrj 

$15.2 

$60.0 

-

Treasury Draw Requesls II) 

lJjvidend Payments 

$25.9 

$15.0 

$7.7 .$9.6 

$0.0 _$2.5. 

2008 2009 2010 

-

2011 

($ in Billions) 

Cumulative Total as 01" 

Serlcmher 3(t Decemher JI. 

2012 2011 

$ 116.! $ 116.1 

$ 28.5 $ 19.8 

$8.7 

$0.0 

2012 yrD 

Through 03 2012, Fannie Mae has paid $28.5 billion in cash dividends to Treasury

Fannie Mae Business and Financial U 

80871.093

FannieMae Capital Markets -Portfolio Management 

1000 Retained Mortgage Portfolio Composition 

900 

800 

700 

600 500 

III 

<: 

400 

:c 300 0 

200 

100 

2004 Q32012 

• Single-Family Agency • Multifamily Agency Reverse • Dlstressed 

. Prior to 2008, amounts were Immaterial 

• The retained mortgage portfolio consists of assets that serve different purposes: 

- Legacy assets purchased prior to Conservatorship - acquired for long-term retum 

- Transactional assets - held for short periods to facilitate lender liquidity 

- Delinquent and modified loans - acquired as part of credit loss mitigation process 

• Loans or securities are no longer purchased for long-term investment purposes. 

Balance sheet assets are evaluated for their risk-return profile and their impact on the 

Company's core business functions. 

Fannie Mae Business and Financial U

80871.094

, FannieMae Mitigating Losses 

As of September 30, 2012, smaller percentage of Fannie Mae loans were 

seriously delinquent across the Single-Family business segment, while 

_ __ 

Singl .. F.miIySOQ Rate. 

,----"-

"' 

Muhifamlly soa Rate. 

! 14,.,: .. --------__ _ 

'" 

. ___ " ____ ....c..",. 

i .. 

: 

___ 

1$% 

,,, 

....... 

___________________ J 

/ I I / ,/'l i'" /' .f ...... ol" ./'1 ;:0 oil' 

-fl8'o'aaMaJ FIBddtllMs J!I!I'tlq' $a;\riiesAlA' 

Source: FDIC, TREPP, Fannie Mae and Freddie Mac 

September 2012 dala not yet available 

The Single-Family SDa rate began 

declining from 5.47% in the first quarter 

of 2010 through the third quarter of 2012 

to 3.41 % as a result of home retention 

solutions, foreclosure alternatives, and 

completed foreclosures in addition to 

acquisition of loans with a stronger credit 

.. 

__ 

.. 

------

//

,// ... ....... " ..... ... "'" ,'" 

-froddlt'lMII(; -AUFD'I:;hsYrl!d.In>iJu.Iofq.' 

Source; FDIC, TREPP) Fannie Mae and Freddie Mac 

• September 2012 data not yet available 

OdBs-Mf 

The Multifamily SDa rate began to decre

from 0,79% in first quarter of 2010 to 0.2

in 03 2012 as national multifamily marke

fundamentals continued to improve over 

years. 

As of September 30, 2012, Fannie Mae's Single-Family and Multifamily SOC rates remained 

below private market levels. 

80871.095

"'" 

fFannieMae 

Performance of newly acquired loans has significantly improved 

• Since late 2008, Fannie Mae has taken significant steps to strengthen the underwriting and eligibility standards throug

Desktop Underwriter (DU), Fannie Mae's automated underwriting system and with manual underwriting guidelines. 

• These changes have resulted in significant improvement in the performance of newly acquired loans. 

• The chart below shows the percentage of our single family acquisitions excluding HARP and RP Flex that became 

delinquent for 90 days or longer within the first 12 months of acquisition. 

90ln12 Rate 

{Convent!onal from >lin XOl· Sep 20l.1;h,r",d!t11 HARP & "PAp) 

(Kev Underwriting and Eligibility Changes 

I 'Discontlnued newly originated All-A', 

: Reverse, Second Liens, and Subprime' 

'Reduced maximum LTV for fixed loans to 

97% for DU and 95% for manual underwriting 

'Reduced maximum LTV for ARM loans to 

90% 

'Increased minimum credit score to 620 

'Implemented a 45% maximum debt-toincome ratio (DU allows up to 50% with 

strong compensating factors. 

• Significantly tightened eligibility guidelines on 

interest only loans 

• Required ARM borrowers to qualify at a 

similar or higher rate than fixed-rate 

borrowers 

lOOO/!ll 2OQ1!Ol lOOl/Ol I00lAn ,0001101 2(.IJj,.\:l1 10J!1}01 1009/01 20100'01 .. 011/01 

- A,(tl,laI9OlnU Rit& 'Induduperlorrllinte 2OUQ) • Reduced eligible risk layering 

, / 

... E)(cept for refinanc!ngs of loans acquired prior to 2009. 

Fannie Mae Business and Financial U

80871.096

FannieMae Business Update - Mitigating Enterprise Los

2010: $2,9778 2011: $2,9638 032012: $2,9758 

Numbers may not foot due to rounding, 

As of September 30,2012 SF 2009+ vintage continued to become a larger portion of the total 

book. The 2005-2008 and 2001-2004 vintages had serious delinquency rates of 9.62% and 

3.49%, respectively, as of September 30, 2012. 

The information above reflects the SF and MF conventional guaranty book of business. 

Additionally, the SF 2009+ category includes Refi Plus® (including HARP). 

Fannie Mae is focused on building a profitable Single-Family Book of Business with its 

acquisitions since the beginning of 2009 while managing losses on the legacy book 

through foreclosure prevention and other efforts. 

__ 

uSlfless and FInancial U
144 


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Oxley hits back at ideologues - FT.com Page 1 of 1 

FINANCIAL TIMES 

Welcome to FT .com, the global source of business news and analysis. 

SeptEmoor9, 200B 725pm 

Oxley hits back at ideologues By Greg Farrell in New York 

In the aftermath of the US Trt'asury's decision to seize control of Fannie Mac and Freddie- Mac, critics have hit at lax oversight ofthc 

mortgage companies. 

The dominant theme has been that Congress let the two goycrnmcnt·sponsored enterprises rnorph into a creature that t',,('ntually 

threatened the us financial sy~tcm. Mike Oxley will have none of it. 

Instead. the Ohio Republican who headed the House financial services committee until his TPtirement after mid~terrn eJections last year. 

blames the mE's..', on ideologues within the White HousE' as well as Alan Greenspan, former chairman of the Fedrrai Reserve. 

Tlw critics have forgotten that the House passed n GSE reform hill in 2005 that could well have prevented the current nisis, says Mr Oxley, 

now vic(H'hairman of 

Nasdaq. 

He fumes about the criticism of his Honse eolleagurs. "All the handvlringing and bedwetting is going on without remembering how the 

House stepped upon this," he says. "What did we get from the White House? We got a ooe-finger salute," 

The House bill, the 2005 Ft~deral Housing Financr Reform Act, would have created a stronger regulator vvith new powers to increase 

capital at Fannie and Freddie, to limit their portfolios and to deal with the possibility of receivership. 

Mr Oxley reached out to Barney Frank, then the ranking Democrat on the committee and now its chairman, to sc<~ure support on the other 

side of the aisle. But aftrr winning bipartisan support in the House, where the bill passed by 331 to 90 votes, the legislation lacked a 

champion in the Senate and faced hostility from the Bush administration, 

Adamant that the only solution to the problems posed by Fannie and Freddie was their privatisation, the "\'\'hite House attacked the bill. Mr 

Gre('nspan also ,Ycighed in, saying that the House legislation was wo~e than no hill at all. 

"We missed a golden opportunity that would have avoidrd a lot of the problems we're facing now, if ''lie hadn't had snch a firm ideological 

position nt the White Hous(' and the Treasury and the FC'd," Mr Oxley says. 

When Hank Paulson joined the administration as Treasury secretary in 2006 he sent emissaries to Capitol Hill to explore the possibility of 

r('achin.!?; a compromise, bllt to no avail. 

Prjnt\'!d from: httpl/www rt.=mlcmslsIO/87BOc35e-7e91-11dd-b1afOO0077b07658 html 

Print a single copy of thiS ar1lcJe for persona! use. Comact us If YOL! Wish t:. print more to dlstnbute to others 

©THE FINANCIAL TIMES LTD 2013 FT and 'F-on,mclal Times' <Ire trademarks of The Financial Times ltd 

http://www.ft.com/cms/s/0/8780c35e-7e91-11 dd-b laf-000077b07658.html 3/6/2013 
145 


80871.098

Economic 

Housing Commission 

February 
146 


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147 


80871.100

Christopher S. jjKit" Bond 

Former U.S. Senator; 

Former Governor of 

Missouri 

Carin M. Barth 

Co-Founder and President. 

LB Capital, Inc. 

Ed Brady 

President, Brady Homes 

Robert M. Couch 

Counsel, Bradley Arant 

Boult Cummings LLP 

Alfred A. DelliBovi 

President and CEO. 

Federal Home Loan 

Bank of New York 

Renee Lewis Glover 

President and CEO. 

Atlanta Housing Authority 

Henry Cisneros 

Former Secretary, 

U.S. Department of 

Housing and Urban 

Development 

Laurie S. Goodman 

Senior Managing Director, 

Amherst Securities Group, 

LP 

Frank Keating 

President and CEO, 

American Bankers 

Association; 

Former Governor 

of Oklahoma 

Bruce A. Morrison 

Chairman, Morrison Public 

Affairs Group; 

Former U.S. Representative 

from Connecticut 

Mel Martinez 

Former U.S. Senator; 

Former Secretary, 

U.S. Department of 

Housing and Urban 

Development 

Janet Murgufa 

President and CEO, National 

Council of La Raza 

Nicolas P. Retsinas 

Senior Lecturer of Business 

Administration, Harvard 

Business School 

Nan Roman 

President and CEO, 

National Alhance to End 

Home!essness 

Ronald A. Rosenfeld 

Former Chairman, Federal 

Housing Finance Board 

George 1 Mitchell 

Former U.S. Senate 

Majority Leader: 

Co-Founder. Blpartisan 

Policy Center 

Robert M. Rozen 

Principal, Washington 

Council Ernst & Young 

Richard A. Smith 

Chairman, CEO, and 

President, Realogy Holdings 

Corporation 

Marilyn Jordan Taylor 

Dean of the School of 

Design, University of 

Pennsylvania 

J. Ronald Terwilliger 

Chairman Emeritus, 

Trammel! Crow Residential 

Barry Zigas 

Director of Housing Polley, 

Consumer Federation of 

America 
148 


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We formed the Housing Commission to help set a new direction for federal housing policy. More 

than five years after the collapse of the housing market, it is now aU too apparent that current policy, 

and the institutions that support it are outdated and inadequate. 

This report, the culmination of a 16-month examination of some of the key issues in housing, 

provides a blueprint for an entirely new system of housing finance for both the ownership and 

rental markets. Under this new system, the private sector will play a far greater role in bearing 

credit risk and providing mortgage funding, and taxpayer protection will be a centra! goal. We 

also propose a new, outcome-oriented approach to the distribution of federal rental subsidies that 

responds to the housing needs of our nation's most vulnerable households and rewards provkJers 

who demonstrate strong results at the state and local levels wlth increased flexibility in program 

administration. The report highlights how our nation's burgeoning senior population ancl dramatic 

demographic changes will present new challenges and opportunities for housing providers in 

communities throughout the country. 

Over the years, Republicans and Democrats have worked together to establish policies to address 

the diverse housing needs of the American people. After World War II, for example, Republican 

Senator Robert Taft worked with President Truman to remedy a national housing shortage and 

respond to the housing needs of America's returning veterans with the Housing Act of 1949. Two 

decades later, President Johnson and Everett Dirksen, the Republican Senate Leader from Illinois, 

worked coUaboratively to pass the Fair Housing Act of 1968. Both parties came together again to 

pass the Tax Reform Act of 1986, which created the Low Income Housing Tax Credit. There is a 

simp!e explanation for this history of bipartisanship: Americans of aU political backgrounds intuitively 

understand that ensuring access to decent, suitable, and affordable housing is a goal worth striving 

for, and one that our country must never abandon. The commission foliolNS this bipartisan tradition. 

We wish to express our gratitude to our fellow commissioners who have labored long hours, and 

made many sacrifices, over the past 16 months. It has been a great privilege to work with this 

distinguished group of Americans, and their cledication to solving some of the most perplexing 

issues in housing has been an inspiration to us. 

The challenges we face in housing are so great and so urgent, that new ideas and approaches must 

be brought to the policy table. It is our hope that our work will contribute to the dialogue and help 

further the housing policy reform debate. 

CHRISTOPHER S. "Kir BOND HENRY CISNEROS MEL MARTI N EZ GEORGE J. MITCHELL 
150 


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Executive Summary and Recommendations ................ 7 

Chapter 1. Introduction: Our Nation's Housing .............. 15 

Chapter 2. The Continuing Value of Homeownership ••..•••.. 27 

Chapter 3. Reforming Our Nation's Housing Finance System •.. 38 

Chapter 4. Affordable Rental Housing .......•......•..... 81 

Chapter 5. The Importance of Rural Housing •..••••...•... 109 

Chapter 6. Aging in Place: A New Frontier in Housing ..•.••. 113 

Chapter 7. Concluding Thoughts: A Call to Action .......•.. 121 

Appendix: Commission Structure and Process ...•••...... 123 

Endnotes ........................................ 127 
152 


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153 


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m a 

Our nation's numerous and urgent housing challenges 

underscore the need for a review of fedeml housing [Xllicy. 

Since the collapse of the housing market in 2007, the federal 

government has stepped in to support the vast majority of 

aU mortgage financing, both for homeownership and rental 

housing. At the same time, rental demand is increasing in 

many regions throughout the United States, and the number 

of renters spending more than they can afford on housing 

is unacceptably high iJnd growing. These developments are 

taking place against a backdrop of profound demographic 

changes that are transforming the country and our housing 

needs. These changes include the aging of the Baby 

Boomers. the formation of new households by members of 

the "Echo Boom" generation (those born betvveen 1981 and 

1995), and the growing diversity of the American [Xlpulation. 

In many respects, our housing system is outdated and 

not equipped to keep pace with today's demands and the 

challenges of the imminent future. The Bipartisan Policy 

Center (BPC) launched the Housing Commission in October 

2011 to develop a new vision for federal housing pollcy that 

provides a path forward during this period of great change. 

This report, the centerpiece of an ongoing effort by the 

Housing Commission to examine key issues that together 

form the basic elements of a resilient housing system, 

proposes: 

• A responsible. sustainable approach to homeownership 

that will help ensure that all creditworthy households have 

access to homeownership and its considerable benefits. 

• A reformed system of housing finance in which the 

private sector plays a far more prominent role in bearing 

credit risk while promoting a greater diversity of funding 

sources for mortgage financing. 

• A more targeted approach to providing rental assistJnce 

that directs scarce resources to the lowest-income renters 

while insisting on a high level of performance by housing 

providers. 

• A more comprehensive focus on meeting the housing 

needs of our nation's seniors that responds to their 

desire to age in place and recognizes the importance of 

integrating housing with health care and other services. 

In preparing the recommendations that follow, an 

overarching goal of the commission was to ensure that the 

nation's housing system enables individuals and families to 

exercise choice in their living situations, as their needs and 

preferences change over time. While today's challenges are 

great, the opportunity to create a new system that expands 

the range of housing options for individuals and families is 

even greater. 
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Slill111hHY <,nO Rc'C()lPn)~\nd"tluns 

A successful housing finance system should maximize the 

range of ownership and rental housing choices available at 

all stages of our lives. Meeting our nation's diverse housing 

needs requires a strong and stable system of housing 

finance. This system, when functioning at its full potential, 

offers miUions of Americans and their families the opportunity 

to choose the type of housing that best responds to their 

individual situations. The mortgage OOom and bust has 

rocked the system on which the United States has relied 

for more than 75 years and has forced a reevaluation of 

the government's role in supporting mortgage credit and 

how this role should be structured. Private, risk-bearing 

capital in the mortgage market has shrunk dramatically, 

while the tremendous uncertainty surrounding the future of 

our housing finance system has greatly limited consumers' 

choices, particularly for creditworthy borrowers seeking to 

obtain a mortgage. In response to this recent unraveling and 

subsequent uncertainty, the commission proposes a blueprint 

for a new system of housing finance that w!l! support 

homeowners hip and provide for a vibrant rental housing 

market 

The private sector must playa far greater role in bearing 

credit risk. Greater federal intervention was necessary 

when the market collapsed, but the dominant position 

currently held by the government is unsustainable. Today, 

the government supports more than 90 percent of singlefamily mortgages through entities such as Fannie Mae, 

Freddie Mac, Ginnie Mae, and the Federal Housing 

Administration (FHA) as well as roughly 65 percent of the 

rental mortgage market. Reducing the government footprint 

and encouraging greater participation by risk-bearing 

private capital will protect taxpayers while providing for a 

greater diversity of funding sources. A durable housing 

finance system must provide open access to lenders of all 

types and sizes, including community banks and credit 

unions. It must also serve as wide a market as possible and 

assure consumers fair access to sustainable and affordable 

mortgage credit. 

While private capital must playa greater role in the 

housing finance system, continued government involvement 

is essential to ensuring that mortgages remain available 

and affordable to qualified home buyers. The commission 

recommends the establishment of a limited, catastrophic 

government guarantee to ensure timely payment of principal 

and interest on qualified mortgage-backed securities (MBS). 

This guarantee should (1) be explicit and fully paid for 

through premium collections that exceed expected claims 

(with a safe reserve cushion); (2) be triggered only after 

private capital in the predominant loss position has been 

fully exhausted; and (3) apply only to the securities and not 

to the equity or debt of the entities that issue or insure them. 

As part of this rebalancing, the commission proposes the 

winding down and ultimate elimination of Fannie Mae and 

Freddie Mac after a multiyear transition period. The business 

model of these government-sponsored enterprises (GSEs)~ 

pubhcly traded companies with implied government 

guarantees and other advantages~has failed and should 

not be repeated. During the transition periocl, the Federal 

Housing Finance Agency should continue its efforts to 

reduce the size of the GSE portfolios and move the GSE 

priCing structure closer to what one might find if private 

capltal were at risk. Congress should also gradually lower 

the GSE loan limits to allow larger loans to flow to the private 

sector. 

Through the gradual reduction in loan limits to pre~crisjs 

levels, the commission also supports a more targeted FHA 

that returns to its traditional mission of primarily serving firsttime homebuyers. 
155 


80871.108

The commission proposes to replace the GSEs with an 

independent, wholly owned government corporationthe "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 MBS. It would 

simply guarantee investors the timely payment of principal 

and interest on these securities. The model endorsed by 

the commission is similar to Ginnie Mae, the government 

agency that wraps securities backed by federally insured or 

guaranteed !oans. other than the Public Guarantor, all other 

actors in this new system-originators. issuers of securities, 

credit enhancers, and mortgage servicers-should be 

private-sector entities fully at risk for their own finances 

and not covered by either implicit or explicit government 

guarantees benefitting their investors or creditors. 

In the new system, the limited catastrophic guarantee of the 

Public Guarantor would only be triggered after all private 

capital ahead of it has been exhausted, The government 

would be in the fourth-loss position behind (1) borrowers 

and their home equity; (2) private credit enhancers; and (3) 

the corporate resources of the issuers and servicers. 

The Public Guarantor will have significant standardsetting and counterparty oversight responsibilities. These 

responsibilities include (1) 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 two separate catastrophic risk funds for the singlefamily 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 affordabiJity threshold that 

would primarHy support the development of rental housing 

that is affordable to low- and moderate-income households. 

The commission has identified a number of regulatory 

obstacles that are restricting mortgage credit and inhibiting 

the housing market's recovery. These obstacles include 

overly strict mortgage lending standards; the lack of 

access to mortgage credit for well-qualified self-employed 

individuals; uncertainty about the extent of "put-back" 

risk for mortgage lenders; the demand for multiple 

appraisals and the use of distressed properties as market 

camps; the application of FHA compare ratios; and the 

uncertainty related to pending mortgage regulations and the 

implementation of new rules. 

To overcome these obstacles, the commission recommends 

that the President of the United States direct the Department 

of the Treasury, in coordination with the various federal 

banking agenCies, to assess the impact of current and pending 

regulatory requirements on the affordability and accessibility 

of mortgage credit. The Treasury Department should develop 

a plan to align these requirements as much as possible to 

help get mortgage credit flowing again. A top official within 

the Treasury Department or in the White House should be 

tasked with day-to-day responsiblhty for coordinating the 

implementation of this plan. 
156 


80871.109

Homeownership will continue to be the preferred housing 

choice of a majority of households, According to research 

performed for the commission, the national homeownership 

rate is likely to remain above 60 percent for the 

foreseeable future. Millions of Americans continue to see 

homeownership as a critical cornerstone of the American 

Dream with benefits well beyond the financial investment. 

This sentiment is especially strong within the growing 

Hispanic community. 

Despite the collapse of the housing market, the commission 

strongly believes that, when responsibly undertaken, 

homeownership can produce powerful economic, social, 

and civic benefits that serve the individual homeowner, 

the larger community, and the nation. A combination 

of proper regulation, adequate liquidity, and the right 

incentives in the private market can help ensure that 

homeownership remains a vital housing and wealth-building 

option. When coupled with reasonable down payments, 

solidly underwritten, tixed-rate mortgages-as well as 

straightforward adjustable-rate mortgages with dear terms 

and limits on adjustments and maximum payments-can 

also open the door to homeownership and its benefits for 

individuals with modest wealth and incomes. 

Housing counseling can improve prospective borrowers' 

access to affordable, prudent mortgage loans, especially 

for families who otherwise might not qualify or who may 

experience other barriers to conventional lending. Four 

key elements are necessary: (1) a strong counseling 

infrastructure; (2) clear standards; (3) an understanding 

of the proper role for counselors; and (4) the adoption of 

best practices for integrating counseling into the mortgage 

market. The commission supports continued federal 

appropriations for housing counseling and recommends 

that all stakeholders who benefit from a borrower's access to 

counseling services be expected to contribute to the cost of 

the service. 

The nation's 41 million renter households account for 35 

percent ofthe U.S. population. In the coming decade, the 

number of renters is likely to grow significantly as members 

of the Echo Boom generation form their own households for 

the first time and as members of the Baby Boom generation 

downsize from their current homes. Growing pressure for 

rental housing may push rents further out of reach for the 

low-income households that are least able to afford it. Our 

nation's housing system should aim to minimize the tradeoffs these households often face when seeking affordable 

housing-in terms of neighborhood quality, access to good 

jobs and high-performing schcds, and spending on other 

essentials like health care and nutritious food. 

Nationally, a majority of extremely low-income renter 

households spend more than half of their incomes on 

housing. For the most part, renters live in housing that 

meets basic quality standards. However, nearly half of 

renters at all income levels report paying more than 30 

percent of their income for rent-the federal standard for 

housing affordability. Among extremely low~income renters 

(those with incomes at or below 30 percent of area median 

income), the situation is far worse. Nearly 80 percent of 

these lowest-income households report spending more than 

30 percent of their income for rent, and nearly two-thirds 

spend 50 percent or more. 

There are far more extremely low-income renters than 

available units they can afford. 

Federal housing assistance meets only a fraction of the need. 

Federal assIstance programs currently help approximately 

five million low-income households afford housing. 
157 


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However, only about one in four renter households eligible 

for assistance actually receives it. Because demand so far 

outstrips supply, these SCiJ(ce rental subsidies are often 

allocated through lengthy waiting lists and by lotteries. 

The commission recommends that our nation transition to 

a system in which our most vulnerable households, those 

with extremely low incomes (at or below 30 percent of area 

median income) are assured access to housing assistance 

if they need it. Assistance should be delivered through a 

reformed Housing Choice Voucher program that, over time, 

limits eligibility to only the most vulnerable families. 

The commission recommends increasing the supply of 

suitable, affordable, and decent homes to help meet both 

current and projected demand. To achieve this goal. the 

commission recommends: 

• Expansion of the Low Income Housing Tax Credit (LlHTC) 

by 50 percent over current funding levels and the 

provision of additional federal funding to help dose the 

gap that often exists betvveen the costs of producing or 

preserving LlHTC properties and the equity and debt that 

can be raised to support them. 

• Additional federal funding beyond current levels to 

address the capital backlog and ongoing accrual needs in 

public housing to preserve the value of prior investments 

and improve housing quality for residents. 

HOUSing 

The commission recommends federal funding to minimize 

harmful housing instability by providing short~term emergency 

assistance for low-income renters (those with incomes 

between 30 and 80 percent of area median income) who 

suffer temporary setbacks. This assistance, delivered as a 

restricted supplement to the HOME Investment Partnerships 

program, could be used to help cover payment of security 

deposits, back rent, and other housing-related costs to 

improve residential stability and prevent homelessness. 

These recommendations, if fully implemented, would help 

to meet the needs of an additional five million vulnerable 

renter households and contribute to the elimination of 

homelessness-through production, preservation, and rental 

assistance. 

The commission recommends a new performance-based 

system for delivering federal rental assistance that 

focuses on outcomes for partiCipating households, while 

offering high-performing providers greater flexibility to 

depart from program rules. The commission proposes 

a new performance-based system that will evaluate 

housing providers' success in five key programmatic 

areas: (1) improving housing quality; (2) increasing the 

efficiency with which housing assistance is delivered; (3) 

enabling the elderly and persons with disabilities to lead 

independent lives; (4) promoting economic self-sufficiency 

for households capable of work; and (5) promoting the 

de-concentration of poverty and access to neighborhoods 

of opportunity. Providers that achieve a high level of 

performance across these five areas should be rewarded 

with increased flexibmty to depart from standard program 

rules, while substandard providers should be replaced. 

The federal government spends tens of billions of dollars 

annually to support the nation's valuable infrastructure 

of pubhcly and privately owned rental housing. Neither 

landlords nor program operators who fail to provide tenants 

with homes and services of reasonable quality should 

benefit from this investment. 
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In light of today's difficult fiscal environment, the commission 

recognizes that a transition period will be necessary before 

these recommendations can be fully implemented. The 

commission therefore recommends that its approach 

for meeting the needs of the nation's most vulnerable 

households be phased in over time. 

The commission supports the continuation of tax incentives 

for homeowners hip, 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. The commission is aware of the difficult issues that 

wi!! need to be addressed in the coming years to balance 

federal budget priorities. The federal government currently 

provides substantial resources in support of housing, 

the majority of which is in the form of tax subsidies for 

homeownership. The cornmission supports the continuation 

of tax incentives for homeownership-recognizing the 

importance of this tax policy to homeowners in the United 

States today. The commission notes that various tax 

benefits provided to homeowners, including the mortgage 

interest deduction, have been modified over the years. In 

the ongoing debate over tax reform and budget priorities, 

all revenue options must be evaluated. In that context, 

the commission recommends consideration of further 

modifications to federal tax incentives for homeownership 

to allow for an increase in the leve! of support provided to 

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. A portion of any revenue generated 

from changes in tax subsidies for homeownership should be 

devoted to expanding support for rental housing programs 

for low~income populations in need of affordable housing. 

The U.S. Department of Agriculture (USDA) bears primary 

responsibility for administering housing assistance in the 

nation's rural areas that, under the current definition used 

by USDA, are home to one~third of the U.S. population. 

Overall, rural areas tend to have higher poverty rates and 

lower incomes, so although housing costs are often lower 

than in other parts of the country, a substantial portion of 

rural households spend an unsustainable share of income 

on rent or mortgage payments. USDA offers both rental 

housing and homeownership programs to enable lowerincome residents of rural areas to afford high-quality homes. 

The commission supports current approaches to the 

administration of housing support in rural areas. More 

specifically, the commission recommends that housing 

assistance in rural areas continue to be delivered through 

USDA and the standards currently used to define "rural 

areas" maintained through the year 2020. 

The commission also recommends enhancing the capacity 

of USDA providers to serve more households. Modest 

incremental funding for the Section 502 Direct Loan 

program, in particular, would enable USDA to provide 

homeownership assistance to more low-income rural 

households at relatively low cost. In light of recent elevated 

delinquency rates, however, the commission believes 

that any additional federal support for the Section 502 

Direct Loan program should be conditioned on a thorough 

program evaluation. USDA providers should also be 

provided with resources to improve the delivery of technical 

assistance and the technology used to process loans, collect 

data, and monitor program performance. 
159 


80871.112

The aging of the population will necessitate major changes 

in the way we operate as a nation, including in the housing 

sector, While the number of Americans aged 65 and 

older is expected to more than double between 2010 

and 2040, we are still largely unprepared to meet the 

needs of the overwhelming numbers of seniors who wish 

to "age in place" in their own homes and communities. 

Industry groups have begun to educate their members 

about ways to improve the safety of existing homes through 

relatively simple modifications, and the importance of 

applying universal design principles in the construction 

of new homes. States and localities have also risen to 

the challenge, targeting programs to deliver health care 

and other supportive services to the naturally occurring 

retirement communities where older residents are aging in 

place. 

The commission recommends better coordination of federal 

programs that deliver housing and health care services 

to seniors. The U.S. Department of Housing and Urban 

Development (HUD) and the Department of Health and 

Human Services (HHS) should jOintly identify and remove 

barriers to the creative use of residential platforms for 

meeting the health and long~term care needs of seniors. 

In evaluating the costs of housing programs that serve 

frail seniors, Congress and the Office of Management and 

Budget should identify and take into account savings to the 

health care system made possible by the use of housing 

platforms with supportive services. 

The commission supports better integration of aging-in-place 

priorities into existing federal programs and urges a more 

coordinated federal approach to meeting the housing needs 

of the growing senior population, The scope of the U.S. 

Department of Energy's Weatherization Assistance Program 

should be expanded to include home assessments and 

modifications for aging in place. In addition, steps should 

be taken to provide effective guidance to ensure consumers 

understand the mechanics of reverse mortgages, including 

the risks and benefits of these products. A White House 

conference could bring together top federal officials and key 

players in the private and public sectors to draw national 

attention to the issue of senior housing and to catalyze 

development of a coordinated approach to aging in place. 
160 


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161 


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Our homes are where life among family and friends is 

centered and nurtured. They are the backtxmes of our 

communities~where our children prepare to go to school, 

where we form attachments with our neighbors, and where 

we participate in civic life. Our homes are the very platforms 

from which our lives develop. Increasingly, we have come to 

understand that our homes and the communities in which 

they are located are also important determinants of specific 

outcomes: early childhoocl development and health; access 

to quality educational opportunities; and our abHity to reach 

stable, good-paying jobs. As the ~pulation ages and as 

we stay longer in our homes, where we live will increasingly 

affed how critical medical and sociu! services are delivered 

and wi!! shape the quality of seniors' lives. 

Owning a home has been a strong aspiration since ut 

least the mid-20th century, when the postwar economic 

expansion, new government support for veterans and working 

famWes, the construction of new highways, and suburban 

development created opportunities for families to buy a home 

at an affordable monthly cost Over the next 50 years, many 

famlHes not only enjoyed the security that homeownership 

offered, they also accumulated wealth through the pay down 

or mortgage principal and long-term home price appreciation. 

America's homes financed millions of college educations, 

retirements, and medical and other necessities. The divide 

between those famlHes with significant net wealth and those 

without was marked most clearly by whether or not a famlly 

owned u home of its own. Unfortunately, not all Americans 

shared in this prosperity, as homeownership rates for minority 

famllies have consistently lagged behind those of white 

households. 

During the same period, national policy focused on 

eHminating slums and blight and constructing in their place 

new, affordable rental homes. Over time, our success at 

removing blight and slums outpaced our ability to replace 

the lost housing, and market forces that drove up the cost 

of rental housing accelerated the loss of affordable rental 

homes in many communities. A very high percentage of 

renters today, primarily those with modest incomes but also 

increaSingly more economically secure households, are 

forced to spend large shares of their income on rent. 

Housing is also a critical driver of the U,S. economy. For 

generations, our nation has looked to housing as a source of 

economic vitality and growth. Statistics like "sales of new and 

existing homes" and "multifamily starts" have become key 

indicators of national economic performance. When these 

indicators are trending upward, it generally means the U.S. 

economy is on the march; when they are trending downward, 

the economy is often in trouble. What is clear is that a stable, 

vibrant housing market directly translat.es into more jobs, 

higher family incomes and household wealth, and a stronger, 

more prosperous nation. It is equally clear that a strong 

economy with robust employment and income growth is the 

surest way to support strong housing markets throughout the 

country. When these elements lag and families cannot keep 

pace with the rising costs of a home, all parts of the housing 

sector suffer, with impacts reverberating throughout the 

economy. 

The unprecedented collapse of the housing market that 

began in 2007 has undermined our confidence in the 

system built over the last 75 years. In the wake of regulatory 

and market failures that enabled the growth of unsafe and 

unstable mortgage products and an unsustainable increase 

in house prices, that system is in disarray. The impact of the 

collapse is still being felt today, as millions of families have 

lost their homes, trillions of dollars in household wealth have 

vanished, and scores of communities remain decimated by 

foreclosures. The federal government's conservatorship of 

Fannie Mae and Freddie Mac-the institutions established 

by Congress to ensure a stable supply of mortgage financing 

through the sale of mortgage-backed securities-has cost the 

taxpayers tens of biHions of dollars to date.: And mortgage 

credit continues to elude miUions of creditworthy borrowers as 

very tight credit practices have become the norm. 
162 


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tiN) 

At the same time, the demographics of the United States 

are changing in transformative ways. As a sodety, we 

are becoming older, more likely to delay marriage and 

childbearing, and more racially and ethnically diverse. 

Members of the Echo Boom generation (those 62 million 

Americans born between 1981 and 1995) are also 

beginning to strike out on their own, many leaving the 

homes of their parents for the first time to form their own 

households. These changes will profoundly impact housing 

demand and the types of housing that Americans wll! need 

and want in the coming decade. Developing an effective 

response to these demographic changes will be a great 

challenge for policy m;)kers and housing practitioners, and 

a valuable opportunity for a fundamental rethinking of our 

nation's housing system. 

Recognizing the need for action and a new vision to 

guide federal housing policy, BPC launched the Housing 

Commission in October 2011 to examine the many 

challenges in housing today and to advance a coherent 

national strategy in response. As a result of this effort, we 

are more convinced than ever that hOllsing must assume 

a more prominent place on the national policy agenda. A 

nation that can offer a broad range of affordable housing 

options to its citizens wil! be stronger and better poised to 

compete on the global economic stage. A stable housing 

finance system will support housing consumption and 

investment, which in turn will be a vital source of new 

jobs. economic activity, and tax revenue for all levels of 

government In short, restoring our nation's housing sector 

is a necessary preconditIon for America's full economic 

recovery and future grolNth. 

Tens of millions of American families 

have benefited from the stabHfty 

The commission 

developed the following 

five principles as 

the foundation for 

its deliberations and 

recommendations: 

crisis demonstrated that an unstable 

housing finance system can hurt 

and affordability provided by the 

U.S. housing finance system and 

its traditional support of ~ variety of 

A healthy, stable hOUsing market is essential for a strong economy and a 

competitive America. 

through 11 recessions/ and new 

homebuilding and housing-related 

not only hOUsing, 

!ncreasingly integrated 

finance system, the entire 'global 

economy. A good quality of !ife for the 

nation's workforce and populai!on, 

based on safe and secure homes and 

,national olld regional economies. 

The nat~on's housing finance system 

should promote the uninterrupted 

ayanability of affordable housing credit 

and investment capital while protecting 

American taxpayers. 
163 


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The United States is fortunate to have a growing population 

fueled by both natural increase (net births over deaths) 

and Immigration. According to projections ofthe U.S. 

Census Bureau, the national population wiH likely increase 

from 310 million in 2010 to nearly 334 million in 2020 

By mid-century, the Census Bureau projects that the U.S. 

population will exceed 400 million." As the population 

grows. the demand for new and upgraded housing wil! grow 

as welL The production of new housing units as weI! as the 

preservation and renovation of existing units, boHI owneroccupied and rental, should be a major dynamic force in 

the overall national economy. 

Against this backdrop of population growth, three important 

demographic trends will help shilpe the housing landscape: 

the aging of the Baby Boom population, the formation of 

new households by members of the Echo Boom generaUon, 

and the increasing diversity of the genera! population as 

members of minority groups (particularly Hispanics) make 

up a greater percentage of total households. 

We live in a time when medica! and other technological 

advances make it possible for more Americans to enjoy 

longer, more productive lives. Ttlis development, while 

certainly welcome, chaUenges our country to ensure that our 

existing and future housing stock can support healthy living 

by older Americans. This challenge will only grow as the 

Baby Boom generation matures. 

The United States should reaffirm a 

commitment to providing a decent borne 

and a suitable living environment for 

every American family. 

in the world and should have a housing Federal policy should strike an 

This commitment, first articulated in 

the Housing Act of repeated 

In subsequent federal 

should be embraced as an essential 

to education, 

transportation, and other serVices, as 

~vea as aim to break up concentrations 

of poverty. Despite our current 

economic problems, the United States 

remains orie of the wealthiest countries 

system commensurate with this status. appropriate balance between 

hOl11eownership and rental SUbsidies. 

The primary fotus of federal housing 

policy should be to help those most in Owner-occupied housing and rental 

need. 

should be deployed in a more targeted, 

and efHcient manner to first help the 

most vulnerable houscehotds, lncluding 

outlays and tax SUbsidies should be 

allocated in a manner that reflects 

differences in the circumstances, 

needs, and preferences of hOllseholds 

throughout the !lfe cycle. 
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Chari 

90 

85 

80 

75 

70 

65 

60 

55 

50 

45 

40 

1930 

Expectancy al Birth in Ihe United Slale" 

1940 1950 1960 1970 

2008 wilh Projection, !hw"gh 2020 

1980 1990 2000 2010 2020 

Between 1946 and 1965, the Baby Boom added expected to grow, from 4.2 million in 2000 to more than 9 

approximately 78 million individuals to the U.S. population, million in 2030Y 

making Baby Boomers one of the largest demographic 

cohorts in U.S. history.? The oldest members of this group, Health challenges often become more complex with age. 

those born in 1946, first joined the senior population (those More than half of Americans aged 75 or older have some 

aged 65 or older) in 2011 and are the vanguard of what is difficulty with vision, hearing, mobility, Of activities related 

likely to be an explosion in the number of older Americans. to personal care and independent living.": Yet many older 

According to Census Bureau projections, the aging of the 

Baby Boom generation will cause the number of seniors 

to grow by 30 million over the next 20 years to 72-million 

strong, accounting for approximately 20 percent of the 

national population, up from 13 percent today. Among 

seniors, the number of people aged 85 or over is also 

Americans have a strong desire to remain in their current 

homes and communities as they age, even though their 

existing homes may not be fully equipped with the features 

necessary for independent living and access to supportive 

services may be limited. This desire to "age in place" 

will challenge seniors and their children to renovate and 

remodel existing homes in response to health care and 
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safety needs or seek out affordable rental options within 

their communities to accommodate a desire to downsize. 

Housing affordabmty is also a serious problem for many 

seniors. Most older Americans own their homes. Those 

with fixed incomes or limited resources may struggle to 

cover the sometimes unpredictable costs associated with 

homeownership such as utility bills, property taxes, and 

expenses related to home repair and upkeep.': Among 

senior renters, 70 percent spend at least 30 percent of 

their income covering housing costs, :.' Paying too much 

for housing leaves seniors w'lth inadequate 'Income to pay 

for medications, healthy food, and other necessities. This 

trade-off in turn jeopardizes their health. potentially leading 

to increased health care costs, hospitalization, and nursinghome placement Federally assisted housing is an important 

resource for the low~income senior population. More than 

one-third of the five million HUD-assisted households are 

headed by an individual who is at least 62 years of age.:' 

Today, however, the number of low-income seniors in need 

of such assistance greatly exceeds the available subsidies. 

See Chapter 6, Aging in Place: A New Frontier in Housing, 

The large share of elderly households that receives H U 0 

assistance also illustrates another hard truth about the U.S. 

housing subsidy landscape; While the non-elderly (and notldisabled) tenants that HUD assists are in a position to use 

their stable housing as a platform to improve their incomes 

and eventually exit the program, these elderly tenants wi!! 

continue to need subsidies as their incomes are relatively 

fixed and unlikely to go up over time. As their numbers 

grow, it will become even more important to think creatively 

about the use of scarce housing assistance in ways that 

maximize impact for all households, 

The Echo Boom generation, a cohort of approximately 62 

million individuals born between 1981 and 1995, will be the 

major force fueling demand for rental housing in this decade 

(2010 to 2020), particularly In expensive urban hOUSIng 

markets where the cost of homeownership is already 

high. According to projections prepared by the Urban 

Institute, between five million and six million new renter 

households will form through 2020, with almost all of that 

increase reflecting new household formations among Echo 

Boomers. ,~ 

Echo Boomers afe more racially and ethnically diverse 

than the Baby Boomers. They are also largely single and 

childless. As of 2009, only 21 percent of Echo Boomers 

were married, compared with approximately 50 percent of 

Baby Boomers at the same stage of life. in addition, only 

20 percent of Echo Boomers have children in the'lf homes 

compared with 30 percent of Baby Boomers when they 

were the same age. -', 

Echo Boomers have attained higher levels of education 

than members of previous generations, with more than 

half (54 percent) having completed at least some college 

education.·c In particular, female Echo Boomers have 

reached levels of educational achievement that far exceed 

the levels attained by the women of previous generations>" 

These educational exper'lences should enhance the long~ 

term financial position of the Echo Boomers while raising 

earnings expectations. 

The Great Recession's impact on Echo Boomers has been 

significant. Despite higher educational attainment, young 

households are struggling with high unemployment. Many 

young adults also carry high levels of credit card and 

student loan debt that may delay the decision to form new 

households and may affect, at least in the short term, the 

type of housing they seek> Not surprisingly, during the latter 
166 


80871.119

1. intrudlKtlUI1: OUf NdtIC)fl'S 

half of the last decade, many young adults delayed forming 

their own households. Instead, some decided to live with 

parents or share housing with roommates. As a result, 

growth in the number of new households declined from an 

average of 1.2 million annually from 2000 to 2007 to an 

average of only 568,000 annually from 2007 to 2011." As 

the job market improves, new household formation by the 

Echo Boomers will likely increase as this pent-up demand is 

released. 

While the Echo Boomers wi!! fuel rental demand in the 

near- to mid-term, during the decade that follows 2020, 

large numbers of Echo Boomers wHllikely transition from 

rental housing to homeownership, In many communities. 

Echo Boomers will playa leading role in absorbing owneroccupied single-family housing that has been released into 

the market by Baby Boomers who have either downsized 

to more suitable housing, moved in with their children, 

transitioned into nursing homes and assisted-hving facilities, 

or passed away. This process of housing absorption by the 

Echo Boomers will be critical to the ongoing vitality and 

stability of local housing markets, particularly those with 

large numbers of Baby Boomer households.'~ 

Despite the disproportionate impact of the recent 

housing crisis on minority homeownership and wealth, 

many members of the African American and Hispanic 

communities continue to aspire to homeownership. with 

Hispanics accounting for a significant share of newowner households.~ ~ As the Hispanic share of the overall 

population grows, there may be a greater need for structural 

accommodations to the housing stock in light of the large 

families and multi generational households common in the 

Hispanic community." 

The recession substantially slowed the pace of immigration 

to the United States. For the first time in recent memory, 

growth in the foreign-born population slowed in the 20005, 

and growth in the number of foreign-born households 

appeared to stall as the recession unfolded. These 

developments contributed significantly to the overall decline 

in new household formations. As the economy improves, 

immigration will likely have a significant impact on the 

housing market, especially in gilteway cities like New York, 

Los Angeles, Miami, and Houston. Households headed 

by foreign-born individuals are more likely to live in highdensity areas and multifamily rental housing, especially 

soon after arrival, and to settle in communities where others 

from their home countries already reside."1 In addition, 

According to Harvard's Joint Center for Housing Studies, many medium- and smaller-sized cities find their immigrant 

about 70 percent of the 11.8 million net new households communities growing in response to federal resettlement 

that form in the United States between 2010 and 2020 will programs as well as work opportunities and family 

be headed by members of minority groups, with much of connections in those cities. 

this growth attributable to Hispanic households."" By 2020, 

minority households are projected to constitute one-third 

of all U.S. households and a growing share of the younger 

renter population. i 
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80871.120

Historically. housing has been a key driver of the U.S. 

economy. Housing contributes to our nation's gross 

domestic product (GOP) through investment in residential 

properties (both single-family homes and multifamily 

buildings) and through private consumption of homerelated goods and services, such as new appliances 

and furniture. landscaping, and home repair. According 

to one estimate, the construction at a typical100-unit 

multifamily development creates 80 jobs directly (through 

construction) or indirectly (through the supply chain), plus 

another 42 jobs in a range of local occupations as a result 

of construction workers spending their wages.:'" Similar 

economic benefits apply to single-family construction as 

well as renovation activity.> Construction and renovation 

also generate tax revenue for states and localities, helping to 

support the provision of essential public services. 

During the past four decades, the contribution of housing 

to national GDP through both residential fixed investment 

and consumption of services has averaged betv.leen 17 

to 19 percent. Today, housing's contribution stands 

at slightly more than 15 percent," largely because of a 

significant decline in fixed investment in home construction 

and remodeling. This decline is a major reason why the 

recession and its damaging effects have lingered for so long. 

According to some estimates. if residential fixed investment 

reflected its historical average, the current rate of economic 

growth could double. ' 

In the decades preceding the housing market's collapse, 

homeownership was also the dominant means by which 

millions of American famHies accumulated household 

wealth. Through the "forced savings" of a monthly mortgage 

payment, families were generally able to build up equity 

slowly over time, ultimately transforming their homes into 

their most important and valuable asset. Whether the 

PulleY 

American people will continue to view homeownership as an 

effective way to build household wealth remains to be seen. 

What is clear is that our country's economic situation would 

be vastly improved with the re~establishment of a housing 

market in which home prices remain stable and gradually 

appreciate over time and a resolution of those local markets 

where large numbers of homeowners are underwater on 

their mortgages, owing more than their homes are currently 

worth. 

In recent months, we have witnessed a welcome pickup in sales of new and existing homes after these sales 

dropped to historic lows. Nevertheless, for the immediate 

future, it is likely that the market for single-family homes 

wi!! continue to be troubled, as the backlog of foreclosures 

and the nearly 11 million households who are underwater 

on their mortgages have a strong dampening effect on 

market values. '" This dampening effect will likely be most 

pronounced in those states where the housing market took 

the biggest climbs during the boom years and the steepest 

drops after the market's collapse. 

In addition, even though mOltgage rates are at historic lows 

and home prices have dropped by as much as 30 percent 

in some markets, the credit needed to purchase a home is 

scarce and hard to attain. This credit scarcity particularly 

affects low-wealth households who are more likely to be 

African American and Hispanic. 
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80871.121

Chari 1·2: Share of Residen!lal PlOp,,"ie. in Nega!ive Equity, 2012 Third Qu",ler 

Nevada:IIIIIIIIIIIIIIIIII~1I1I1I1I1I1I1I1I1I1I1I1I1I1I1I1I1I1I 

Florida 

Arizona 

Georgia 

Michigan •• 11111111.1111111111111111 •• United States 

Oklahoma ~::: NeWYOrkJ 

Montana 

A!aska 

North Dakota 

0% 10% 20% 30% 40% 50% 60% 

Source: CoreLogle, "Corelogic Reports 1.4 fVilllion Borrowers Returned to "Positive EfJulty" Year to Dnte Through Eno oft!1€> Third QUilrter 2012' J;;muary 17,2013 

While the homeownership market faces some difficult 

challenges at least for the foreseeable future, the rental 

housing market has picked up steam in many urban areas 

throughout the United States. In these markets, rental 

vacancy rates are declining and rental costs are increasing. 

Yet today, an astonishing one in tvvo rental households 

is alreadycost~burdenedr paying more than 30 percent 

of household income on rent and utilities. In fact, more 

than one-quarter of all renters bear severe cost burdens, 

allocating 50 percent or more of their incomes to rent.:': 

Unless action is taken, rising rents will put additional 

affordability pressures on these households as they struggle 

to make ends meet. In the coming decade, demand for 

rental housing is likely to be strong and sustained, fueled 

in large part by new household formation among Echo 

Boomers. The production of new affordable multifamily 

rentals, which dropped dramatically following the collapse of 

the housing market, wi!! need to keep pace with this growth 

in demand. 

The United States cannot respond effectively to these 

challenges unless and until it hlJS a world-class system of 

housing finance that supports both the single-family and 

multifamily sectors IJnd a coherent and balanced fedeml 

approach to assuring decent, affordable homes for the 

most vulnerable households. Meeting our nation's future 

housing needs will depend upon a steady and sufficient 

supply of capital to support a wide variety of participants in 

the housing market-first-time home buyers, those seeking 

to refinance their mortgages, private mortgage originators, 
169 


80871.122

seniors who wish to stay in their homes and age in place, 

low~income renters, the owners and developers of large 

multifamily rental projects, and the mom~and~pop owners 

and managers of small rental properties. 

Efforts to resto(e housing's traditional role in the U.S. 

economy must be accompanied by a commitment to reductng 

for some 21 percent of the nation's overa1l energy use, and 

the greenhouse gas emissio(JS'of a typical home are double 

efforts to Improve 

newly constructed 

homes can contribute significantly to the national goals of 

reducing greenhouse gas emrsslons and improving energy 

secUrity, Given the additional energy and greenhouse gas 

emIssions a~socjated with long car triPS, these goals can 

by lncreasmg the share ,of homes 

neighborhoods near publlc-transrt 

stations and in other areas where households 'Can meet more 

of their transportation needs through walking, biking, public 

transit, or shorter car trips. These approacnes are additive? I 

and together can help reduce household expenditures 

for transportation and utilities, which already consume a 

significant snare of the budgets of low- and moderate-income 

households. 

Of course, the economics of hOllsing tells only part of the 

story. HOllsing is important because it is first and foremost 

about meeting the basic needs of people. 

Like food and clothing, it is a necessity of life. But a 

burgeoning body of research is also showing us that housing 

that is stable, affordable, of good quality, and located in 

neighborhoods that provide opportunities and services is the 

foundation for many other benefits that accrue to both the 

individual and the broader community. 

Stable, affordable housing can be a platform for better 

educational outcomes. When children move frequently 

from one school to another. they tend to do less well in 

school and disrupt the educational environment for others.'" 

Stable, affordable housing can help to improve educational 

achievement by reducing the frequency of unwanted 

moves. Affordable housing strategies that help low-income 

families access low-poverty neighborhoods or communities 

with high-performing schools can iJlso contribute to positive 

educational outcomes. Better educational performance. in 

turn, may lead to greater employment opportunities, higher 

incomes, and a boost to national wealth and productivity. 

Housing that combines the attributes of stabi!lty and good 

quality promotes positive physical and menta! health 

outcomes for children and adults alike. "Well-constructed 

and maintained housing can substantially reduce children's 

risk of lead poisoning ilnd respirutory ailments, like asthma, 

as well as exposure to toxic substances, such as pesticides, 

radon, and carbon monoxide.' Well-equipped housing, 

with working smoke detectors and window guards, can also 

reduce the risk of injury or death. 
170 


80871.123

Stable housing also enhances the impact of a variety of 

health and treatment services, improving outcomes and 

saving public funds. As we age, for example, housing 

can serve as a platform to support the more effective 

delivery of services, particularly for seniors who need these 

services to live independently. Housing that is co-located 

with or near service providers can yield significant savings 

and efficiencies by allowing older adults to age in place, 

thereby delaying or avoiding the need for much more 

costly institutional care that can draw heavily upon limited 

state and federal resources. v While additional research is 

needed, it is increasingly clear that modest interventions 

and services delivered through seniors' housing can reduce 

emergency-room visits and the severity of illnesses, which 

translates to lower health care costs for seniors and public 

and private insurers."' 

Stable housing also improves the ability of individuals with 

chronic illnesses to maintain a consistent treatment regime! 

and provides a context within which health care services 

may be more effectively delivered. For example, permanent 

supportive housing~i.e., stable subsidized housing linked 

with treatment and other services~has been shown to be 

effective in improving the impact of services and in ending 

homelessness. Rigorous studies of homeless people 

with HIV-AIDS, mental illness, and chronic alcoholism 

have shown that. when people lack housing, services are 

not effective and have to be frequently repeated, whereas 

outcomes are significantly better for similar groups placed 

in permanent supportive housing. v Further, for such 

high-need populations, cost savings may accrue, both 

from the reduction in service utilization and improvement 

in effectiveness, as well as from the reduced use of acutecare services, such as shelter, transitional housing, hospital 

emergency rooms, and jails.'; 

Housing affordability is also a critical part of this equation: 

If household budgets are consumed by mortgage or rental 

costs, then fewer resources remain to secure nutritious 

food, pay for prescription medication, and access regular 

medical care. 

To complement our housing finance system, the federal 

government deploys substantial fiscal resources to support 

housing through an array of direct spending, tax subsidies, 

and credit-enhancement programs. For example, the 

Section 8 Housing Choice Voucher and Project-Based 

Rental Assistance programs provide a subsidy to assist 

some 3.4 million low-income households 1.. in covering their 

rental housing costs, and through them support the property 

owners and investors whose capital is critical to maintaining 

this housing stock. The federal tax code encourages 

private investment in the construction, preservation, and 

rehabilitation of affordable rental housing through the Low 

Income Housing Tax Credit program, while the mortgage 

interest deduction and the deduction for state and local 

property taxes aim to promote homeownership. And the 

insurance and guarantee programs of the FHA, the U.S. 

Department of Veterans Affairs (VA), and the Rural Housing 

Service of the U.S. Department of Agriculture have helped 

millions of American families gain access to affordable 

mortgages over the past decades. Together, the federal 

government devotes more than $180 billion annually 

through these and other initiatives to help meetthe diverse 

housing needs of the American people. 

The commission recognizes that our nation's unsustainable 

debt burden is the dominant, overarching issue in 

Washington today. This new fiscal reality has the following 

implications for federal housing policy; 

• First, every federal housing program must be evaluated 

on a forward-looking basis, with attention to how 

effectively it responds to the housing needs of today and 

tomorrow rather than those of the past. 
171 


80871.124

• Second, federal housing programs must operate on 

a more efficient basis and deliver services in a more 

effective manner, leveraging to the maximum extent 

possible the resources of the private and nonprofit sectors 

as well as state and local governments. 

• Finally, the commission recognizes that any proposals for 

increased spending must be offset either by reductions 

in federal outlays, savings from systems' reforms, and/or 

through the adoption of new revenue sources. 

The hallmark of a successful housing system is whether it 

offers affordable and secure housing options to Americans 

at a/fstages in their lives~the young graduate looking for 

DlfPCflOIlS 

an affordable rental as she enters the workforce, the newly 

married couple in the market for a starter home, the single 

mother seeking a house with more space for her two active 

teenagers. and the retired widower who cannot imagine 

living anyvvhere but in the same "Cape Cod" and in the 

same community he has caHed home for more than 40 

years. 

We live in times of great turmoil and uncertainty for millions 

of Americans, particularly for those at the lower end of the 

income scale. So, it is our view, too, that a housing system 

earns the mantle of success only if it adequately meets the 

changing needs of the nation. 
172 


80871.125
173 


80871.126

For generations, millions of American families have aspired 

to purchase and Jive in a home they can cal! their own. 

This aspiration is so tightly woven into our nation's cultural 

fabric that owning a home has become synonymous with 

achieving the American Dream and joining the nation's 

middle class. 

Research shows that homeownership has positive 

impacts on the stability of communities as families 

support and nurture their homes and surrounding 

neighborhoods:i

" Homeownership has also been linked 

with increased civic engagement, higher voter turnout, 

enhanced home maintenance, and reduced crime rates.';'-

Moreover, homeownership, and the stability afforded by 

homeownership, has been linked with positive behavioral 

outcomes and educational achievement among children. 

For many families, purchasing a home is also the most 

critical investment decision they ever make. Through the 

forced savings of a monthly mortgage payment and as a 

result of house price appreciation, homeownership has 

enabled mlliions of families to build up equity over time, 

which has usually translated into greater household wealth 

and more financial security. For many households. a home 

is their primary asset and homeownership represents their 

single greatest wealth-building opportunity. Over the years, 

millions of homeowners have sensibly leveraged the equity 

in their homes to send their children to college, start a new 

business, pay for health care and other emergency costs, 

and meet their retirement needs. 

Dating back to the Homestead Acts of the 1860s, the 

federal government has promoted land ownership 

and homeownership as ways to spur personal and 

community investment. Subsequent policies-such as the 

establishment of the Federal Home Loan Bank system, the 

creation of the FHA and VA mortgage insurance programs, 

and the establishment of Fannie Mae and Freddie Macwere designed with this same goal in mind. In many 

respects, these policies helped to build a resllient and 

broad middle class in which assets were shared across 

generations, contribUting to financial stability and social 

mobility as weI! as stronger communities. 

As outlined in Figure 4~2 on page 107, the federal 

government has also historically supported homeownership 

through specific tax subsidies. In 1986, for example, 

Congress protected mortgage borrowers by retaining their 

ability to deduct interest payments on mortgages while 

eliminating such deductions for all other forms of consumer 

debt. These tax subsidies remain the most significant form 

of financial support for housing in the federal budget. 

The collapse of the housing market in 2007, however, has 

led many to question the elevated status of homeownership 

In American society. This reassessment is understandable 

in light of the hundreds of thousands of families who have 

lost their homes to foreclosure and is essential ir we are 

to avoid repeating the mistakes of the past. As part of this 

reassessment, the commission recommends the adoption of 

policies that can accommodate the changing demographic 

profile of new households described earlier in this report, 

striking J balance between support for homeownership and 

renting, and prioritizing such support to help those with the 

greatest needs in both sectors. 

The housing boom and bust generated an economic 

downturn from which the nation has yet to recover. Some 

analyses have attributed the root cause of the downturn to 

the push for homeownership and fix the blame principally 

on poHdes to support homeownership, A complete and 

correct analysis would recognize that overly exuberant home 

buying provided an important stimulant. but would place it 

in the context of a wide range of factors that converged to 

create a globa! crisis. These factors include: 
174 


80871.127

ContinUIng Vai\w ot HOliWO\vlwrshlp 

• A credit bubble formed as a result of excess capital 

surpluses built up by China and the large oil-prcx:lucing 

nations. 

• New Wall Street securitization instruments that used 

complex hedging strategies and generated massive global 

demand both for mortgage-backed securities and for 

subprime mortgages to go into these securities, and the 

decisions by credit-rating agencies to grant top ratings to 

tranches of subprime mortgages. 

• The emergence of abusive and predatory mortgage 

products that required no documentation and no 

down payments, as well as the activities of unqualified 

borrowers who exploited opportunities and submitted 

false or inadequate credit information. 

• The relaxation of underwriting standards by major banks 

and mortgage lenders in order to compete for market 

share with new subprime products. 

• Fannie Mae and Freddie Mac's drive to recapture 

market share lost to securitization of subprime and 

other non prime mortgages, which led them to relax 

underwriting standards and take on risk for which they 

were not prepared. 

• Regulatory failure caused in part by a maze of 

government oversight agencies with overlapping 

jurisdictions and, in some instances, no regulatory 

authority. 

Because of the scale and importance of the nation's 

housing market, these factors and others converged to 

create a boom of massive proportions and a bust of historic 

impact The point of this litany of convergent forces is not 

to assess blame or to oversimplify complex interactions 

but to encourage a complete diagnosis so that policy 

recommendations and corrective measures address the 

problems effectively. It would be erroneous and damaging 

to misread the origins of the crisis, to attribute it solely 

to the expansion of homeownership during a period of 

economic growth, and as a result, to unduly curtail support 

of homeownership for households that can responsibly 

assume the obligations of a mortgage./(· 

Of course, at the end of the day, prudent underwriting 

is the essential ingredient of a system of responsible, 

sustainable homeownership. During the housing boom, a 

major factor contributing to the abandonment of prudent 

underwriting was the mistaken belief shared by actors 

across the mortgage chain-lenders, borrowers, regulators, 

and investors-that home prices were inalterably heading 

upward. Many borrowers took out short-term mortgages that 

were structured with large payment shocks at the end of 

the term, believing that ever-increasing home prices would 

allow them to refinance before rates reset When house 

prices declined, however, refinancing was no longer an 

option for many households, who found themselves locked 

into mortgages they could no longer sustain. In addition, 

as the housing bubble expanded, far too much emphasis 

was placed on owning a home as an investment asset and 

as a fast track to acquiring wealth, leading some to assume 

unsustainable levels of debt in the hopes of making a quick 

gain or out of fear they would be left behind if they did not 

act. Contributing to an already unsustainable situation, 

many homeowners took out Home Equity Lines of Credit to 

cover other expenses, leaving them with little to no home 

equity when home prices dropped. 

At the same time, practices like "reverse redlining" and 

steering families into riskier mortgage prcx:lucts (such as 

adjustable-rate mortgages and loans with high prepayment 

penalties) led to higher default rates, especially within the 

Hispanic and African American communities. Research 

shows that many of the families who did default on these 

loans had gocx:l credit, a decent income, and everything 

else necessary to qualify for a traditional long-term, fixedrate loan, but instead were steered into exotic and costly 

mortgages they did not fully understand and could not 
175 


80871.128

afford.,n The regulatory system falled to properly monitor 

and regulate these practices. Uneven regulation left 

mainstream banks heavily supervised while mortgage 

finance companies and subprlme lenders acted in a largely 

unaccountable manner. Even regulated institutions acquired 

subprime and other non prime businesses in an attempt to 

share in the market's seemingly endless growth. 

Despite these experiences, the commission strongly 

believes that homeownership can produce powerful 

economic, social, and civic benefits that serve the individual 

homeowner, the larger community, and the nation. The 

key is to ensure that mortgage borrowers understand their 

obligations and are well-positioned to fulfill them and th(]t 

lenders underwrite loans based on the borrowers' ability 

to repay. When coupled with reasonable down payments, 

solidly underwritten fixed-rate mortgages~as we!! as 

straightforward adjustable-rate mortgages with clear terms 

and limits on adjustable and maximum payments--can 

open the door to homeownership and its benefits for 

individuals with modest wealth and incomes. 

Lenders and investors have tightened their credit standards 

significantly since the collapse of the housing market. 

The Consumer Financial Protection Bureau (CFPB) and 

a collection of other federal agencies are considering a 

number of regulations called for in the Dodd-Frank Act 

to create and regulate effective underwritlng practices. 

However, the pendulum has swung too far from the 

excesses of the pre-bust era, and today's credit box is 

tighter and more restrictive than underwriting practice 

and experience justify. The commission cautions against 

well-meaning regulations that may go too far and end up 

reducing credit to consumers. Going forward, a combination 

N<1ttOlnl PUitcy 

of proper regulation, adequate liqUidity, Jnd the right 

incentives in the private market can help ensure that 

homeownership remains a vital housing and wealth-building 

option. See Text Box, Developing Sound Principles of 

Regulation, page 53" 

Capital found that more than 95 percent of these 

homeowners-who received tradltlonaI30-year, fixed-rate 

mortgages between 1999 a[1d 2009 through Self HeJp Credit 

Union's Community Advantage Program-were continUing 

to make mortgage payments at the end ofthe decade, 

despite the collapse of the housing market. Jhe default 

loans that they III 19ht othelWise 

without the program's fe:3tules). The researchers found that 

mortgage$ tQ low-income households that are well-serviced 

and correctly structured and aVQid risky features~such 

as no dqcumentation Df income or assets, ,lligh upfmnt 

fees, prepayment penalties, teaser rates, and balloon 

and lead to 

!n addition, homeownership remains a strong aspiration 

for millions of Americans. Surveys indicate that an 

overwhelming majority of Echo Boomers hope to purchase 

a home someday.'" Other research shows that Americans 

continue to see homeownership as a critical cornerstone of 

the American Dream with benefits we!! beyond the financial 

investment. This sentiment is especially strong within the 

rapidly growing Hispanic community> 
176 


80871.129

2. Tb<? CotliulUlng Value 01 Horrwuwrooh 

Since the collapse of the housing market, the 

homeownership rate has fallen from 67,3 percent in 2005 

to 64.6 percent in 2011.'" Yet, according to research 

performed by the Urban Institute that assesses a number 

of projected demographic scenarios, the overall national 

homeownership rate is unlikely to fall below 60 percent at 

any time before 2030 and is more likely to be higher than 

60 percent.:-' A homeownership rate in excess of 60 percent 

is generally consistent with the rate that existed over the 

past 50 years (see Chart 2-1). For the foreseeable future, 

homeownership will continue to be the preferred housing 

choice of a majority of American households. 

Chari 2·1: Nalio"al Homeow"e"hip Rale, 1960102010 

67% 

66% 

65% 

64% 

63% 

61% 

60% 

1960 1970 1980 

As we look to the future, we must ensure that the 

opportunities and substantial benefits of homeownership 

are available to all members of our society who are 

prepared to assume the responsibilities of being a 

homeowner. Homeownership rates today continue to be 

dramatically dissimilar across racial and ethnic groups 

and income bands (see Charts 2~2 and 2-3), In 2011, the 

homeownership rates for Hispanics and African Americans 

were considerably lower than the homeownership rate 

for the overall population. This gap hampers economic 

prosperity and the growth of a stable and secure middle 

class. As our country grows more diverse, with members 

of today's minority groups accounting for an increasingly 

larger share of the national population, ensuring thatthe 

opportunity for homeownership is open to all creditworthy 

households is more important than ever. 

1990 2000 2010 
177 


80871.130

Chart 2~2: National Homeownership Rate by Race and Ethnidty, 

100% 

90% 

80% 

70% 

60% 

50% 

40% 

30% 

20% 

10% 

0% 

Total Hispanic or Latino Asian Alone \l\t\ite Alone, Not 

Hispanic or latina 

Black or African 

American Alone 

Source; U S_ Census B\lreDlI, "825003, Tenure," knencan Comn7Ufllty $Lirvey (WJshlngton, D.C., 2012) 

Over the years, the federal government has made significant 

efforts to ensure that access to credit is available without 

regard to one's racial or ethnic background, The Fair Housing 

Act of 1968 and the Equal Credit Opportunity Act of 1970 

prohibited discrimination in housing and lending. The 

Home Mortgage Disclosure Act of 1975 gave the public an 

opPJrtunity to monitor the activities of regulated lenders in 

Chmt 2-3: National Homeownership Rate by income, 

100% 

90% 

80% 

70% 

60% 

50% 

40% 

30% 

20% 

10% 

0% 

the home mortgage market. In 1977, Congress passed the 

Community Reinvestment Act requiring financial institutions 

to meet the credit needs of consumers in the communities 

where they are chartered, consistent with safe and sound 

financial practices. HomeO'Nnership rates were also a central 

focus of the presidencies of Bill Clinton and George W. 

Bush, Both challenged the markets to better serve minority 

home buyers, 

Less than 

$20,000 

$20,000 to 

$34,999 

$35,000 to 

$49,999 

$50,000 to 

$74,999 

$75,000 to $100,000 to $150,000 or 

$99,999 $149,999 more 

Source. u.s. Census Bureau, 'B25118. Tenure by HOllsehold Income in the Past 12 Months," American Commuility St!!Vey(WJshlngton, D.C .. 2012} 
178 


80871.131

Chdpt~;r 2.. The Val\w 

The Joint Center for Housing Studies of Harvard University 

projects that 

percent) and Texas (552 percent). !n estimates released in 

the summer of 2012 by the U.S. Census Bureau, the data 

showed that Just over half (50.4 percent) of the nation's 

population under age one am minorities. While much growth 

is (lccurnng in the American South and West, parts of the 

Paclfic 

low homeownership levels among these p,?puiatlons. 

As the nation seeks to expand homeownership opportunities, 

certain principles should guide our policies: 

• First, a new and reinvigorated commitment to 

homeownership requires a strong vibrant housing finance 

system where creditworthy borrowers can get a mortgage, 

along with responsible lending practices and a stable 

regulatory regime that provides clear rules of the road for 

mortgage lenders and borrowers. 

• Second, we must support a production system capable 

of constructing homes that will be affordable and suitable 

for the millions of households who will seek to become 

homeowners for the first time. 

• Third, housing counseling and education must 

be a central component of any strategy to expand 

homeownership opportunities, particularly as a means 

of preparing first-time home buyers for the financial and 

other responsibilities of homeownership. 

• Fourth, mortgage lending, zoning, and land-use policies 

should support new forms of homeownership that can 

lower costs and preserve affordable homeownership 

opportunities over time. 

The commission also supports the continuation of tax 

incentives for homeownership, but recognizes that, in the 

ongoing debate over tax reform and budget priorities, all 

revenue options will be evaluated. See page 104 for further 

discussion of the commission's views on federal support for 

housing. 

The remainder of this chapter sets forth the case for an 

enhanced national capacity for housing counseling and 

identifies emerging approaches to homeownership that 

merit further study and support. Chapter 3 outlines a 

redesigned housing finance system that can support new 

housing prcxluction and meet the mortgage credit needs of 

the American people. 

The Housing Counseling Assistance Program administered 

by HUD was established in 1968 and has traditionally 

enjoyed bipartisan support. Over time, funding has 

steadily increased, and the scope of the program has 

broadened to focus on providing education and advice to 

first-time home buyers, renters, seniors, and horneowners 

facing foreclosure. Financial institutions and counseling 

organizations have developed partnerships as a result of the 

program, and policy makers are incorporating counseling 

in their rules and regulations. Over the last decade, the 

Housing Counseling Assistance Program has adapted to 

a dynamic housing market by increasing its capacity and 

sophistication. Today, housing counselors have experience 

in mortgage origination, loss mitigation, reverse mortgages, 

homeless counseling, and tenant rlghts, and they have 
179 


80871.132

a track record of providing objective information and 

guidance, 

Current polley recognizes the importance of counseling 

for especially vulnerable borrowers. Counseling is already 

required as a condition to obtaining a reverse mortgage 

though the FHA's Home Equity Conversion Mortgage 

program, and the DocJd-Frank Act requires counseling 

for borrowers seeking to refinance into high-cost loans, 

as defined by the Home Ownership and Equity Protection 

Act Dodd-Frank also e!evated counseling's importance by 

creating a new Office of Housing Counseling within HUD, 

The commission believes that housing counseling can 

improve prospective borrowers' access to affordable, 

prudent mortgage loans, especially for families that 

otherwise might not qualify or who may experience 

other barriers to mainstream lending, There is a wide 

public benefit from investment in housing education 

and counseling programs, and the commission therefore 

supports continued federal appropriations for housing 

counseling, and recommends that stakeholders who 

benefit from a borrower's access to counseling services 

be expected to contribute to the cost of the service, To 

achieve this vision, four key elements are necessary: (1) a 

strong counseling infrastructure; (2) clear standards; (3) an 

understanding of the proper role for counselors; and (4) the 

adoption of best practices for integrating counseling into the 

mortgage market. 

Technology and product development, human capital, 

brand awareness, and support are key aspects of the 

housing counseling network, Online technology aHows 

counselors to better evaluate the financial circumstances 

of each borrower and homeowner.:' And new technology 

and infrastructure developed in the wake of the housing 

market's collapse have increased counselors' efficiency and 

Hou:,lng Polli:Y 

ability to respond to an increasingly complex marketplace, 

allowing counselors to reach clients in greater numbers than 

ever before and in more remote locations. HUD-approved 

housing counseling agencies can either connect with H U D 

directly or work through a national or regional intermediary. 

National intermediaries provide leadership that strengthens 

the counseling field and improves the quality and 

professionalism of counseling services. For instance, they 

help pool funds, broker partnerships, seed programs, and 

train counselors, The public campaigns that have brought 

record numbers of homeowners to housing counselors 

through the National Council of La Raza's Independent 

Foreclosure Review hotline and the Homeownership 

Preservation Foundation)s Hope hotline are good examples 

of expanded capacity, structure, and coordination provided 

by intermediaries, 

The vast majority of HUD-approved housing counseling 

providers are community-based non profits. Communitybased organizations located in the neighborhoods they serve 

have established relationships with local leaders and have 

their pulse on community needs. They are often the first point 

of contact for struggling famjjies, Many of these organizations 

bring a cultural competency that is critical when reaching 

underserved minority and immigrant populations. 

HUD supports a network of nearly 2,700 agencies that, 

since 2005. has assisted more than 13A million households 

as they make decisions about their future housing,: ,- The 

HUD Housing Counseling Handbook defines and guides 

the services provided by these agencies, all of which report 

activity annually and are subject to performance reviews 

every two years. 

Intermediaries are responsible for ensuring that the 

organizations they fund comply with HUD standards, 

as laid out in the HUD Handbook, Intermediaries work 
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closely with their networks to train new staff on proper 

counseling materials, technology. reporting requirements, 

and management techniques. This model not only ensures 

that HUD standards are implemented but also helps 

organizations remain stable overtime. Should a HUD 

intermediary's grantee fail an audit, funding for their entire 

network would be jeopardized. 

The National Counseling and Homebuyer Education 

Committee, hosted by NeighborWorks America, has 

developed additional industry standards for homeownership 

counselors and educational professionals. These standards 

have been endorsed or adopted by more than 700 national 

and local counseling agencies and funders across the 

country and include professional and ethical standards 

beyond those called for in the HUD Handbook. 

As independent third parties, counselors offer unbiased 

information and advice to homebuyers, renters, victims 

of predatory lending, and families facing a financial 

emergency. While counselors can facilitate learning in 

groups, increasingly. they are providing one-an-one 

coaching, which has been shown to be a more effective 

way to generate positive outcomes for households in 

underserved communities. This approach allows private 

questions to be answered, and gives the counselor the 

opportunity to evaluate and develop tailored solutions for 

each family's unique circumstances. 

Housing counselors have three critical roles in supporting 

and advancing homeownership for the underserved: 

• Advisor to prospective home buyers. 

• Counselor to homeowners struggling to make payments. 

• Coach to those not yet ready for homeowners hip but in 

need of advice about affordable rental options or other 

financial counseling. 

Counselors coach clients to understand how lenders 

make loan decisions and can help prospective buyers or 

renters determine their monthly threshold for housingrelated expenses. Homeowners who receive pre-purchase 

counseling exhibit substantially lower delinquency rates. 

For example, among a group of 40,000 Freddie MilC loans, 

the borrowers who received one-on~one or classroom style 

counseling were on average between 20 and 40 percent 

less likely to ever experience a serious delinquency than 

their peers who did not attend counseling sessions. '0' 

Counselors can also be an ally in the event of an 

unexpected financial change and can start the conversation 

with a lender about ways to help struggling homeowners. 

For example, borrowers who received counseling under 

the National Foreclosure Mitigation Counseling program, 

created in the wake of the foreclosure crisis, were twice as 

likely to obtain a loan modification and 67 percent more 

likely to remain current on the mortgage nine months 

later as compared with their counterparts, who received a 

modification without the assistance of a counselor.~ 

While the HUD Housing Counseling Assistance Program is 

best known for its homeownership efforts, its most important 

contribution may be helping prospective buyers understand 

when it is not the right time for them to purchase a 

home. In light of the large number of households exiting 

homeownership, counseling agencies have seen an uptick 

in demand for rental counseling and financial coaching-a 

new line of service that helps households build credit, set 

up bank accounts, and engage in financial planning. People 

experiencing homeless ness also utilize housing counseling 

programs as they transition into a viable rental arrangement. 

As the number of renter households increases, there is a 

unique opportunity to capture dilta on the impact and value 

of this form of counseling. 
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Despite the success of housing counseling and the growing 

sophistication of the industry, its effectiveness is limited 

by its scale and positioning in relation to the rest of the 

mortgage industry. Promising partnerships between the 

counseling field and lenders have emerged, but more could 

be done to build upon these models. Lenders, investors, 

and regulators could provide counsehng incentives for 

borrowers on the margins of creditvv"orthiness. For example, 

one idea that has been discussed is for FHA to offer 

an insurance discount for those borrowers who receive 

counseling>~~ Clearly, such programs would have to be 

tested before scaling and priced consistent with risk- and 

capital-management principles. 

Lenders and others can require counseling for certain 

products. For example, the Federal Home Loan Banks' 

homeownership set-aside programs include counseling 

as a required condition for eligibility. A study conducted 

by the Federal Home Loan Banks on foreclosures within 

its homeownership programs between 2003 and 2008 

found that only 1. 7 percent of home buyers assisted by 

those programs requiring counseling (1,177 of 70,163 

participants) entered the foreclosure process.'~ These 

programs are designed to assist lower-income and firsttime homebuyers, yet the foreclosure rates reported by the 

Home Loan Banks were notably better than rates reported 

for prime loans through conventional mortgage programs. 

Clearly, as indicated by the numbers, homeownership 

counseling works. 

Regulators are also seeing the promise of housing 

counseling. The CFPB recently proposed a rule that will 

require all lenders to provide a list of federally approved 

counseling agencies to a consumer who applies for any 

mortgage loan within three business days. A second 

proposed rule, under the Truth in Lending Act, would 

require a lender to confirm that a first-time borrower 

received counseling from a federally approved agency 

before making them a "negative amortization" loan in which 

the mortgage principal owed increases over time. 

Many observers are concerned about the extent to which 

mortgages will be accessible and affordable to underserved 

market segments in the future. Housing counseling can 

and should play an impotiant role as a credit enhancer, 

mitigating the risk of lending to borrowers on the margins of 

creditvv"orthiness. Counseling organizations can also serve 

as a reliable pipeline of households for whom a slow and 

steady approach to homeownership is prudent. Thanks 

to the infrastructure created by HUD, the counseling field 

wI!! be able to maintain its depth and capacity. The HUD 

Housing Counseling Assistance Program is an excellent 

example of an effective and highly functional public-private 

partnership that should be thought of as a credit enhancer 

and important entry point for underserved communities to 

achieve homeownership. 

In the coming decades, millions of Americans will continue 

to find value in homeownership and seek to become 

homeowners for the first time. In recent years, a number of 

innovative ownership models have been introduced to help 

make homeownership more affordable and accessible. 

Growing numbers of "hybrid" homeownership models, 

variously known as "shared-equity" or "limited-equity" 

models, combine lower up-front costs for consumers with 

features that keep home prices affordable for subsequent 

buyers. For example, some shared- or limited-equity 

programs give the lender a right of purchase upon sale 

of the home, at a price determined using a formula that 

provides the seller with modest appreciation while keeping 
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80871.135

costs affordable to the next buyer. These programs can 

involve community land trusts with nonprofit sponsors who 

own the land under the properties. Either through covenants 

on individual deeds for homes, or through continued 

ownership and !ease~back of the land by the sponsor, 

these trusts incorporate a long-term affordabihty goal by 

limiting the sales prices of homes over time. There are also 

well-established models of limited-equity cooperatives in 

multi-unit buildings where the terms of the cooperative limit 

appreciation to a set amount. 

Land trusts using lease~back provisions can be particularly 

attractive for local governments that have acquired 

abandoned homes or for employer~assisted housing 

programs using land the ernployer owns. Another advantage 

of land trusts is the continuing participation by the 

sponsoring organization in the ongoing life of the community 

and the transfer of properties. There is recent evidence that 

owners in such trusts were less susceptible to subprime 

and predatory refinancing loans and performed better than 

other. comparable households through the mortgage bust 

and foreclosure crisis.'; 

These programs serve a succession of buyers over time. 

making effective use of scarce funds and helping to 

maintain homeownership at affordable levels. Many have 

demonstrated significant success but have not yet been 

taken to scale. These models deserve further support and 

study as alternatives that could help build effective and 

sustainable homeownership opportunities. 

In many parts of the country, and particularly in rural areas, 

manufactured homes are a significant and often overlooked 

source of affordable housing. Access to affordable, 

sustainable conventional finandng for these homes remains 

a serious obstacle for buyers, particularly for manufactured 

homes placed on rented land. 

Given the characteristics of those now entering the 

homeownership market for the first time, policy makers 

should give continued attention to ways to increase the 

availability of affordable, long~term mortgage financing for 

manufactured homes and should re~examine those policies 

that may unnecessarily restrict the ability of first-time buyers 

to purchase these homes. 

Whatever the vehicle may be, the formula for sustainable 

homeownership is clear: the broad availability of prime, 

fixed-rate mortgage financing-as we!! as straightforvvard 

adjustable-rate mortgages with clear terms and limits on 

adjustments and maximum payments-combined with 

counseling and financial education for those who may 

need it. Add to this mix a regulatory system that is vigilant 

and sufficiently equipped to address misconduct in the 

marketplace. 

One other ingredient is absolutely essential: a strong, vibrant 

system of housing finance that can ensure a steady flow of 

affordable mortgage funds to prospective homeowners and 

those seeking to refinance. Following the recent housing 

market crash and the ongoing challenges that creditworthy 

prospective homebuyers face in accessing mortgage 

credit, a sound housing finance system will be of primary 

importance to support and sLlstain homeownership going 

forvvard. 
183 


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184 


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Meeting our nation's diverse housing needs will require a 

strong and stable system of housing finance. This system, 

when functioning at its full potentia!, can offer millions of 

Americans and their families the opportunity to choose 

the type of housing that best meets their unique needs. 

Whether it is the recent graduate entering the workforce, the 

working couple with children seeking to purchase a home 

for the first time, the young single looking for an affordable 

apartment in the central city, or the retired widower hoping 

to downsize from his three-bedroom home, it is the housing 

finance system that helps transform these aspirations into 

concrete realities. A successful housing finance system 

maximizes the range of ownership and rental housing 

choices available to us at aU stages of our lives, 

In many respects, the housing finance system IS also a 

key part of the economy's plumbing, a complex series of 

financial pipes and drains through which capital flows to 

both the single-family and rental segments of the housing 

market. Without the liquidity provided by this system, 

mortgage lendlng would be scarce and more expensive, 

new homebuilding would staB, the construction of new 

apartment units and preservation of existing units for our 

nation's burgeoning renter population would slow down, and 

our economy would suffer. 

's 

Our nation's housing finance system is complex, varied, 

and global in scope. As Figure 3-1 below demonstrates, 

it consists of banks, thrifts, mortgage brokers, and other 

originators of mortgage loans; organizations that service 

the loans on behalf of the originators; public and private 

institutions that buy the loans and then pool them into 

securities; and institutional and individual investors who 

purchase these securities in the secondary market. 

A key feature of our housing finance system is the critical 

role of securitization. By taking loans off the balance sheets 

of banks and other mortgage originators, the securitization 

process frees up additional capital for mortgage lending. 

It also shifts some of the risks inherent in the mortgages 

to the investors in the mortgage-backed securities who 

are w!l!ing to assume these risks in return for a yield that 

may be higher than that of other investments. In this 

way, securitization helps circulate funds from a variety of 

domestic and international sources into the mOltgages that 

finance housing for millions of American families. 

Our housing finance system is the largest in the world, 

with almost $10 trillion in single-family mortgage 

debt outstanding'" and $825 billion in mortgage debt 

outstanding in the multifamily sector:" To put these figures 

Figure Simplified View of the Single-Family Housing fInance System 
185 


80871.138

Chart Holders of M.ortgage Debt Outstanding, 2012 Third Quarter 

in perspective, the size of the U,S. single-family mortgage 

market exceeds the entire European market and is nearly 

six times larger than that of the United Kingdom, which is 

home to the world's second-largest single~family market. 

The sheer size of the U.S. mortgage market requires that we 

retain diverse sources of mortgage credit. In 2006 and 2007 

the amount of outstanding mortgage debt exceeded the total 

value of all assets held by U.S. banks. Today, outstanding 

mortgage debt nearly equals the total value of the assets on 

l!IFannie Mae and Freddie Mac* 

Ie Commercia! banks 

t'i Ginnie Mae mortgage pools or trusts 

Wi Private mortgage conduits, mortgage pools 

or trusts 

1M Individuals and others 

1iJ! Savings institutions 

t' Other federal and related agencies 

!H Life insurance companies 

banks' books and is held by a diverse array of entities and 

institutions (see Chart 3-1). For the foreseeable future, there 

is simply not enough capacity on the balance sheets of 

U.S. banks to allow a reliance on depository institutions as 

the sale source of liquidity for the mortgage market. Given 

the size of the market and capital constraints on lenders, 

the secondary market for mortgage-backed securities 

must continue to playa critical role in providing mortgage 

liquidity. 
186 


80871.139

The Great Depression was a watershed period in the history 

of housing in the United States. Up until the mid-1930s, 

residential mortgages generally had short terms (usually 

three to ten years), variable interest rates, and featured 

"bullet" payments of principal at term. Borrowers would 

normally refinance these loans when they became due or 

payoff the outstanding loan balance. At the time, large 

down payments were common, and mortgages typically had 

very low loan-to-value (LTV) ratios of 60 percent or less.' 

The homeownership rate, however, was significantly lower 

than it is today-around 45 percent, compared with 64.6 

percent--as fewer families had the financial wherewithal 

to enter into mortgages with these more stringent terms. 

Homeownership was generally reserved for the wealthy or, 

in rural areas, for those who lived on and farmed their land. 

As the Great Depression swept the nation, housing values 

declined by as much as 50 percent. Banks that held the 

mortgages on these homes refused to or were unable 

to refinance when the loans came due. Thousands of 

borrowers then defaulted, hC:lVing neither the cash nor the 

home equity available to repay the loans. The consequence 

was a wave of about 250,000 foreclosures annually between 

1931 and 1935.·' 

In response to these events, the federal government 

established the Federal Home Loan Bank system in 1932 

to increase the supply of mortgage funds available to local 

financial institutions c:md to serve iJS a credit reserve. Two 

years later, in 1934, the government created the FHA to 

help stabilize the mortgage market through its insurance 

programs. By insuring only mortgages that met certain limits 

on the maximum principal obligation, interest rate, LTV ratio, 

and loan duration, the FHA helped set the foundation for 

the modern standardized single-family mortgage." In 1944, 

the government established the VA loan guarantee program, 

similar in approach to the FHA loan-level insurance 

programs but targeted to helping military veterans and their 

families secure homeownership. In the years following World 

War II, the homeownership rate rose steadily, from 43.6 

percent in 1940 to 55 percent in 1950 and to 66.2 percent 

in 2000, iJS measured by the Decennial Census. 

In addition to ownership housing, the FHA also provides 

credit support for multifamily rental housing through a 

separate reserve fund first established by the National 

Housing Act of 1938. The FHA's authority to support 

multifamily housing was not widely exercised until the 

19605 when several programs were created to encourage 

the construction and preservation of rental housing for 

moderate-income households.''? 

In 1934, the government also <1uthorized the FHA to create 

national mortgage associations to provide a secondary 

market to help mortgage lenders gain access to capital 

for FHA-insured loans. Only one such association was 

established, when the FHA chartered the Federal National 

Mortgage Association in 1937. In 1968, the Federal 

National Mortgage Association was partitioned into two 

separate entities-the Government National Mortgage 

Association, or Ginnie Mae, which remained in the 

government, and Fannie Mae, which became a privately 

owned company charged with the public mission of 

supporting the mortgage market by purchasing conventional 

(i.e., non-government-insured) mortgages. Until the 1980s, 

Fannie Mae carried out its mission by issuing debt-first 

as a government agency and after 1968 as a government· 

sponsored enterprise (GSE)-and using it to buy mortgages 

from their originators. In 1970, the secondary market grew 

with the creation of Freddie Mac, which was initially owned 

by the Federal Home Loan Banks and, with passage of the 

Financiallnslitutlons Reform, Recovery and Enforcement 

Act (FIRREA) in 1989, reorgiJnized as a priviJte, for-profit 

corporation with a charter similar to that of Fannie Mae.'~: 
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Over the years, Fannie Mae, Freddie Mac, and Ginnie Mae 

helped bring greater transparency and standardization 

to both the single-family and multifamily housing finance 

system, which has lowered mortgage costs. By setting clear 

benchmarks for loans eligible for securitization, the three 

institutions also helped improve the overall credit quality of 

the system. Moreover, by linking local financlal institutions 

with global investors in the secondary market, they helped 

expand access to mortgage credit. 

However, the companies' role was a sore point for the 

lending industry almost from the start. Acting as a giant 

thrift, Fannie Mae profited from the spread it earned 

betvveen its cost of funds, which was lower than other 

private companies because of its government ties, and 

the interest rates on mortgages. The creation of the first 

MBS by Ginnie Mae in the 1970s led Fannie Mae and 

Freddie Mac, and then private Wall Street firms. to engage 

in securitization. Depositories viewed Fannie Mae as a 

competitor for balance-sheet lending, and, LIfter MBS 

became the prevalent funding source, private-sector 

competitors likewise SLlW the GSEs as unfairly competing 

with them in the securities markets. Both institutions 

did enjoy a number of benefits because of their unique 

charters, including a line of credit with the U.S. Treasury, 

exemptions from certain state and local taxes, which 

provided favorable treatment for their portfolio business, and 

most importantly, an implied government guarantee of their 

securities as wei! as their own corporate debt. In return, 

the charters restricted Fannie Mae and Freddie Mac only 

to residential mortgage finance in the United States, and 

the companies were expected to support mortgage markets 

throughout all market cycles, an obligation that did not 

apply to other fully private investors or guarantors. 

In the wake of the Savings and Loan crisis in 1989, 

Congress imposed new capital requirements and 

strengthened the GSEs' mission requirements. But the 

pressure to deliver returns to shareholders, along with the 

mistaken view shared by actors throughout the mortgage 

market that housing prices would continue to rise without 

interruption, encouraged Fannie Mae and Freddie Mac 

to leverage their businesses to unsustainable !evels. With 

insufficient capital buffers, both institutions suffered 

catastrophic losses when the housing market collapsed and 

the credit markets froze, leading to their conservatorshi p by 

the government in 2008, 

Notably, during the housing crisis, the multifamily 

businesses of Fannie Mae and Freddie Mac continued to 

generate a profit for both institutions, as the default rates 

on their multifamily loans were substantially lower than 

the loans in their single-family portfolios. It is also worth 

noting that the 12 Federal Home Loan Bank cooperatives, 

which were designed to provide countercyclical liquidity for 

U.S. mortgage and housing market pLlrticipants, remained 

a reliable source of liquidity for their more than 7,700 

member institutions during the crisis. The Horne Loan 

BLInks provide LI reliable flow of funds and liquidity to local 

lenders for housing and community development through 

advances funded by debt the banks issue and collateralized 

by mortgages or mortgage bonds exchanged by members in 

return for the advances. In late 2008, while other sources of 

credit froze, Federal Home Loan Bank advances increased 

by $400 billion (reaching $1 trillion) as the Home Loan 

Banks continued to support their members' participation in 

the housing market. 

Despite our current difficulties, households in the United 

States have enjoyed a wider range of mortgage financing 

options than those in most other nations of the world. For 

instance, the most common mortgage product in the United 

States-the long~term, fixed~rate mortgage-is relatively 

rare in other countries where shorter~term and variablerate mortgages are the norm. The long-term, fixed~rate 

mortgage has been a tremendous boon to consumers who 

are provided with cost certainty and protection from the 

risks associated with fluctuating interest rates, The process 
188 


80871.141

System 

Over the past several decades, the American people,have 

provides a long amortization period th,at helps to keep 

monthly payments low and proviaes certainty to borrowers 

by protect1ng them against interest rate volatility over thR 

nfe of the Joan, While in recent years interest rates have 

making mortgage fInancing more expensive. A fong~term} 

fixed~rate mortgage proJects against these fluctuations and 

gives borrowers:a clear'sense of their monthly repayment 

obligations and the assurance that this obligation wll1 not 

change dramaticaUy dver time, 

T~e 30-year fixed-rate. mortgage also enhances the stabliity 

borrower. Long·term, flxed~rate 

risk from borrowerS to lenders 

than the average borrower household.': The presence of a 

government guarantee in the secondary market ~nsuring 

that Investors wiJi be paid even jf borrowers defa,ult orr tneir 

loans has eliminated much of the credit risk from these 

investments, thereby mElking them attractive to investors 

wilHng to assume both fnterest rate and credit risk, making 

long-term, fixed~rate financing considerably Jess avaHable th§lll 

it is today or only available at higher mortgage 

The 30-year fixed-rate mortgage has enabled mIllions 

of Americans families to achieve their dreams of 

homeownersh'lp, The <;-ommission endorses product choice 

and strongly beheves this type of mortgage product snould 

continue to be available to a broad universe of qualified 

borrowers. 

of securitization has played an instrumental role in setting 

the standards for these mortgages and making them widely 

available on affordable terms for millions of American 

families. By taking individual mortgages-inherently 

illiquid and difficult-to-price assets-and combining them 

with millions of other loans in stable securities based on 

cash flows from a broadly diversified portfolio of assets, 

securitization has opened the residential finance market to 

investors who otherwise could not participate in this market. 

The flow of cash has helped fuel one of the most stable, 

transparent, and efficient capital markets in the world and 

assured American consumers of a steady and reliable 

source of mortgage credit. 

In the wake of the collapse of privately funded and 

nongovernment-insured mortgages, the federal government 

has emerged as a dominant presence in the housing 

finance market, a role it has played before when private 

capital has fled the mortgage market As Charts 3-2 and 

3-3 show, the federal government currently insures and 

guarantees the largest share of mortgage-backed securities 

and assumes the major portion of credit risk in the U.S. 

mortgage market 

In 2011, securities backed by Fannie Mae, Freddie Mac, 

and Ginnie Mae (with credit insurance from the FHA and 

the VA) constituted 97 percent of all MBS, with non-agency 

funds less than 3 percent. By comparison, Fannie Mae, 

Freddie Mac, and Ginnie Mae accounted for 78 percent 

of the MBS market in 2000, with non-agency funds at 

22 percent. The chart also shows that government and 

GSE shares of MBS remained relatively steady through 

the 1990s, a period of strong economic growth and stable 

interest rates. 
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Chart 3·2: Mortgage·Sacked Sec",i!ies - Markel Share, 1990102011 

~-Fannie Mae & Freddie Mac ~-Ginnie Mae ''''C~''''''Non¥Agency 

80% 

70% 

60% 

50% 

40% 

30% 

20% 

10% 

0% 

1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 

Source: Bipartisan Policy Centertablliations ofdJta fram Inside Mortgage Fini'lrlC8, "Mortgage ilnd Asset Securities Issuance,' inside MBS & ABS. 

The same general situation is true for all mortgage 

originations (whether originated to be held in portfolio or 

sold into the MBS market). Chart 3-3 shows that, in 2010, 

private-seetor-related originations including jumbo loans, 

loans originated for private-label securities, and adjustablerate mortgages (ARMs) to be held in portfolio constituted 

only 12 percent of originations (compared with 53 percent 

in 2000 and 44 percent in 1990), while FHA/VA loans and 

Fannie Mae and Freddie Mac conforming loans constituted 

88 percent of originations (versus 47 percent in 2000 and 

56 percent in 1990), 
190 


80871.143

Chari 3-3: Morlgage O,igin"lions by Product, 1990102010 

1990 1996 2000 2006 2010 

--Conforming/Fannie Mae & Freddie Mac--FHANA ~N ''''Jumbo/private labe!"""""""""ARMs held in portfolio 

70% 

1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 

$:Jure",: BiD~rt's:m PolICY Center tabulations of data from Inside Mortgage Finance, "Mortgage Ongll1J\lDns by Product' Jnd v ARM SecuritizatIOn by M BS Type ,. 

While there are nascent signs that we have turned a corner, 

the U,S. system of single-family housing finance continues 

to face serious challenges as significant problems related to 

the Great Recession persist. Sustained high unemployment, 

an unprecedented collapse in house prices-especial!y in 

certain highly affected states and metropolitan areas-the 

large volume of foreclosures, and a prolonged foreclosure 

process in some states continue to stand in the way of a full 

market recovery. 

Further, while in most of the country the cost of buying a 

home has never been more affordable, stringent undervvriting 

requirements prevent many would-be borrowers from taking 
191 


80871.144

advantage of these condttions. As illustrated in Chart 3-4, 

borrowers' credit scores at origination have increased by 40 

to 50 points since 2001. 

Today, a number of obstacles prevent a return to the 

conditions that prevailed in the late 1990s-before lax 

underwriting infiltrated the system and contributed to 

the crisis-and stand in the way of qualified borrowers 

accessing mortgage credit. Unprecedented investor 

demands placed on originators and sellers of mortgages 

have caused lenders to be increasingly cautious when 

considering new mortgage applications, and sales of new 

and existing homes remain well below historic levels going 

back several decades. 

Chari Borrower FiCO Score at Origination 

The commission has identified the following obstacles that 

are making it difficult for qualified borrowers to obtain a 

mortgage and are therefore impeding a full market recovery: 

1. Overly strict lending standards. Sales of new and existing 

homes remain well below historic levels going back 

several decades. Observers attribute the decline in home 

sales, in part, to unnecessarily rigid down payment, 

debt-to~income, and credit score requirements that 

were imposed in the aftermath of the housing market's 

collapse. Restoring the appropriately conservative 

underwriting standards in place before the housing 

bubble, with their focus on the overall creditworthiness 

--Fannie Mae """"""'"'Freddie Mac --FHA/VA 

780 

760 

740 

720 

700 

680 

660 

640 

620 

600 

580 

2001 2002 2003 2004 

Soufce.CorelogIC, 1010Data, AmherstSecuritresGroup 

2005 2006 2007 2008 2009 2010 2011 2012 
192 


80871.145

of the borrower, could help to improve the health of the 

housing market. 

2. Lack of access to credit for well-qualified self-employed 

individuals. Self-employed borrowers face unique 

obstacles to providing income documentation Jnd 

meeting other criteria required to qualify for a mortgage 

under current underwriting standards. Adjustments 

to these criteriJ could be made to acknowledge these 

limitations and provide access to credit while ensurinG 

thJt lenders do not take on unnecessary risk. I::> 

3. Put-back risk. Fannie Mae, Freddie Mac, and the FHA 

hold lenders liable for representations and warranties 

associated with loans purchased by the agencies for J 

finite amount of time following origination. In the event 

of a default during that period, lenders may be required 

to buy back the delinquent loan. This retained risk is an 

important tool for ensuring that loan originators comply 

with the credit terms promulgated by the three agencies. 

But, uncertainty surrounding the circumstances around 

which this "put~back" option will be exercised has 

dampened lending and caused some lenders to impose 

additional requirements, or lender overlays, to existing 

agency underwriting criteria in order to further insulate 

themselves from potential hJbilities. 

Guidance issued by the Federal Housing Finance Agency 

(FHFA) effective January 2013 helps to address some 

of these concerns by clarifying "lenders' repurchase 

exposure and liability," including promising earlier review 

of loans and providing relief from representations and 

warranties following 36 months of consecutive ontime payments. "\ While this guidance is an important 

start, and provides partial reHef, several factors limit its 

effectiveness in stimulating new lending. For example, 

when determining lender eligibility for relief from put-back 

risk, the new framework takes into consideration borrower 

performance over a period of up to 60 months following 

acquisition of the 10<Jn by Fannie Mae and Freddie Mac. 

Some have argued that the 36-month and 60~month 

timeframes are too long, and any delinquencies beyond 

the first year following origination are likely to reflect 

changes in borrower circumstances (rather than the 

borrower's position at origination). In Jddition, the 

guidance does not apply to mortgages originated in 

2012 or prior years and thus does little to relieve banks' 

concerns about exposure from these loans, Close 

attention should be paid to lenders' evolving practices 

and adjustments to these new guidelines. It is critical that 

regulators strike the right balance between giving lenders 

assurance that their liability is limited when selling 

loans into securities and ensuring that credit guarantors 

have the right tools with which to enforce their credit 

standards. 

4. Appraisals. The sa!es price of distressed or foreclosed 

homes-whether disposed of through one-off deals 

or bulk sales-tends to be substantially lower than 

traditional (non-distressed) sJles, often as a result of 

the increased time and risk associated with distressed 

sales, differences in the condition of the property, and the 

seller's interest in completing the transaction, However, 

distressed property sales continue to be recorded and 

used JS comps in appraisals of non-distressed (retail) 

properties, a practice that depresses local home values 

and impacts would-be homebuyers' ability to secure 

financing. In some markets. demand for multiple 

reappraisals, sometimes just days before closing, also 

introduces substantial uncertainty into the home-buying 

process and can derail sJles and disrupt the plJns of 

home buyers and sellers. To remedy this situation, Fannie 

Mae, Freddie Mac, and FHA could refuse to accept 

distressed sales as valid camps, forcing a reassessment 

of non-distressed properties. In markets that do not have 

sufficient sales volume to allow comps to be calculated 

without the inclusion of distressed sales, an alternative 

approach might be to require an addition to the value of a 

distressed sale based on the difference betvveen the local 

market index of distressed sales versus retail sales, 
193 


80871.146

5. Application of FHA compare ratios. An FHA "compare 

ratio" provides an indication of a lender's loan 

performance relative to other FHA lenders in a particular 

market. For example, if a lender has a compare ratio of 

50, its default rate on FHA loans is only half the default 

rate for all lenders in that area. On the other hand, a 

ratio of 150 would mean that tile default rate is oneand-a-half times that of other FHA lenders in the area. A 

high compare ratio may result in an enforcement action 

against a lender with the lender losing the ability to close 

FHA loans. Lenders with relatively high compare ratios 

typically attempt to lower the ratio by imposing tighter 

underwriting standards, which in turn has a cascading 

effect on other lenders in the area who must resort to 

similarly restrictive lending practices in order to maintain 

their relative position. While compare ratios serve as a 

useful analytical tool, the current application of the ratios 

may have the effect of tightening credit by FHA lenders to 

creditworthy borrowers. FHA should reconsider the way 

in which compare ratios are applied to ensure they do not 

unduly restrain credit and provide an accurate reflection 

of lender performance~both in originations and in 

servicing practices-in the current market. 

6. Uncertainty related to pending regulations and 

implementation of new rules. In the past few months, 

several important federal rulemakings related to the 

U.S. mortgage market have been finalized while other 

proposed rules are still pending. These new and 

pending rules have the potential to significantly affect 

home finance in the United States. Lenders report that 

uncertainty as to their impact has led them to exercise 

caution and pull back on new mortgage originations for 

all butthe lowest-risk borrowers. In addition, the potential 

impact of Basel III on the housing finance market is 

significant and not fully understood or appreciated. Policy 

makers deserve a much fuller understanding of how the 

current regulatory environment impacts mortgage lending 

as well as how the various regulatory initiatives now under 

consideration interact with each other. 

In light of the seriousness of the current situation, 

the commission suggests that the President of the 

United States direct the Department of the Treasury, in 

coordination with the various federal banking agencies, 

to inventory these regulatory initiatives and assess their 

current and likely future impact on the affordability and 

accessibility of mortgage credit. The Treasury Department 

should report back to the President without delay not 

only with this assessment, but also with a plan to align 

these requirements as much as possible to help get 

mortgage credit flowing again. A top official within the 

Treasury Department or in the White House should be 

tasked with day-to-day responsibility for coordinating the 

implementation of this plan. 

Over the longer term, the future of the primary and 

secondary mortgage markets is even more uncertain. Many 

proposals put forth to date have laid out detailed plans 

for reform, but have failed to consider the fundamental 

underlying question: "What kind of housing system do we 

want?" In the following section, we set forth a longer-term 

vision and structure for a redesigned system of housing 

finance in which the federal government remains an active 

participant. but the private sector plays a far greater role in 

bearing credit risk. 
194 


80871.147

The recent crfsi's exposed majOr deficiencies in our system of 

housing finance. At the height of the bubbie, excess Hquidlty 

overWhelmed the systE;m as trMltional undenNntlng standards 

See Chart 3-5 for an illustration ofihe reiahvely low default rate 

over time for loans originated in 2000. 

were abandon~ and mortgage credit became widely available to Home purchase education altd counseling must become a 

large numbers of bor(owers who were IH·prepared to assume these 

obligations. !n some instances, the obligations Were not disclosed 

to borrowers in a fully transparent manner tnat would have allowed 

for an assessment of a mortgage's true cost 

At the same time, private lenders substantially underpriced the 

risk of mortgage credit white government reguiators failed to keep 

pace with and adequately monitor new pnvate-sector lend mg. 

securitization, and hedging practices. TI~ls regulatory failure 

their leverage to unsustainable levels 

As we deSign a' housing finance system for the future, we should 

be inindful of the lessons learned over the past decade, These 

lessons mcfude: 

ability to repay a'mortgage loan based on such tradit,onal factors 

as mcome,' assets, current oebt, and credit history. The interests 

of lenders, borrowers, and investors should be aligned to, assure 

years leading up to the houslhg crisis', some 

the system less sta ble by transferrtng risk to bonower€ tl)fough 

mortgtlge products with shorter durations, adjustable rates, higher 

costs, and lessAhan~tcanSlJacentt'lCms. 

of this behavlOf, the government has an 

In inonitoring developm~mts In the'rnarket on a real-time basis; 

ensufu:g transparency; establishing clear rules of the road, so 

lenders understand the standards they Deed to meet and the 

penalWJs for faillhg to do so: and protecting consumers, investors, 

and the market's ongorng stability. 

ahead, the government's support for the housing fmance system---

whether through Insurance at the joan level or guarantees In the 

secondary market for mortgage-backed securitles-shoyld be 

deSigned with taxp,Cl.yer'protectlon as $ Critical goal 

that all Our housing fmance system must be rffsilient enougll to weathff 

prudent factors. the ineVitable Pt,rlods when the housing market takes a downward 

lax Ih the years leadmg up to t~e, foreclosure cnsis, the pendulum 

has now ,,>wung too far In the oppOSite direction. Returrung to the 
195 


80871.148

DlrCC!le,ns 

Chart 3·:5: Fann!e Mae Cumulative Default Rates of Slngle~family loam by Origination Year 

12% 

redesigned system Df housing finance must contain safeguards 

that WllJ allow the market to remain stable and continue as a 

sourced mortgage liquidity. even when these counter-cyclical 

periods'occur. 

A redesigned housmg finance system should also adhere to sound 

principles of regulation. See Text Box, Developing Sound Pril1ciples 

of Regulation, page 53, 
196 


80871.149

The current structure of the single-family housing finance 

system was largely patched together to keep mortgage 

credit flowing during the crisis. Almost all of the credit risk 

in the system is currently borne by the federal government, 

and a large portion of this government support is delivered 

through the conservatorship of Fannie Mae and Freddie 

Mac. Dynamic and flexible reform is needed, over a 

multiyear period, with a smooth transition to this new system 

in which private capital takes on a larger share of the credit 

risk. 

The increase in the role for private capital would be 

accomplished in two ways. First, a gradual reduction of the 

loan limits for government-guaranteed mortgages would 

help to rebalance the distribution of mortgages held in the 

purely private market and those covered by a government 

guarantee. Ultimately, we anticipate that fewer loans 

will be eligible for a government guarantee. Second, the 

commission's recommendations call for the elimination of 

the Fannie Mae and Freddie Mac model over an appropriate 

phase-out period-replacing them with a new government 

entity, the "Public Guarantor," which would provide a limited 

and explicit government guarantee for catastrophic risk for 

certain mortgage-backed securities. Adequately capitalized 

private credit enhancers would bear all losses ahead of the 

government guarantee. 

Similar to the model currently employed by Ginnie Mae, 

lenders approved by the Public Guarantor would issue 

mortgage~backed securities that would be placed into 

designated monthly pools for which the Public Guarantor 

would provide a common framework, or shelf.;" Private 

issuers would decide whether to retain or sell off the 

servicing rights associated with loans backing the MBS 

and choose how to cover the credit risk, including through 

arrangements with weH-capitalized private credit-enhancing 

institutions. As noted above, private credit enhancers of 

M BS would bear the predominant loss risk in the event of a 

market downturn, while the Public Guarantor would provide 

a wrap for the timely payment of principal and interest 

by the servicers of the MBS (similar to the wrap presently 

provided by Ginnie Mae) and bear the catastrophic risk in 

the event of borrower default and the failure of the privatesector credit-risk bearers. Servicers would look first to the 

private credit enhancers for reimbursement of advances on 

defaulted mortgages. Only upon failure of a private credit 

enhancer would the government guarantee be triggered. 

The commission's proposed model includes a continued, 

but limited, role for the federal government to guarantee 

MBS to ensure mortgage market liquidity and stability, with 

a large role for private capital to assume credit risk and 

shield taxpayers from exposure to credit losses. The overall 

structure of the new model is intended to avoid the recreation of a small number of entities viewed as "too big to 

faW' or as enjoying an "implied guarantee," Our new model 

clearly delineates the respective roles of the government 

and the private sector, and establishes a clear expectation 

that private firms suffer the consequences of poor business 

decisions by losing their capital, with no bailout for private 

shareholders or bondholders. The government would 

cover losses from an account pre-funded by payments 

of a separate catastrophic guarantee fee, but only after 

private credit enhancers have exhausted their own capital 

and reserves. The Public Guarantor must playa strong 

role as regulator of the new system, including establishing 

sound prudential standards for private-sector entities and 

structures that are permitted to participate in this system as 

originators, servicers, or credit risk bearers. 

The following sections provide more detail on the policy 

objectives underlying this proposal, outline the key functions 

for this new structure for single-family housing finance, 

illustrate how the various elements of the system work 

together, and discuss the importance of a dynamic flexible 
197 


80871.150

transition and some type of countercydical buffer, The goa! 

is to create a redesigned housing finance system that wlll 

continue to support the opportunity for homeownership 

and access to mortgage credit for creditworthy borrowers 

in all communities across the country. These proposals 

for single-family housing finance, taken together, set forth 

the commission's primary recommendations related to 

continuing homeownership as an ongoing, viable choice for 

the nation's housing consumers. 

In order to meet the nation's housing finance needs and to 

provide access to mortgage credit for qualified borrowers, 

the future systern of single-familY housing finance should 

have five primary policy objectives: 

The elimination, phased out over an appropriate period 

of time, of Fannie Mae and Freddie Mac, 

The mode! of a private company with publidy traded stock 

and an implicit government guarantee did not work. Fannie 

Mae and Freddie Mac should be phased out and replaced 

with a new Public Guarantor, described below. 

A far greater role for the private sector. 

The private sources of capital that are available today would 

continue in this new redesigned housing finance system. 

These sources of capital indude a private secondary market 

for mortgages (private-label MBS without any government 

guarantee), jumbo loans originated and held in portfolio or 

sold by private lenders, adjustable-rate mortgages originated 

and held in portfolio by private lenders or sold into the 

secondary market, and other product offerings outside of 

the government guarantee. Competition among banks of 

all sizes and a regulatory environment that encourages 

community banks, credit unions, and smaller financial 

institutions to originate and hold loans and participate in the 

secondary market, are all essential elements in this system. 

While lenders should be able to originate and hold 

adjustable-rate and fixed-rate mortgage loans in portfolio, 

backed by appropriate capital, a strong private secondary 

market is essential to an adequately liquid housing finance 

system. In recent years, the amount of outstanding 

mortgage debt has equaled or exceeded the total value of 

assets held by U.S. banks. Funds available through the 

banking system must be supplemented with additional 

sources of capital (e.g., securitization) to create the capacity 

to meet the demand for mortgage credit. 

A continued but limited role for governmentguaranteed MBS. 

While private capital must playa greater role in the singlefamily housing finance system, including in the market 

currently dominated by government-guaranteed MBS, a 

government-guaranteed secondary market is essential to 

ensuring adequate liquidity, Even in 2006, when private-label 

securitization was at its peak, non-agency funds (many of 

which were backed by unsustainable mortgages) constituted 

only 56 percent of the market. Moreover, absent government 

involvement, the To-Be-Announced (TBA) market-which 

provides a forvvard commitment market for consumers, 

lenders, and investors-might be unable to function, and 

many of the benefits associated with the standardization of 

mortgage products would be lost. See Text Box, The To-BeAnnounced (TBA) Market. page 52. 

Moving forward, however, the government guarantee that 

wraps or covers MBS must be fully funded and its scope 

limited to protecttaxpayers. Key characteristics of this new 

government guarantee include: 

• Applies only to catastrophic risk. The government 

guarantee is triggered only after private-sector entities 

in the predominant loss position have fully exhausted 

their own equity capital to make timely payment to 

compensate MBS issuers for credit losses. 
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80871.151

SystPlll 

• Is explicit and actuarially sound. The government 

guarantee is fully funded and premium collections exceed 

expected claims (with a safe reserve cushion). 

• Applies only to mortgage-backed securities. The 

government guarantee would not cover the equity or debt 

of the entities that issue or insure MBS. 

the forward trading of MBS issued by Gin~ie M,ae, Fannie 

Mae, and Freddie Mac by creating parameters tinder which 

mortgage pools can be considered fungible:On the trade 

date, only six critena are agreed upon for the security or 

secunties tha~ are to be delivered: issuer, maturity, coupon, 

face value, price, and the 'Settlement date. Investors can 

commit to buy MBS tn advanqe because they know the 

genera! parameters of the mortgage 

seJi their loan production on a forward interest 

rate risk inherent in mortgage lending, and lock 1n rates fSlf 

borrowers, 

The TBA market IS a benchmark for all mortgage marketsand products are 

consequently the 

mortgage loans, enabling large 

blocks of securities in a short time period, the liquidity 

The housing finance system should be designed to support 

liquidity for a wide range of safe and sustainable mortgages 

to low~ and moderate~jncome households without regard 

to race, color, national origin, religion, sex, familial status, 

or disability, consistent with sound underwriting and risk 

management To help achieve this objective, all participants 

in the housing market should support and reaffirm the 

principles of the Fair Housing Act of 1968, as amended. 

See Text Box, PrinCiples for Access to Credit, page 66< 

A continued but more targeted role for the Federal 

Housing Administration (FHA).1-5 

The FHA has traditionally been an important provider of 

mortgage liquidity to first-time homebuyers and borrowers 

with limited savings for down payments. As we have 

seen over the past few years, it also plays a critical role 

in ensuring the continued flow of credit during periods of 

economic crisis. While its expansion was appropriate to 

keep credit flowing during the recent downturn, the role 

of the FHA in the single-family mortgage market should 

contract as the market recovers, Tools for achieving 

such contraction and returning FHA to its traditional role 

could include lower loan limits and increased insurance 

premiums. 

These five policy objectives. provide the framework for the 

more detailed recommendations that follow. However, before 

outlining the specific elements of our recommendations, the 

commission wishes to stress the importance of the broad 

policy objectives. Details are obviously very important, but 

we do not want to get lost in them. The first essential step to 

reforming our nation's housing finance system is achieving 

bipartisan consensus on the fundamental objectives we are 

Access to safe and affordable mortgages for borrowers trying to achieve. The commission recognizes there may 

in all geographic markets through complete economic be sound alternative approaches to achieving the same 

cycles, without discrimination, bias, or limitations not objectives. 

based on sound underwriting and risk management. 
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80871.152

Af! stages Gftlle process should reinforce the obligation of 

the mortgage borrower to pay back the mortgage debt and 

the consequences of failing to do so, 

fenders to undetvvrite loans based on 

to repay them~ A fundamental princrple of the residential 

mortgage finance system is that borrowers have a legal and 

rnortgage assets intended for securitization are essential. Since 

mortgage~backed securities are sold into and traded In natlonal 

markets, the assets that make up those secunties should be 

subject to rigorous national standards 

All partiCipants in the housing fmance system should have 

All 

moral obligation to repay the ?ebt and participants In the mortgage process (from sales to prlgination to 

Servicing to securitization) share a financiaJ'stake!n the loan and 

The obligation to repay does not diminish,when the value of the Its performance. 

underlying collateral goes down. 

borrowers do not have access 

to affordable mortgage credit. Household formation in the next 

decade will be dominated by households whose members are 

more Ifkeiy to be racial or ethnic minonties, have lower Ihcome, 

lack famify wealth for down payments, .and have less family 

experience with homeowners hip. The mortgage system needs to 

assess credit dsk with appropriate attention to compensating risk 

factors, historical performance of standard loans, and a greater 

understanding of nontraditional employment, 9redlt, and family 

structures and experienCes that are likely to be more prevalent 

With the rising population of new households. WIth appropriate 

dIsclosure, Jenders should be able to use nsk~based p'ncingto 

serve borrowers who have a blemished credit record in some 

areas and otherwise might not qualify for a loan: 

In this redesigned system of single~family housing finance, 

at least four key functions must be performed after 

the origination of a mortgage. These functions are (1) 

securitization; (2) servicing; (3) credit enhancement; and 

(4) government guarantee for catastrophic risk. 

1. Securitization. The process of securitization requires 

some entity or entities to issue the mortgage-backed 

securities. The issuers of securities can either be 

the lenders who originate the loans or other private 

institutions that buy loans from lenders and issue 

securities backed by these loans. 

UE'nders, Investors, and regulators should have access to 

sufficient mortgage data in order to assess and pric'e risk. and 

mortgage consumers should be provided with clear disclosures 

Disclosure a10ne will not 

CDnsumer'can sometimes be overwhelmed 'with information and 

disclosures, often at the last stage of seeking a loan, which can 

impede a proper understanding of mortgage terms. In addition, 

in some cases, the availabllity of only a limited number of 

mortgage vanables at the outset of a trade can actually serve to 

enhance liqUidity vvlthout significantly detracting from investors' 

access to data on the prIcmg, 

In marKets is critical to sound overslght and 

2. Servicing. The mortgage servicer is the company to 

which the borrower sends the mortgage payment. 

Besides collecting mortgage payments from borrowers 

and making the timely payment of principal and interest 

to MBS investors, the servicer is responsible for working 

with the borrower in case of a delinquency or default, 

negotiating the workouts or modifications of mortgages, 

and conducting or su pervising the foreclosure process 

when necessary. 

3. Credit enhancement. One of the most important elements 

of any new system is to ensure that private capital takes 

the predominant loss credit risk, and truly stands ahead 

of a government guarantee, and to carefully design and 
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3. RpfofiTling Our Nation's 

set capital and other requirements so that private entities 

are equipped to withstand even a severe downturn in 

the housing market through the use of private credit 

enhancers. -., Private credit enhancers either carry risk 

on their balance sheets, with appropriate offsetting 

capital, or transfer the risk to capital market participants. 

Credit-enhancement options include well-capitalized 

mortgage insurance, capital market mechanisms where 

the appropriate amount of capital required to withstand 

severe losses is reserved up front, or a premium-funded 

reserve model, where a premium-funded reserve is 

established. 

4. Government guarantee for catastrophic risk. A government 

guarantee for catastrophic credit risk would cover the 

timely payment of principal and interest on certain MBS 

only in the event that the private sector credit enhancer 

can no longer fund its obligation to reimburse the MBS 

servicer for credit losses on the pool of mortgage loans 

underlying the MBS. As noted above, such a guarantee 

would be explicit and paid for by premiums based on 

sound actuarial analysis. The guarantee would apply 

only to the MBS and would not apply to the equity or 

debt of the private institutions that issue them or to any 

insurers of the loans or credit enhancers. Further, a new 

or existing public entity would be established to maintain 

the standards for the limited government guarantee and 

to collect the premiums for a guarantee reserve fund. 

In this redesigned system, a single entity could fulfill more 

than one of these functions: For example, an issuer of 

securities could choose to retain servicing rights for the 

loans backing the MBS. However, in order to obtain "sale 

treatment" for accounting purposes (discussed below), 

issuers would not provide credit enhancement. Instead, they 

would engage separate, well-capitalized private institutions 

to take responsibility for the predominant credit risk 

associated with the loans that collateralize the M BS. 

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 

securltles include: 

• Obtain certification from the Public Guarantorthat it is 

qualified to issue M BS based on such factors as (a) ability 

to meet credit and capital standards and cover all of the 

predominant loss risk through a separate well-capitalized 

credit enhancer, and (b) capacity to effectively pool 

mortgages and compete in the housing market 

• Ensure that the guarantee fee is paid for and collected 

from the borrower along with all other fees (e.g., the cost 

of predominant loss risk protection) 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 TBA 

market (The originator of the mortgage can either be 

the issuer, if approved, or can sell the mOligage to 

another approved Issuer. The originator can also keep the 

servicing rights, if approved for this function by the Public 

Guarantor, or sell the servicing rights to another approved 

institution.) 

• Retain responsibility for representations and warranties 

under the terms specified by the Public Guarantor. 

In order to achieve "sale treatment," so the MBS will not 

be reported in the issuer's financial statements, the issuer 

must engage a third-party private credit enhancer. (In the 

context of a securitization transaction, "sale treatment" is an 

accounting term used to indicate that the seller of the nowsecuritized loans no longer reports the loans on its balance 

sheet.) This determination will require a judgment by the 

accounting profession that the expected loss in norma! 

economic cycles has been transferred to the private credit 

enhancer and the Public Guarantor, these counterparties 
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have the capacity to handle the credit risk, and the issuer 

and servicer of the security wi!! not be required to set aside 

capital to cover such risk. 

Under the commission's proposal, an approved issuer 

of MBS (generally the originator of the mortgage loan) 

should be able to "de-recognize" transferred loans from 

its balance sheet - that is, achieve sale accounting under 

U.S. generally accepted accounting principles. In addition, 

servicers operating as they do today should not have any 

duty to "consolidate" the loans that they service and the 

private credit enhancers should be able to manage any 

consolidation requirement without any detriment to the 

economics of the structure. 

Servicing 

Servicers wi!! need to be qualified by the Public Guarantor. 

Responsibilities of a servicer include: 

• 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. 

If the original issuer sells the servicing rights to another 

institution, all obligations move with the servicing to the 

new servicer, except the obligation for representations and 

warranties, In the event that a servicer fails, its servicing 

obligations will be transferred to a new servicer by the 

Public Guarantor. Losses due to default will continue to be 

covered by the private credit enhancer. 

DlrL!ctlun" NatlOl1d! 

Credit Enhancement 

The proposed single-family housing finance system 

depends on credible assurance that private institutions 

wiB bear the predominant 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 credit risk on the MBS 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 wil! 

be required to: 

• Provide regular reports to the Public Guarantoron 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 caH" to assure 

there are sufficient reserves to protect the government 

guarantee from being tapped except in extreme cases. 

Establish undervvriting criteria for the mortgages and 

mortgage pools they will be guaranteeing beyond the 

baseline underwriting criteria established by the Public 

Guarantor. 

Reimburse servlcers 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 !oan-by-!oan 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 assure that 

the interests of the private credit enhancer and servicer 

are fully aligned. If these contractual standards are 

violated, the private credit enhancer wi!! have the power 

to transfer servicing to another servicer. 
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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 margins 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;c' 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. In all cases, the Public Guarantor will carefully 

monitor capital requirements to avoid arbitrage, ensure 

that real capitJI is set aside up-front, and maintain the 

alignment of interests among all participants (issuers, 

servicers, and private credit enhancers) with the new 

limited government guarantee. 

These approaches to meet capital requirements are 

designed to ensure that private capital will stand ahead 

of any government guarantee for catastrophic risk. i'The 

essential question will be where to draw the line between 

predominant loss and catastrophic loss-often referred 

to as the attachment point. The Public Guarantor will 

determine this attachment point and establish the minimum 

capltalleve!s required to survive a major drop in house 

values resulting in significant mortgage losses. The Public 

Guarantor 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). 

Government Guarantee for Catastrophic Risk 

Under this 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 has been expended. Like Ginnie Mae, the 

government would be in the fourth loss position behind 

(1) borrowers and their home equity; (2) private credit 

enhancers; and (3) corporate resources of the issuers and 

servicers. h The government guarantee would be explicit 

fully funded, and actuarially sound, and the risk would 

apply only to the securities and not to the equity and debt 

of the entity or entities that issue and/or insure them. The 

functions of the Public GUarantor would include: 

• Guarantee investors the timely payment of principal and 

interest on MBS. 

Establish the level of capital necessary to ensure that 

private-sector participants in the housing finance system 

(issuers, servicers, and private credit enhancers) are aJ! 

properly capitalized. 

reimbursed for this pC'lyment by the pflV:lte Gredlt eni1Jl1cer. 
203 


80871.156

• Provide one common shelf for the sale of governmentguaranteed 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. For 

example, in October 2012, the FHFA laid out a plan to 

build a single securitization platform to serve Fannie 

Mae, Freddie Mac, and a post-conservatorship market 

with multiple issuers. This single platform could serve 

as the securitization framework for the Public Guarantor 

and operate as a public utility, providing an establlshed 

infrastructure for MBS guarunteed by the Public 

Guarantor or for private issuers of MBS. Development 

of this platform could build on the extensive intellectual 

and technological assets of Fannie Mae and Freddie 

Mac as they are phased out, providing taxpayers with a 

long-lasting dividend on the significant funds invested to 

support the GSEs' obllgations after 2008. 

• Create and enforce uniform pooling and seNicing 

standards governing the distribution of mortgage proceeds 

and losses to investors and ensuring compliance with 

relevant federal tax taws. The Public Guarantor could build 

on the work already begun by FHFA to develop a model 

pooling and servicing agreement. 

• 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. 

• Establish the guarantee fees (g-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. A reserve fund would be established for 

catastrophic risk that will build over time. (Other fees paid 

by the borrower would go to the issuer and the private 

credit enhancers to compensate them for issuing the 

securities and covering the predominant loss. These fees 

would be set by the private sector, but monitored by the 

Public Guarantor,) 

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 government-guaranteed secondary 

market. 

Ensure the actuarial soundness of the fund through carefu! 

analysis and the use of outside expertise, and report to 

Congress regularly regarding the financial condition of the 

fund. 

Qua/ffy private institutions to serve as issuers of securities, 

servicers, and private credit enhancers of MBS. The 

Public Guarantor will have the power to transfer servicing 

or credit enhancement to another servicer or credit 

enhancer (without compensation to the original servicer or 

credit enhancer) if it appears the government guarantee 

is put at risk. The Public Guarantor will also have the 

power to disqualify an issuer, servicer, or a private credit 

enhancer jf it determines that requirements and standards 

are not met. (Although the Public Guarantor does not 

stand behind these private institutions nor does it cover 

their debt or equity, it would have resolution authority.) 

Ensuring the common alignment of incentives among all 

private entities serving as counterparties to the Public 

Guarantor will be essential to protecting taxpayers. 
204 


80871.157

figure 3~2: Flow of Mortgages 

1. Borrower 

2. LenderlOrlginator 

3, Issuer of Securities 

7. To~Be~Announced (TBA) Market 

8. MBS Investors 

• Establish loon limits, under the direction of Congress, so 

that the loans backing the government-guaranteed MBS 

will be limited based on the size of Ule mortgage and any 

other criteria Congress may prescribe. 

• Set standnrds 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. 

A number of parties and institutions will be involved in this 

new housing finance system. They include (1) borrowers: 

(2) lenders/originators; (3) issuers of securities; (4) private 

credit enhancers; (5) mortgage servicers; (6) a Public 

Guarantor; (7) the TBA market; and (8) MBS investors. 

Figure 3-2 provides a schematic of the proposal showing 

the fJow of mortgages from the borrower to the investor. The 

steps involved in the process are outlinerl below with the 

text matching the numbers found on Figure 3-2. 

1. Borrower. The borrowers-Mr. and Mrs. Jones-are 

buying a new house and need a mortgage. They approach a 

local financial institution, XYZ Savings Bank. 

2. lender/Originator. XYZ Savings Bank meets with Mr. and 

Mrs. Jones (by phone or in person). After a preliminary 

discussion where they provide basic information, authorize 

a credit check, and discuss and decide on the terms of the 

mortgage, the loan officer provides them with a conditional 

approval and locks in a mortgage rate for a specific period 

of time. (Tile lender locks in the mte through the TBA 

market where an investor will provide them a forward 

commitment to purchase the mortgage as a part of an 

MBS.) XYZ Savings Bank then continues with the borrower 

to underwrite the mortgage, taking into consideration the 

standards established by the private credit enhancer and 
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80871.158

4. Private Credit Enhancer 

Reimbursement for timely 

payment of prmClpa! and Interest 

(P&I) and other costs If the 

borrower IS unable to pay 

the Public Guarantor. The XYZ Savings Bank funds the loan 

and puts it on its balance sheet temporarily. In connection 

with the loan's securitization. The bank will "de-recognize" 

the loan (remove it from its balance sheet). (XYZ Savings 

Bank could choose to sell the servicing rights to another 

lender.) 

3, Issuer of Securities. XYZ Savings Bank has been 

approved by ttle Public Guarantor to be an issuer of 

securities. XYZ Savings Bank prepares ttle loan to be part 

of a security and eventually pools the loan wittl other loans 

and issues the MBS. selling it to an investor through the 

TBA market (If it had not been approved as an issuer, XYZ 

Savings Bank would have needed to sell the loan to an 

approved issuer who would then pool Mr. and Mrs. Jones' 

loan with other mortgage loans.) The issuer is compensated 

for issuing and selling the security. 

4. Private Credit Enhancer, Before the loan is approved 

and closed, XYZ Savings Bank (as the issuer) must line up 

5, Mortgage Servicer 

For a summary of the 

relationships among the 

participants outlined In the 

proposal, see Figure 3-3. 

a private credit enhancer to cover the predominant loss 

credit risk-in this case, with ABC PrivLlte Credit Enhancer. 

The Public Guarantor has approved ABC Private Credit 

Enhancer based on its experience and ability to meet 

specific capital requirements and other credit standards. 

ABC PrivLlte Credit Enhancer can provide for the credit 

enhancement in a variety of ways. Multiple parties could 

also provide the credit enhancement as arranged by the 

Issuer and approved by the Public Guarantor. The private 

credit enhancer will receive an ongoing fee for providing this 

enhancement. 

5. Mortgage Servicer. Ttle lender/originator can either keep 

or sell the servicing. In ttlls case, XYZ Savings Bank decides 

to sell the servicing of Mr. and Mrs. Jones'loan to SERV 

Servicing, which has already been approved by the Public 

Guarantor. When SERV Servicing purchases the servicing 

from XYZ Savings Bank, it assumes all of the obligations of 

XYZ Savings Bank (with Ule exception of ttle representations 

and warranties under the loans in the MBS pool). As the 
206 


80871.159

servic€r, SERV Servicing will work with ML und Mrs. Jones 

to assure the timely payment at principal and interest. 

As long as SERV Servicing stays in business. it will be 

responsible for working with Mr. and Mrs. Jones on issues 

related to delinquency, default, and foreclosure. In the event 

of a delinquency or default. it wil! make the timely payments 

of principal and interest and then look to ABC Private Credit 

Enhancer for reimbursement. 

6. Public Guarantor. The Public Guarantor provides one 

shelf for all securities and Issuers of securities, oversees 

the process as the regulator. and qualifies the issuer, the 

servicer, and the private credit enhancer. It has established 

Flgur-e 3·3: Summary of Relationships Among Housing 

Finance System Parl!dpanb 

a fund to guarantee catastrophic risk and sets and 

collects premiums for the fumJ~in this case, premiums 

are collected each month through SERV Servicing. It also 

ensures that the fund is actuarially sound. 

7, To-Be-Announced (TBA) Market. The loan to Mr. und Mrs. 

Jones is dellvered as a part of a security issued by the XYZ 

Savings Bank to an investor--in this case, The Invest Co.-

utilizing the protocol outlined in the TBA market and agreed 

to by the savings bank and the investor. 

8. MBS Investors. The Invest Co. secures delivery of the 

MBS issued by XYZ Savings Bank, protected at three 

levels-the commitment of the servicer to provide timely 
207 


80871.160

payment of principal and interest, the private-sector 

guarantee provided by the ABC Private Credit Enhancer, 

and the guarantee for catastrophic risk provided by the 

Public Guarantor. Although The Invest Co. appreciates and 

benefits from the guarantee provided by ABC Private Credit 

Enhancer. Us willingness to buy the MBS is largely based on 

the government wrap and the liquidity that comes from the 

large volume of stJndJrdized securities (including the Jones' 

loan) that me issued on the single MBS platform managed 

by the Public Guarantor. 
208 


80871.161

Chrlptf-'r J 

While the new housing finance system described above wi!! 

minimize taxpayer risk, this protection wi!! come at the cost 

of higher mortgage rates for borrowers. Three factors will 

contribute to the added costs: 

1. The new housing finance system calls for a far greater 

role for the private sector in mortgage finance, with 

private capita! 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. 

2. The Public Guarantor will charge an unsubsidized fee to 

cover catastrophic risk should a private credit enhancer 

be unable to fu!fill its obligations to investors. 

3. 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 g-fee that is included in the mortgage rate. 

Analysis by Andrew Davidson & Co., !nc. using bNo research 

methods and a pool of nearly 5,000 conforming !oans 

originated in 2012 (which has a broader cross section of 

loans than the universe of Freddie Mac and Fannie Mae 

loans as a whole) provides a range of estimates of the 

possible costs of the commission's recommendations.~ 

Utilizing this pool of loans, Davidson & Co. estimates the 

g-fees paid by a borrower with no mortgage insurance (MI) 

will range from 59 to 81 basis points. This includes (1) the 

credit charges for the private sector to set aside capital to 

cover possible losses and a risk adjusted return-assuming 

no MI-estimated to be in the range of 45 to 67 basis 

points; (2) 8 basis points set aside for catastrophic risk to 

cover the Ilmited government guarantee; and (3) 6 basis 

points to pay for the operating costs of the Public Guarantor. 

By comparison, g-fees for mortgages currently guaranteed 

by Fannie Mae and Freddie Mac are in the range of 50 

basis points (including a 10 basis point charge paid to the 

U.S. Treasury to pay for the payroll tax deduction), and the 

borrower has to pay for MI if the loan~to~va!ue (LTV) ratio 

is above 80 percent. Given the very high quality mortgages 

currently served by the GSEs, the range of estimates in the 

Davidson & Co. study suggests----even accounting for the MI 

expenses-that the current g-fee may not need to rise for 

these high quality loans. However, the study does suggest 

that mortgage rates may need to increase by approximately 

25 basis points if credit is extended to a wider group of 

borrowers than currently served by the GSEs (which now 

have average FICO scores of 760 and LTV ratios of 68 

percent). Depending on market conditions and the credit 

quality of the mortgage pool, g-fees could be higher or 

lower. Also, increases in g-fees could be partlaHy (or fuHy) 

offset by the fact that these MBS would have an explicit full 

faith and credit guarantee. This analysis is consistent with 

reviews conducted by others, including the Federal Housing 

Finance Agency, which have suggested that housing finance 

reform will entail higher mortgage rates. 

These estimates assume a relatlvely stable housing market 

with modest growth in house prices as their base case. 

However, during weak economic periods of falling home 

prices or greater market uncertainty, the market price 

for credit guarantees would be higheL In addition, the 

modeling work found that while the g-fees for the private 

sector to set aside capita! to cover predominant loss across 

the entire sample pool, including the higher-risk segments, 

appear to be relatively moderate, these estimates mask 

considerable variation across borrowers, depending on 
209 


80871.162

Housing Future 

Chart 3-6: FHA and Fannie Mae/Freddie Mac loan Limits 

=i\0= FHA - High cost areas 

"""~Fannie Mae/Freddie Mac 

~~Fannie Mae/Freddie Mac - High cost areas 

-"FHA 

$800,000 

$0 

1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 

risk characteristics such as FICO scores and LTV ratios. 

For example, Davidson & Co. found that the credit cost 

fOf borrowers with FICO scores greater than 750 and LTV 

ratios below 80 percent could be less than 25 basis points 

a year, while the credit costs for borrowers with FICO 

scores below 700 and LTV ratios greater than 90 percent 

could be more than 10 times higher. 

A dynamic, flexible transition is essential to the development 

of a redesigned system for single-family housing finance. 

The intent of the transition, especially at the outset, is 

to move toward a general policy direction rather than an 

absolute goaL After Congress has adopted a new model, an 

extended period of time (five to ten years) will be needed 

to unwind the single-family operations of Fannie Mae and 

Freddie Mac in an orderly fashion and rebalance capita! 

flows as the private sector steps in and the government 

footprint becomes smaller. A dynamic problem-solving 

approach, where the design of a new housing finance 

system is based on lessons learned during the transition, 

will ensure that policy choices evolve in response to the 

changing realities of the marketplace. 

The transition to the new system could be greatly facilitated 

by continued utilization of existing capabilities (e,g., 

process, skilled staffing) within Fannie Mae and Freddie 

Mac. These scalable, proven platforms for securitization 

have been developed over many years, and the familiarity 

and systems connectivity of mortgage market participants 

to these systems and processes might facilitate an orderly 

trunsition to the new system. In addition, the TBA market 

(the most liquid fixed-income market in the world) should 

be maintained in a new system to ensure a smooth 

transition and retain liquidity. 
210 


80871.163

Svstp!fl 

During this transition period, several mechanisms, or 

policy dials, could be applied 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 mortgages should 

serve as the primary policy dial to assist in this transition 

and will provide an indication of the private market's 

appetite for unsupported mortgage credit risk and valuable 

feedback on the development of the new system. A gradual 

approach will minimize market disruptions and safeguard 

against the sudden potential loss of access to mortgage 

credit Chart 3-6 outlines the evolution of these loan Emits 

since 1996. 

Other policy dials have also been set in motion. The FHFA 

has recently increased the g-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 

mOltgage credit risk were borne solely by private capital, 

making the private market more competitive. Changes to the 

terms of Treasury's treatment of Fannie Mae and Freddie 

Mac announced in August 2012 accelerate the reduction 

in their portfolios, from the 10 percent annual reduction 

called for in the Senior Preferred Stock Agreements between 

the FHFA and Treasury to 15 percent annually. In addition, 

FHFA has announced its intention to begin experimenting 

with single-family 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 privatesector 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 

promulgation of CFPB's final rules on Qualified Mortgages 

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. 

Subject to lessons learned during the transltion period, 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 privatelabel MBS) would comprise a substantial share of the 

overall market. 

2. The market share of mortgages insured or guaranteed by 

FHA, VA, and USDA would return to pre-crisis levels. 

3. Mortgages covered by the new, limited government 

guarantee provided by the Public Guarantor would make 

up the balance. 

As noted above, gradually reducing maximum loan limits 

would be the primary policy dial to help achieve this 

eventual distribution. After a suitable transition period, the 

commission recommends that the loan limits for the two 

government-guaranteed markets 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 served by 

the Public Guarantor (see Chart 3-6). 

During severe economic downturns, the limited government 

guarantee for catastrophiC risk should help provide for 

the continued availability of mortgage credit because the 
211 


80871.164

government wrap will assure investors that the MBS wHl 

be repaid and the government will stand behind the credit 

risk. If credit~risk protection is no longer available through 

private credit enhancers, or if the price for such credit~ 

risk coverage is too high, then Congress could adjust the 

loan levels for the FHA and VA insurance and guarantee 

programs, thus allowing the two institutions to expand their 

activities as they did during the recent crisis. In addition, 

the Public Guarantor should be given the authority to price 

and absorb the predominant credit risk for limited periods 

during times of severe economic stress in order to ensure 

the continued flow ot mortgage credit. The Public GUarantor 

would be required to notify the Treasury Department, 

the Federal Reserve, and the chairs of the appropriate 

congressional committees before any action is taken to 

absorb predominant credit risk. 

Under the model proposed by the commission, neither 

the Public Guarantor, FHA, VA, nor Ginnie Mae would 

have retained portfolios. The absence of these retained 

portfolios raises concerns about the availability and liquidity 

of mortgage credit during downturns when demand for 

mortgage-backed securities or the liquidity with which 

to purchase these securities could fall precipitously, {]S 

happened in 2008 to 2009. Therefore. federal policy 

should be clear on how mortgage liquidity would be 

managed in such circumstances, One alternative is 

through monetary policy and Federal Reserve actions in 

the market During the 45-year history of Ginnie Mae in 

which it had no retained portfolio, the presence of a "full 

faith and credit" guarantee as well as Federal Reserve 

and Treasury purchasing authority have preserved ample 

liquidity in Ginnie Mae bonds through numerous credit 

crises, including the most recent one. Such poliCies should 

be established in advance of any crisis and should be 

understood by all market partiCipants in order to forestal! 

any issues that could raise the cost of housing and 

homeownership unnecessarily. 

Futurs 

Since its creation during the Great Depression, the Federal 

Housing Administration has periodically been caUed upon 

to act as a stabilizing force within the single-family housing 

market. When the oil-patch crisis in the mid-1980s roiled 

housing markets in Texas, Oklahoma, and Louisiana, the 

FHA stepped into these markets to provide much-needed 

liquidity,~" When the national housing market collapsed in 

2007, the FHA was a critical stabilizing force, with FHA 

market share of mortgage-purchase originations rising to 

more than 45 percent in 2010. The commission believes 

that, withoutthe FHA's support for the housing market 

during this period of crisis, our nation's economic troubles 

would have been significantly worse. The FHA has also 

traditionally been an important source of mortgage credit 

for first-time homebuyers and borrowers with low wealth 

or home equity. Over the past decade, the share of FHA 

borrowers who are first·time homebuyers has hovered 

around 80 percent. During the same period, a significant 

percentage of FHA borrowers had incomes below 80 percent 

of area median income; many were minority families. 

Looking ahead, the commission envisions an FHA that 

continues to play these two vital roles: serving as an 

important stabilizing force for the market, ready to be 

called upon in the time of crisis, and acting as In important 

gateway to homeownership for those families with more 

limited means. 

The most recent independent audit of FHA, however, 

contained troubling news: It estimated that at the time of the 

audit, FHA's slngle"family mortgage insurance fund hEld a 

long-term shortfall of $16.3 billion, yielding a capital reserve 

ratio of negative 1.44 percent, far below the statutorily 

required ratio of 2 percent. (The FHA has $30.4 billion on 

hand to settle insurance claims as they come in. However, 

according to federal budget rules, the agency must hold 
212 


80871.165

The mortgage fll}ance system must create a stable, liquid 

market that finances safe arid affordable mortgages for 

borrowers In ail geographic markets through complete economic 

prinClples; 

moderate-income households without regard to race, COIOf, 

national orfgin, religion, familial status, ordlsabillty.?j To 

help achieve this objective, the bUsihess practices of MBS 

Issuers benefiting from a government guarantee should bE! 

fully cohsfstent with the requirements of eXisting fair lending 

laws, inc1udlngthe Fair Housing Act and the Equal Cre0it 

opportunity Act The Public Guarantdr should assure that It 

Guarantor, In consultation with prudential regulators, should 

have the ability to limit or prohlblt an Issuer's eligibility to 

access the guarantee. 

The transparency of the government-guaranteed secondary 

market is critical to ensuring that this lllarket is functioning 

without discriminatjon or bias, MBS issuers should report 

annually,to t,he Public Guarantor on their total production 

guaranteed by the Public Guarantor for the previous year 

providing inJormation similar to that required of mortgage 

originators under the Home Mortgage Disclosure Act To the 

greatestextellt practicable, MBS Issuer data should be made 

available to the public In an accessible form and on a tlmely 

basis that facilitates independent review and analYSIS. 

insured portfolio and the 

indIViduals and communities it serves. This report shouJd 

(a) identify'communities whose credit needs the Public 

GUarantor believes are being underserved, (b) explain what 

factors may be inh,lbitlng access to credit there, and (c) make 

recommendations on how to expand access to credit in a 

prudent manner In these communities. To help ensure there 

secondary 

risk management, this repon: should also provide detailed 

demographic ana credit-profile comparisons of FHANA/USDA 

in the remaining 

participation by faCilitating liquidity for privaJe lenders to 

develop and 

adopted broadly enough to allow for securitization. The Public 

Guarantor should routinely share information on innovations 

available In the priVate market With lenders and MBS issuers, 

Neither the PubHc Guarantor nor MBS issuers should be 

subject to numerical housing goals or quotas" Such measures 

could distort the prudent application of the government 

guarantee 

fJ:.ccess to the government-guaranteed secondary rYlarket 

must be open on fu!! and equal terms to lenders of all types, 

including community banks, hOUSing fmance agencres, credit 

unions. and community development financial institutions. 

The nor permit 

other Dleans to unfairly restnct or disadvantage participation 

In the government-guaranteed secondary market. 
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80871.166

enough capital to cover all expected claims over the next 30 

years, which would require an estimated $46.7 bH!ion. That 

leaves a long-term shortfall of $16.3 billion.) According to 

the audit, loans insured prior to 2010 are the prime source 

of stress on the insurance fund, with $70 billion in future 

claims payments attributable to the FY 2007-2009 book 

of business alone. Seller~funded down"payment~assisted 

loans, now prohibited by federal law, were responsible for 

the largest share of FHA losses. It is unclear at this time 

whether the FHA will require a drawdown of federal funds 

to subsidize its single-family insurance fund. FHA has 

taken a number of remedial steps, including raising annual 

insurance premiums and other policy changes to increase 

revenue and reduce losses, and Congress is considering 

legislation to achieve similar objectives. And according to 

the independent audit, FHA loans insured since 2010 are of 

high quality and profitability.'" 

The recent developments surrounding FHA 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 riskbearing capital is plentiful will help reduce the pressure that is 

sometimes placed on the FHA to act uS the mortgage-credit 

provider of last resort and allow it to perform its traditional 

missions more effectively and at lower risk to the taxpayer. 

Today, about 35 percent of all U,S, households rent In 

many markets, rental housing offers more affordable 

housing options for low-income and moderate"income 

families. Indeed, about nine in ten rental units are generally 

affordable to those households making the median income 

in the areas in which they live. As explained later in this 

report, however, rental housing is becoming increasingly 

unaffordable, particularly for those at the lower end of the 

income spectrum. A strong rental housing finance system 

can help to ameliorate this urgent problem and will be 

critical to meeting our country's future housing needs. Given 

the changing demographics of American households, the 

drop in homeownership following the collapse of the singJe~ 

family housing market, and the higher hurdles consumers 

wi!! face in obtaining mortgage credit in the near future, 

supporting policies that enable owners of rental property to 

sustain these homes and renters to afford them has become 

more critical than ever. 

Finance is just as vital to rental housing as it is to housing 

occupied by homeowners. Rental developers need financing 

to build properties and property owners need it to buy, 

repair, rehabilitate, and preserve rental housing. The 

cost and availability of credit to support the rental sector 

is important to maintaining a supply of rental housing 

adequate to meet the demand for it, and because rental 

markets are competitive, credit costs and availability 

influence the rents that landlords charge. 

Despite the popular perception that most renters live in 

large properties with many units, about half of renters in 

2001 (the most recent year for which property-level data is 

available) lived in properties with fewer than five units (Chart 

3-7). In fact, four in ten lived in single-unit properties. With 

the recent shift toward renting more sing!e~fami!y homes as 

homeownership rates have fallen, the share of renters living 

in rentals with fewer than five units has likely increased 

modestly, 
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80871.167

Chari 3· 7: Proportion Renlal Uni" by Size 

Property 

The rental housing finance system in place today is 

primarily geared to serve multifamily properties-those 

with five or more units. These account for about half of all 

rentals, and much more is known about the performance 

of loans to these properties. Most of the discussion and 

1£1 Single family home recommendations that follow address this segment of 

the rental housing stock. Following the financial market 

IlilTwo-to four-unit conventions, we will refer to these properties and their 

properties finance as "multifamily." 

;:, Five- to 49-unit 

properties 

Ii1I F!fty units or more 

These one- to four-unit properties are treated as singlefamily properties by the finance system and are financed 

through the single-family divisions of Fannie Mae, 

Freddie Mac, and FHA. Bank regulators consider them 

single-family properties when establishing underwriting 

guidelines and setting capital requirements. These smallest 

rental properties pose unique financing challenges. The 

performance of loans to these properties and the reasons 

for differences in performance between single-unit rentals, 

tvvo-unit rentals, and properties with more units is not weI! 

understood. This is especially true of the large number of 

foreclosed single-family homes that are being converted to 

rentals in the wake of the housing bubble. Whether these 

properties will become long-term rental assets or return to 

the for-purchase market when homeowners hip financing 

becomes more readily available and purchase demand 

increases, is also not known. This uncertainty makes 

designing effective rental financing approaches even more 

challenging. 

The federal government helps to provide liquidity to 

multifamily rentals in normal times and is a crucial backstop 

in times of stress. When private lenders all but exited the 

market during the financial crisis, the federal role in rental 

housing finance expanded dramatically. With rental markets 

rebounding, private capital is once again increasing its 

exposure to credit risk from multifamily lending. While these 

are promising signs that rental finance is on the mend, 

federal support from Fannie Mae, Freddie Mac, and FHA 

remains essential to the recovery process and the market's 

long-term stability. 

The mortgage debt outstanding for multifamily rental 

properties currently amounts to an $825 bil!ion market, the 

vast majority of which supports refinancing.:\: Multifamily 

rental housing has historically been financed by a variety 

of private sources and by Fannie Mae, Freddie Mac, and 

FHA. Banks, thrifts, and insurance companies have all 

been important participants, using combinations of their 

own balance sheets and securities, along with other private 

sources like pension funds. A multifamily private-label 

commercial mortgage-backed securities (CMBS) milrket 

emerged in the 1990s and grew through the early 2000s, 

but shut down by 2009 in the wake of the financial crisis. 

Unlike the agency CMBS market supPolted by the federal 

government, the private-Iabe! CMBS market has neither 

explicit nor implicit federal backing. Like its single-family 

counterpart, this private-label securities market suffered at 
215 


80871.168

Financing 

provided 

Recourse or 

non-recourse 

Flexibility to 

adjust loan 

terms 

Portfolio/insured -

securitized 

Non-recourse 

Moderately 

flexible 

Portfolio 

Recourse (partial) 

Most flexible 

HOU:;lng 

Portfolio 

Non-recourse 

Moderately flexible 

Insured~ 

securitized 

Non-recourse 

least flexible 

SecuntlzedREMIC 

Non-recourse 

least flexible 
216 


80871.169

the height of the boom from overleveraglng and declining 

credit quality, Many CMBS issues had to be restructured 

and investors' returns cut as the weakened economy and 

bad lending practices undermined their value. In contrast, 

the GSE and Ginnie Mae CMBS market was stable and 

experienced little loss of value and, as noted emlier, grew 

rapidly as private capital fled. 

In recent years, annual multifamily originations have swung 

widely from a high of $148 billion in 2007 to a low of $52 

biUion in 2009. When private capital withdrew from the 

market in 2009, Fannie Mae and Freddie Mac expanded 

to support 86 percent of multifamily loan originations"-

nearly triple their average share in the years leading up to 

the crisis, 

After plummeting to record lows, new apartment 

construction has picked up to about 225,000 units in 

2012,"'~ But new construction has failed to keep pace with 

the groVith in rental demand, driving vacancy rates down 

and rents up. ",' The growing demand for new multifamily 

rental units, fueled in part by demographic changes and 

more restrictive mortgage undervvriting standards, lends 

urgency to ensuring credit continues to flow to multifamily 

housing. 

Fortunately, strengthening rental markets have attracted 

renewed interest by banks, thrifts, and insurance 

companies. After dropping to historic lows in 2009, their 

participation rates in multifamily originJtions have started 

to pick up. With this return, the share of multifamily loan 

originations supported by Fannie Mae and Freddie Mac has 

fallen to 56 percent in 2011. Even private~label CMBS came 

back in 2011, though at a very low $2 billion level (far short 

of the 2007 peak of $36 billion), Though bank balancesheet lending especially has been picking up, overall federal 

support for multifamily lending remains high by historical 

standards.~" 

Table Shore of Multifamily loans financed that were 60+ Days Delinquent as December 31, 

2005 0.73% 0.20% 5.60% 1.19% 

~1T1 2009, CMBS lenc.lers did ilotoriginate any muitif;:Jmlly IOililS 

Fanll!a Mile3na Freddie MilC's Multifamily Housing ActIVities Have Incre[Jsed GAO-12·&j9. (WJshlngton, D.C., U.S. Government AccountJbillty 
217 


80871.170

In sharp contrast to their single-famlly operations, the multifamHy businesses of Fannie Mae and Freddie Mac were 

profitable throughout the financial crisis.'" In addition, the 

performance of multifamily loans backed by Fannie Mae and 

Freddie Mac was dramatically better than that of loans made 

through other financing channels. The worst performance 

was turned in by the private-label CMBS market (see Table 

3-2). The underwriting standards and risk-management 

strategies of Fannie Mae and Freddie Mac, and to a lesser 

extent of FHA, dearly paid off relative to the private~!abel 

CMBS market. 

The commission recommends that the federal government 

take the following four actions with respect to building a new 

system for rental housing finance: 

• Gradually transition the multifJmily operations of 

Fannie Mae and Freddie Mac to a new system 

similar in design to that for single-familY finance. The 

intellectual, technological, and business assets of the 

GSEs' multifamily businesses could be transitioned in a 

number of ways, including through incorporation into a 

new publicly operated securities platform, operation as 

a legacy asset of the U.S. government, or sale to private 

interests. 

• Put in place a new catastrophic guarantee for multifamily 

finance predicated on the same prinCiples as proposed 

for single-family finance. This new multifamHy backstop 

would provide an explicit guarantee of the MBS issued by 

private issuers in return for (1) paying a fee to the Public 

Guarantor; (2) agreeing to assume, or arrange for other 

private parties to assume, predominant losses before the 

catastrophic guarantee is triggered; and (3) submitting 

to the approval, underwriting, monitoring, and capital 

standards established by the Public Guarantor. 

• Retain but streamline FHA's multifamily insurance 

operations, and pare back FHA's multifamily role to the 

extent that private-sector risk taking can take its place 

at somewhat comparable cost and enable FHA to focus 

on areas and products where private investment is not 

readily available, 

• Make special provisions to better understand and support 

the financing needs of one- to four-unit and five- to 49-

unit rentals, including review of the limitations on passive 

losses, consideration of treating properties made up of 

small scattered rentals on multiple sites as multifamily 

housing for finance purposes, and consideration of 

new financing tools for large-scale owner/operators 

of affordable rental properties that will increase their 

efficiency and abHity to steward their inventory. 

Each of these recommendations is discussed in greater 

detail below. 

Gradually wind down the multifamily operations of 

Fannie Mae and Freddie Mac. 

The commission recommends winding down the multifamily 

operations of Fannie Mae and Freddie Mac through a gradual 

transition process. This process should be undertaken at a 

pace that does not harm the nation's rental finance system 

and should not be completed until a new system of federal 

catastrophic guarantee support is firmly in place. 

During this transition, the multifamily assets of Fannie Mae 

and Freddie Mac could be repositioned in a number of ways, 

including through incorporation into a new publicly operated 

securities platform, operation as a legacy asset of the U.S. 

government, or sale to private interests that have no special 

charter or implicit guarantee of their corporate equity or 

debt. These private firms would have to be approved by the 

Public Guarantor, pay a fee to help capitalize the government 

catastrophiC risk fund, and submit to capital reserve 

requirements. The transition will only be complete when a 

wholly private system, backstopped only by a catastrophiC 

government guarantee, replaces the liquidity functions that 

Fannie Mae and Freddie Mac have provided. 
218 


80871.171

Put in place a new catastrophic guarantee for 

multifamily finance predicated on the same principles 

as proposed for single-family finance. 

The commission has concluded that a continued-but 

limited-federal presence in rental housing finance is 

needed both to ensure liquidity in normal times and to 

guard against illiquidity during times of severe economic 

distress. As in the new single-familY system, the commission 

envisions that: 

• The Public GUarantor should be charged with and 

authorized to provide catastrophic risk insurance for 

multifamily CMBS in return for an explicit and actuarially 

sound premium charged to issuers, which is designed 

to cover losses (after private risk-sharers absorb 

predominant losses) as well as the operating expenses of 

the Public Guarantor. 

• Private firms should be the originators, servicers, credit 

enhancers, and issuers of multifamily mortgages and 

CMBS with the government backstop of MBS limited to 

an explicit catastrophic guarantee. The issuer/servicers 

and credit enhancers should be monoline entities to 

ensure that the capital they have is protected against 

other uses. 

• Except in the case of FHA-insured loans, in which the 

difficulty of serving the low-cost rental market justifies 

the government's assumption of 100 percent of the 

credit risk, the private sector should charge for and 

take a predominant share of potential losses before any 

government catastrophic risk insurance is triggered. 

• The interests of the Public Guarantor and its privatesector counter parties should be aligned as much as 

possible. 

Why a Government Guarantee is Necessary 

The commission's support for a continued government 

guarantee of multifamily CMBS-built around private 

risk·sharing in which the government pays out only for 

catastrophic losses-is rooted in the following findings: 

• A government guarantee against catastrophic risk is 

essential to a strong and deeply liquid secondary market 

for multifamily loans. The guarantee would completely 

wrap the multifamily CMBS, thereby converting largely 

illiquid multifamily mortgages into liquid multifamily 

securities with a broad investor base. A broad base of 

investors, in turn, helps ensure that interest rates are 

competitive and that capital is sufficient to fund the 

demand for rental housing. 

• In the absence of a government backstop, there is a 

serious risk that liquidity will be impaired, particularly 

for long-term, fixed-rate multifamily rental mortgages, 

but also potentially for other types of mortgage products 

as weI! (e.g., at times Fannie Mae and Freddie Mac 

have provided important support to the longer-term, 

adjustable-rate market). The financial crisis clearly 

exposed the potential for private capital to exit the 

market during periods of sharp housing corrections 

or disruptions in financial markets. The retreat of 

private capital from exposure to multifamily credit 

risk underscores the importance of some form of a 

government backstop to avoid extended periods when 

credit is unavailable. 

• Even under normal economic conditions, Fannie Mae 

and Freddie Mac have been important sources of finance 

in non prime locations and when investment strategies 

have led private investors to shed existing investments or 

restrict new ones. 

• The availability of a government backstop for multifamily 

CMBS benefits borrowers by keeping credit flowing. 

Furthermore, having a strong secondary market for 

multifamily mortgages allows banks, thrifts, and credit 

unjons~which are funded mostly by short~term 

deposits-to originate longer~term, fixed-rate mortgages of 
219 


80871.172

seven to 30 years, which are vitally important to managing 

the operating costs of affordable rental housing. Finally, 

the option to issue government-guaranteed securities with 

private risk~sharing provides lenders with an additional 

tool to manage their capital reserve requirements. 

Mechanics ofthe New Rental Finance System 

The Public Guarantor would provide multifamily mortgage 

lenders with the important option of placing loans in 

securities and paying for government catastrophic risk on 

these securities. Private-sector lenders operating without 

this backstop can and wlH playa role in a reformed housing 

finance system and will be in a position to judge when to 

use this option. Participating lenders Of issuers would be 

permitted to either retain the risk of covering predominant 

losses ahead of the government guarantee or arrange for 

a private-sector third party to provide most of the credit 

enhancement 

The Public Guarantor would be limited to backstopping 

permanent finance for leased new properties and 

for existing properties. and expressly prohibited from 

supporting construction lending just as Fannie Mae and 

Freddie Mac are prohibited from doing so. 

Although the Public Guarantor would not guarantee 

securities backed by multifamily rental construction loans, 

banks would have the option of rolling over the initial loan 

for newly built rental properties to a !onger~term, fixed-rate 

permanent loan that is eligible for secondary market sale or 

securitization, just as they do today with Fannie Mae and 

Freddie Mac. In this way, the presence of a governmentbackstopped secondary market takeout for adjustable-rate 

construction loans would facilitate the flow of credit to new 

construction in normal Umes as well as times of stress. 

Before the crisis, the private market supplied all the 

construction lending for rental properties-and did so 

mostly without FHA insurance. During any future crisis, the 

for Natloflai 

commission believes that the demand for financing for new 

construction would be minimal and that a reformed and 

strengthened FHA could keep the supply of construction 

fInance flowing to low-cost rental housing just as it did 

during the previous downturn, but more efficiently and at 

greater scale than it managed to do in its pre-reform state. 

Key Differences wifh fhe Proposed SinglewFomlly Sysfem 

The key differences between the proposed systems for 

single-family and rental finance lie not in the basic functions 

of the systems or the structure of the government guarantee 

but in (1) the cutoffs that would be established to ensure 

the Public Guarantor serves only a segment of the mortgage 

market and (2) the specific counterparty requirements for 

the two systems. Each of these differences is addressed in 

greater detail below. 

An affordabilitv requirement 

Multifarnily lending, by virtue of renter demographics and 

rental housing, has predominantly supported housing 

affordable to low- and moderate-income households. 

The commission recommends that the Public Guarantor 

establish an affordabHity requirement or threshold, intended 

to assure that the system continues to primarlly support 

housing affordable to these households, while allowing 

access to the guarantee for a modest share of higher-rent 

units. This threshold should be neither overly generous 

nor unduly restrictive, to ensure a broad backstop for 

multifamily housing affordable to Americans with modest 

incomes and to avoid the overuse of the government 

guarantee for high-end rental properties. Compliance with 

the affordabillty requirement should be assessed using the 

rents established at loan origination. CornpliiJnce would be 

based on the issuer's portfoliO of qualifying securities over a 

rolling two-to three-year period.:'" Issuers that fail to comply 

could be subject to a variety of actions, including losing 

approval status to do business with the Public Guarantor. 
220 


80871.173

Ch(lpter 3 

The proposed restriction of the catastrophic government 

guarantee to properties primarily serving !ow- and moderateincome residents may result in a relatively higher cost of 

capital for some projects at the higher end of the rental 

market While the commission has concluded that this is 

an acceptable risk, in the event of an extreme stress to the 

financial system in which it is determined that private capital 

has fled from the market serving higher-income renters by 

a verifiable measure, the Public Guarantor should have 

the authority to extend catastrophic insurance to prudently 

written loans for these segments of the market until private 

capital returns. 

Counteroartv standards and requirements for multifamily 

lenders 

As on the single-family side, the Public Guarantor would 

be charged with developing and periodically reviewing 

undelwriting standards: approving the lenders, issuers, 

private credit enhancers, and servicers that participate 

in the government-guaranteed system; and maintaining 

minimum standards for the amount of capital that would 

have to be placed in reserve by private firms to cover 

predominant losses before the government catastrophic 

guarantee wou!d be triggered. The Public Guarantor would 

also employ safeguards to ensure the alignment of interests 

of aU entities serving as its counterparties. 

Underwriting standards 

In a new housing finance system, underwriting standards 

for the sjngle~family and rental sectors would be different, 

just as they are now. For example, borrowers in the rental 

housing finance system are typicaBy required to make 

much larger down payments (of 25 percent or more) than 

borrowers on the single-family side, a practice that would 

continue under the new system." The Public Guarantor 

would have the flexibility to undelVJrite loans directly or 

establish process and documentation standards it would 

expect its counter party originators to follow. The Public 

Guarantor would also conduct audits of its counterparties to 

ensure compliance. 

Capitat requirements 

The capital that private firms would have to put at risk to 

cover predominant losses would be based on regular stress 

tests of their capital position to ensure that counterparties 

have adequate capital to cover their commitments. Capital 

reserve requirements would likely be set at different levels 

for rental MBS than for MBS backed by sjngle~family loans 

because of the different risks they pose. 

Alignment of incentives 

The interests of all private entities serving as counter parties 

to the Public Guarantor must be tied to the long-term 

performance of multifamily loans, not just to the volume 

of loan originations and security issuances, These private 

entjties include firms originating and servicing multifamily 

loans, issuing government-guaranteed securities with private 

risk-sharing, and sharing credit risk. 

This alignment of incentives can be met using one of three 

methods that tie the interest of every entity in the chain 

to the long-term success of every mortgage loan that is 

ultimately backstopped by the Public Guarantor. The three 

methods are (1) placing capita! <Jt risk, (2) placing the 

franchise's abllity to continue to do business with the Public 

Guarantor at risk, and (3) placing mortgage~servicing fights 

(MSRs) at risk. 

The new system is designed around the first of these~ 

putting private capital at risk and assuring one or more 

private entities hold capital sufficient, as determined by 

the Public Guarantor, to cover the predominant risk under 

extreme stress testing. While the issuer should be permitted 

to layoff most of this risk (to either a third-party mortgage 

insurer approved by the Public Guarantor or through a 

capital markets solution, such as a structured security or 

derivative), it should be expected to retain some portion 
221 


80871.174

of the risk and reserve capital to cover it, consistent with 

having an option to achieve sale treatment. The Public 

Guarantor should be authorized to set this amount at a 

level it deems sufficient to make sure the interests of the 

issuer are aHgned. In addition, issuers put capital at risk 

by retaining responsibility for repurchasing any loans that 

are found to have violated representations and warranties 

for a specified period of time, even if they sell their servicing 

rights. 

It is not sufficient just to stipulate that the private 

counterparties hold a certain amount of capital to cover 

predominant credit losses. The Public Guarantor must also 

have the authority and be explicitly charged by Congress 

to monitor the capital positions of its counterparties and 

demand that they raise capita! if they fall short of mandated 

levels." 

The second method of a!igning incentives~placing the 

franchise's ability to do business at risk~is a poweliul tool. 

Businesses with operations that depend on the continued 

ability to do business with the Public Guarantor and the 

secondary market it supports, will avoid taking ~ctions that 

could cause them to lose their status as approved actors 

in the new housing finance system. This is why the Public 

GUarantor must have approval and examination authority 

over its counter parties. 

Finally, in cases where the issuer is also the originator of 

the loan, the issuer should be permitted to sell its MSRs. 

(It would already be obligated to retain some risk.) In cases 

where the originator sells the loan to an issuer or acts as 

a broker for the issuer, however, the originator should be 

required to retain the MSRs. Otherwise, it would not have 

an ongoing interest in loan performance that would help 

assure the quality of the loan at origination. Unlike Fannie 

Mae, both life insurance companies and Freddie Mac do 

not demand risk-sharing by the seller and currently often 

require that MSRs remain with the originating lender. 

Reform, strengthen, and streamline FHA multifamily 

programs. 

Like Fannie Mae and Freddie Mac, FHA ramped up its 

share of loan originations to offset the flight of private 

capita! from the housing finance system during the Great 

Recession. FHA's multifamlly loan performance has held 

up relatively well under the pressure of the economic 

downturn, with delinquencies peaking in December 201l. 

Even for loans originated in 2009~by far the worst book of 

multifamily business for FHA-the delinquency rate of 5.15 

percent is substantially below the delinquency rate of nearly 

24 percent for loans originated in 2007 that resulted in the 

worst book of business for private-label CMBS issuers.J.-· 

The commission believes FHA should continue to play its 

essential role in facilitating liquidity for the construction 

and refinance of rental properties with long-term, fixed-rate 

financing. The risks involved in this lending are perceived 

to be higher, and steady debt payments are often important 

to attract equity investment. Absent FHA's 100 percent 

guarantee of credit risk and the option for delivery into 

government-wrapped Ginnie Mae multifamily CMBS, 

lenders might not otherwise be able to offer these products 

to the owners and developers of rental properties in all parts 

of the country. 

FHA is restricted in its activities by congressionally 

mandated statutory loan limits, which ensure it provides 

support only to properties that would typically be affordable 

to moderate-income households at loan origination. FHA 

plays a unique role in supporting this market with long-term, 

fixed-rate financing for new construction and rehabilitation 

(primarily through the Section 22](d)(4) program) and 

refinances of existing properties (primarily through the 

Section 223(0 program). The combination of insuring 100 

percent of the principal balance on existing, substantially 

rehabilitated, and new multifamily rentals~as well as 

offering long-term, fixed-rate financing without balloon risk, 
222 


80871.175

FIIldllU, SYStPlll 

on fully amortizing loans with amortization periods as long 

as 40 years and with loan-to-value ratios JS high as 85 

percent~has made FHA an important source of liquidity to 

this segment of the market. 

The commission believes the FHA should remain focused 

on providing stJndardization and liquidity to the markets 

it currently serves, and FHA-insured mortgages should 

continue to be guaranteed by Ginnie Mae. However, the 

commission also believes the FHA's multifamily operations 

should be streamlined to avoid lengthy delays often 

associated with doing business with FHA, and its role in 

the market should not extend beyond that which would not 

otherwise be served by private capital. More specifically, the 

commission recommends the following; 

• Address administrative inefficiencies. Developers and 

lenders have long criticized FHA for being inefficient, 

and causing lengthy delays and uncertainties in loan 

approvals. HUD has recently made great strides to 

improve processing times and review of new applicJtions, 

and these initiatives should be continued. In addition, 

the non-core multifamily programs administered by FHA 

that do not expand liquidity of capital for housing should 

be reviewed, and FHA should provide a rationale for their 

continuation or make J case for their discontinuation to 

Congress. 

• Take steps to avoid the crowd-out of private capital. FHA 

provides a 100 percent loan guarantee and therefore 

risks crowding out private capital that might be willing 

to stand in front of the federal government or assume 

aU of the credit risk------even in this more-difficu!t~to--serve 

market. Therefore, FHA should periodically evaluate its 

market share to ensure it is not crowding out private 

insurers and lenders who would serve the market at a 

comparable cost to FHA. FHA should keep in mind that 

one of its public policy objectives is helping to retain 

existing affordable rental properties. 

• Strengthen pat1nerships between FHA and Housing 

Finance Agencies. FHA should continue to be authorized 

to insure properties that receive Low Income Housing Tax 

Credits (UHTC) and should explore options for improving 

coordination with the LlHTC and HOME Investment 

Partnerships programs. It should also continue to 

offer risk~sharing programs with Housing Finance 

Agencies over a range of multifamily products (provided 

developments meet the affordability requirements 

enumerated above). FHA has proven useful in helping 

the Housing Finance Agencies pursue affordable rental 

housing goals, and these agencies typically make 

allocation decisions involving tax credits and subsidies. 

Address the unique financing needs of small 

multifamily rentals . 

As noted Jbove, small (one-to 49-unit) properties make up 

about two-thirds of all rental units, with one- to four-unit 

rental properties making up somewhat more than half of all 

rentals. 

While five- to 49-unit properties are served by the 

multifamily finance system, the commission heard 

repeatedly that these smaller properties have historically 

been more difficult to finance with long-term, fixed-rate 

financing and funding from the capital markets than 

have the roughly 30 percent of rentals in 50-plus-unit 

properties.'·< For example, in 2001 not only did a smaller 

share of five- to 49-unit properties--compared with 50-plusunit properties~have mortgages; less than half of the fiveto 49-unit properties that did have mortgages had fixed-rate 

payments compared with over 70 percent for 50-plus-unit 

properties. In looking at the share of small properties that 

have a mortgage (Jnd, among those that do, the share that 

have long-term, fixed-rate financing), the commission was 

unable to determine how much of the observed differences 

are a result of the debt preferences of the investors in these 

properties or how much they reflect structural difficulties in 

supplying credit to them. 
223 


80871.176

However, the commission was persuaded of the need to 

do more to understand the market for mortgage finance 

for one- to 49-unit properties and explore ways to better 

facilitate financing to it. In a reformed system wlth multiple 

issuers of multifamily securities eligible for a government 

catastrophic guamntee. some of these issuers might try to 

serve this niche market more effectively than past efforts 

by Fannie MJe and Freddie Mac. The Public Guarantor 

should be encouraged to be responsive to private issuers 

who express an interest in a guarantee on small multifamily 

CMBS, while maintaining a policy of requiring catastrophic 

insurance premiums to cover potentia! losses after private 

credit enhancements are exhausted. 

In addition, the commission makes the folloWing 

recommendations: 

• Explore opportunities to provide financing to small 

scattered-site rentals on a bundled basis. Untapped 

opportunities exist for the bundling of several noncontiguous properties into a single multi-site, multifamily 

property for the purposes of financing their development 

and acquisition. For example, there are private firms 

interested in purchasing multiple single-family homes 

from Fannie Mae and Freddie Mac out of their real 

estate-owned (REO) stock and financing the acquisition 

with a single multifamily mortgage. Indeed, Fannie Mae 

is experimenting with bulk sales of its REO properties 

in a related way. The Public Guarantor should have the 

flexibility to explore opportunities to backstop loans to 

properties with five or more non"contiguous, single~ 

family or two- to four-unit buBdings as a single multi~ 

site, multifamily property for financing purposes and to 

assess possible benefits and unintended consequences 

of this approach. ,; These opportunities would include 

purchases to be held in land banks, which are a 

promising mechanism to help distressed communities 

strengthen their property markets .. ~ To the extent that the 

Federal Home Loan Banks or Fannie Mae and Freddie 

Mac have experience with multi-site, multifamily finance, 

review of these activities should be undertaken to inform 

development of future financing products. 

• Review the impact of passive Joss rules for sinaI! rental 

properties. The Tax Reform Act of 1986 disallowed 

the practice of using losses from "passive activities"-

including investment in rental properties-to offset 

"active income" from other, unrelated activities. The 

limitation on passive losses, however, permits taxpayers 

with incomes under $100,000 (phased up to $150,000) 

to deduct up to $25,000 of losses from rentJI property 

that they actively manage. The limitation was intended 

to restrict the excessive tax benefits that contributed to 

overbuilding in the early 1980s (which contributed to 

supply overhangs into the early 1990s). However, it mJy 

also have led to declines in investment in small rental 

properties by individual investors-for example, a dentist 

who took a stake in a two-flat rental property to earn extra 

income. Further analysis should be undertaken to review 

the impact of the passive~!oss rules, specifically to assess 

the potential to increase the number of affordable rental 

units by attracting greater equity into the investment 

market by exempting rental properties with fewer than 50 

units and by indexing the $25,000 limit to inflation. 

• Re-assess the appropriate division (or divisions) of the 

Public Guarantor within which to site small multifamily 

rentals. In a redesigned housing finance system, the 

Public Guarantor should be granted the authority to 

decide whether it is sensible for one and/or two~ to four~ 

unit properties thJt contain at least one renta! unit to 

fall within the domain of its multifamHy division (which 

could be renamed the "rental division") or its singlefamily division. The Public Guarantor should also have 

the authority to regulate the activities of its private issuer! 

servicers and credit enhancers so that they align with hON 

two- to four-unit rental properties are handled. 
224 


80871.177

System 

Pursue additional research to enable improved decisfon- strengthening CDFls' access to debt financing, including by 

making and underwriting. The FHFA, in conjunction with promoting their continued membership in, and access to, 

Fannie Mae and Freddie Mac, should study the loan advances through the Federal Home Loan Bank System. 

performance of their two- to four-unit property portfolios 

at different points in time and simulate their performance 

under certain stress tests. The aim of these studies would 

be to identify factors that may have contributed to the 

poorer historical performance of these properties in terms 

of underwriting, valuation methods, product features, 

location, number of units, residence of owners, and 

other factors that may have contributed to higher serious 

delinquency rates and loss severities. 

In conjunction with Fannie Mae and Freddie Mac, the FHFA 

should also conduct a thorough review of the experience 

of the two GSEs in purchasing and guaranteeing small 

(five- to 49-unit) multifamily rental properties in order to 

make recommendations about whether a future government 

guarantor of catastrophic risk could help facilitate a stronger 

secondary market for these properties and organize itself 

better to properly underwrite and price the risk of this 

lending. 

The commission examined other ways that the financing of 

rental housing could be improved and offers the following 

additional recommendations: 

Facilitate partnerships with mission-driven lenders. A new 

system of renta! housing finance should support and 

enhance the role of Community Development Financial 

Institutions (CDFls) and other mission-driven lenders. While 

CDFls typically provide pre-development and construction 

financing, access to long-term permanent financing~ 

through direct issuance of securities or sale to an 

aggregator-would enable them to better support affordable 

rental housing of all sizes, including small properties. 

As part of these efforts, emphasis should be placed on 

Further, Congress should give immediate and serious 

attention to HUD's proposal to establish an FHA risk-sharing 

program with Housing Finance Agencies around small 

multifamily properties. Furthermore, HUD should build 

evaluation methods into the original program design. 

Improve data collection. The federal government should 

improve its data collection and coverage for the multifamily 

housing finance system, including collection of information 

about originations, servicing, and loan performance. Better 

data would allow researchers and market analysts to 

develop a deeper understanding of activity and participants 

in the system, currently and over time. 

The commission envisions the estabHshment of a single 

Public Guarantor with responsibility for both the singlefamily 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. 

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 federa! 

appropriations but rather finances the two catastrophic 

funds and its own operational expenses through the 

collection of g-fees. The Public Guarantor should operate 

independently of any existing federal department and, 
225 


80871.178

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. It should be given sufficient flexibility to set 

compensation levels that are at least somewhat competitive 

with other employers within the financial services industry, 

and it should have the ability to appoint and compensate 

such outside experts and consultants as necessary to assist 

the work of the organization. 

To ensure continuily and build on existing government 

capabilities, Ginnie Mae---enhanced with greater authorities 

and flexibilities---could assume the role of 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 as the standard~setUng body 

for a large segment of the mortgage market. In addition to 

discharging its responsibilities as the Public Guarantor, the 

enhanced Ginnie Mae would continue on an uninterrupted 

basis to perform its traditional function as the guarantor of 

the timely payment of principal and interest on MBS backed 

by single-family and multifamily loans insured by the FHA, 

VA, USDA, and the Office of Public and Indian Housing, 

Housing 

The Public Guarantor should be led by a single 

individual, appointed by the President of the United 

States and confirmed by the U.S. Senate. who would 

serve as director. Vesting ultimate leadership authority 

for the Public Guarantor in a single individual should 

promote accountability and ease of decision~making. 

This individual should have a demonstrated expertise in 

financial management and oversight, as weI! as a deep 

understanding of the capita! markets, particularly the 

mortgage securities markets and housing finance. 

An Advisory Council to the Public Guarantor should be 

established, 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 risks to the 

safety and soundness of the nation's housing finance 

system. 
226 


80871.179
227 


80871.180

Demand for rental housing is increasing in many regions 

throughout the United States, and the number of renters 

spending more than they can afford on housing is 

unacceptably high and growing. Demographic trends, 

described earlier in this report, clearly highlight the 

continued and growing role that rental housing will play in 

meeting the nation's housing needs, including for young 

adults starting out and seniors looking to scale back their 

home-maintenance responsibilities. Most of us will rent at 

some point in our lives, and many American households 

prefer the flexibility and convenience of rental housing. It 

is therefore important that an adequate supply of stable, 

affordable rental housing is available to meet these needs 

and preferences. 

Our proposals for rental housing finance reform, described 

in the previous chapter, are designed to ensure there 

is sufficient mortgage liquidity to support the continued 

availability of rental housing that is broadly affordable 

for households at aU income levels. In this chapter, our 

proposals focus on meeting the rental housing needs of the 

lowest-income households-helping to provide high-qu<Jlity, 

stable housing for the most vulnerable individuals and 

famlHes, and promoting positive outcomes !ike improved 

educational performance by children and better physical 

and mental health. We also propose reforms to the rental 

assistance delivery system that focus on outcomes, helping 

to improve the effectiveness and efficiency of housing 

programs and providers. 

According to the U.S, Census, the nation's 41 million renter 

households account for 35 percent of all U.S. households, 

Compared with the U.S. population as a whole, the renter 

population has lower incomes, with two-thirds of renter 

households reporting incomes below 80 percent of the area 

median income (AMI) and nearly half reporting incomes 

below 50 percent of AM!. The median household income 

for renter households in 2011 was just $30,934 compared 

with $64,063 for owner occupied homes,:"-' In other words, 

renters as a group earn about one~half what homeowners do. 

For the most part, renters live in housing that meets basic 

quality standards, but nearly half of all renters report paying 

more than 30 percent of their income for rent, signifying 

a "moderate rent burden" under federal standards for 

affordable housing, About 25 percent of the 41 million 

renter households report a "severe rent burden," spending 

more than half of their income for housing.;' \ 
228 


80871.181

The federal standard for affordable housrng Is that a 

for rent "Rent 

household spen\is a disproportlonate$hare of Its 

rental costs. 

If expenditures on housing (rent plus utilitlBS) account for· 

30 household Is not 

considered to be rent burdened. 

Between 30 and 50 percent of income, a household has a 

"moderate rBnt burden\" 

Income, a household has a 

rules of thumb and do not always 

neighborhood or larger apartment without expenencing any 

decrease hquallty of life, white a family of four may rent a 

transportation costs, leading 

to combined housing and transportation costs that are 

unaffordable. 

"Low income" is a term used to indicate a household's lhcame 

le~el relative to other households In the sam'e metropolitan 

area, 

If ;OJ household has an ihcome: 

Above 50 percent, up to and including 80 percent of the 

AMI, it's a "low.·income" household, 

Above 30 percent, up to and including 50 percent of the 

AMJ, It'S a "very low-income" household. 

- At or below 30 percent of the AMI, households are 

considered "~xtremely lOW-income " 

As Chart 4~1 shows, rent burdens vary considerably by 

household income. 

Near!y 80 percent of extremely low "income renters report 

a rent burden, with most--64 percent-reporting a severe 

rent burden. The overall incidence of rent burdens is 

nearly as high for the next income group-very low-income 

renters~but severe rent burdens are much lower for this 

group. The incidence of both moderate and severe rent 

burdens continues to fal! as incomes rise, with severe rent 

burdens fa!!ing to 7 percent for low-income households and 

nearly disappearing for higher-income groups. 

Chart 4-2 highlights a major reason why extremely lowincome renters face such high housing cost burdens: the 

mismatch between the number of extremely low-income 

renters and the number of affordable units that are currently 

available to lhem. 

In 2009, only 3.7 million rental housing units were 

both affordable and available to extremely low-income 

households-far fewer units than needed to provide 

affordable housing to the nation's 10.3 million extremely 

low-income renter households. (HUD defines a unit as 

available to a particular income group when it is either 

vacant or occupied by a household with that income or a 

lower income.) This mismatch would likely be even larger if 

we considered only those homes located in safe, amenityrich neighborhoods with good-performing schools and 

access to jobs. By contrast, low-income households and 

higher- income households (those with incomes above 80 

percent of AM!) experience surpluses of affordable and 

available units, although these surpluses are in specific 

markets and change over time. 

"Worst case needs" for rental housing-a statistic HUD 

uses to keep track of renters who do not receive housing 

assistance, and either pay half of their income for housing 

or live in severely substandard housing-grew 20 percent 
229 


80871.182

Chari 40 1: Housing Cos! Burden, Among U,S, Ren!"rs, 2009 

90% 

80% 

70% 

60% 

50% 

40% 

30% 

20% 

10% 

0% 

0-30% AMI 30-50% 50-80% 80-120% >120%AMI Total 

AMI AMI AMI 

1111 Severe burden 

E':il Moderate burden 

Char! 40 2: Renlal Units and Ren!"", by Allo,dabilily and Inco",e Colegories miillons, 2009) 

Units affordable and available (by affordabHity category) Households (by income category) 

?II' Not low income 

~Lowincome 

Very low income 

(E Extremely low 

Income 
230 


80871.183

between 2007 and 2009. But renter problems were on the 

rise before then as well, with the number of households 

with worst case needs growing 18 percent between 2001 

and 2007. Renters paying excessive shares of income for 

rent and utilities often have insufficient income available to 

meet their basic needs for food, health care, education. and 

transportation-~undermining child and adult health and 

contributing to residential instability that can, among other 

things, impair educational achievement and employment 

potential. 

Compounding their difficulties, low-income households 

are often employed in low-wage or temporary jobs that are 

vulnerable to layoffs and reduced work hours. One study 

found that about 20 percent of households with children in 

the lowest-income quintile experience a loss of more than 

50 percent of their income in any given year, with only about 

half of these households fully recovering the lost income 

within the same one-year period.:' Unpredictable income 

shocks can lead t.o household stress and inablHty to plan for 

the future, and income volatility has been cited as a causal 

link to homelessness .. '~" Without an ability to cushion the 

impact of this temporary loss of income, households may 

experience severe residential instability. 

Housing cost burdens for renters have risen dramatically 

in recent years, and the factors driving these increases 

are neither novel nor difficultto identify. Unemployment, 

stagnating incomes, and volatile wages for those at the 

low end of the income spectrum greatly compromise 

families' buying and saving power, leaving them with 

llmited resources to meet basic needs such as shelter. At 

the same time, the supply of rental housing affordable to 

these families faUs well short of demand, driven by the loss 

of affordable rentals to conversion, demolition, or other 

factors and an insufficient supply of rental subsidies that 

reduce renters' monthly housing costs. In the absence of 

government support, high land prices and construction 

costs make it difficult for the private sector to develop 

non-luxury, market-rate housing. ' While much of the 

unsubsidized yet affordable stock of privately owned 

housing consists of older structures that have become more 

affordable over time, strong competition for these units 

leads to higher rents and-in many markets·~the upgrading 

of these older units to meet the needs and preferences of 

higher-income households. 

In the past, the development of new apartments could lead 

renters with higher incomes to move on to updated units 

with more amenities, allowing older units to filter down to 

households lower on the income ladder. However, one of 

the problems inhibiting the filtering down of older rental 

units today to levels affordable to low-income households 

is the proliferation of barriers to new development or 

redevelopment that either prohibit certain types of 

development entirely or raise development costs to levels 

that make it economically infeasible. These barriers 

include local land-use regulations that restrict density 

directly or indirectly through the use of parking and other 

requirements, impose lengthy permitting or environmental 

review processes that may entail additional expenses in 

return for permits to build, or require a loning variance 

to build multifamily housing developments. Other barriers 

include local restrictions on innovative and efficient reuse of 

existing properties, such as the development of accessory 

apartments (sometimes known as "granny flats") or the 

rental of excess rooms to boarders, In some cases, these 

regulations are the result of Not in My Backyard, or NIMBY, 

sentiment, which adds uncertainties and obstacles to 

development.: 'v 

While many of these regulations may strive to advance 

important policy goals, in the aggregate they increase 

the cost of housing and inhibit the development of new 

affordable rental housing by extending the development 

timeframe and increasing the risks associated with 
231 


80871.184

development. 1A These regulations also prevent the 

construction of non-luxury rental housing that could help 

meet the needs of moderate-income households and allow 

older developments to filter down to rent levels affordable 

to low-income households, In addition, both federal and 

local regulations often discourage or inhibit the development 

of economically diverse, mixed-use neighborhoods that 

can help support educational achievement and economic 

mobility for low-income families, 

In aU, federal rental assistance programs currently help 

approximately five million American households afford 

housing, providing critic.Jlly needed shelter and stability for 

older adults, persons with disabilities, families with children, 

and other low-income individuals,; '( However, because 

of the lack of resources, only about one in four renter 

households eligible for federal rental assistance receives 

it, '. resulting in an inequitable system in which housing 

subsidies are allocated by lottery or through ever growing 

waiting lists. Many of the lottery losers become residentially 

unstable and move frequently-at great expense to their 

health and their children's educational prospects. Some 

even become homeless, 

Existing federal housing assistance programs do a good 

job achieving the overarching goal of reducing housing 

costs to levels families can afford. But given the significant 

remaining unmet need for rental assistance and today's 

fiscal challenges, the nation's rental assistance programs 

must achieve a higher level of performance. These 

programs must also more fully realize the potentia! of rental 

assistance to substantially improve the life opportunities 

of assisted households-for example, helping older adults 

to lead independent lives and work-capable households 

to make progress toward economic self-sufficiency, and 

enabling families to move to neighborhoods with greater 

opportunities. 

Available data suggest that affordable rental housing is likely 

to become even more scarce in the coming years, with 

the production of rental housing failing to keep pace with 

demand.:' Looking ahead, the nation's demographic trends 

indicate that the number of renter households will increase 

dramatically over this decade, as Echo Boomers begin to 

form their own households and as Baby Boomers seek to 

downsize from their existing homes and into living situations 

with less upkeep and fewer maintenance requirements. It 

is estimated that the construction of at least three million 

new multifamily rental units will be necessary over the next 

ten years to meet this growing demand, : .. a target unlikely 

to be met without a concerted focus to help stimulate new 

production by the private sector. Absent this focus, rents are 

likely to continue to rise faster than incomes, exacerbating 

the nation's already significant housing affordability 

challenges. And without subsidies, the private sector will 

not be able to provide housing at a cost that extremely low~ 

income households can afford, 

In 1937, the federal government began to provide rental 

assistance to the nation's low-income households in a 

targeted way through the establishment of a public housing 

program as part of the U.S. Housing Act.;·r This Act 

established a new federal agency focused on housing, the 

U.S. Housing Agency (a precursor to HUm, and required 

the establishment of local public housing authorities to 

build, own, and operate housing using debt financing 

guaranteed and paid for entirely by the federal government. 

Tenants occupying the new public housing units were 

obligated to pay rents that covered building operating 

expenses, but not construction expenses. 

Following World War II, the shortage of adequate housing, 

particularly for returning veterans, caught the nation's 

attention, The 1949 Housing Act, along with setting a 

national housing objective of Jia decent home and a suitable 
232 


80871.185

Renteli 

living environment for every American family," authorized 

funding for nearly one million additional units of affordable 

public housing. 

The late 1950s and early 1960s ushered in a wave 

of innovation in affordable housing, including the 

establishment of new programs that created incentives 

for private developers and investors to produce and own 

assisted housing with the government's support, such as the 

Section 202 program for housing the elderly and the Section 

23 Leased Housing Program to provide leased affordable 

housing in privately owned properties. The Section 236 

Program, created by Congress in 1968, offered subsidies to 

reduce the interest rate paid on mortgages insured by the 

FHA in return for rent limits. 

As a result of a combination of factors~includjng the 

energy crisis of the early 1970s, which drove up costs in 

many privately owned, federally subsidized properties; 

corruption; and incompetent management~in 1973 

the Nixon administration declared a moratorium on all 

subsidized production in both HUD and the USDA ruralhousing programs. The Nixon administration then followed 

up the moratorium with a series of proposals to overhaul 

the federal government's role in rental housing assistance. 

Congress responded by adopting the Housing and 

Community Development Act of 1974, which created the 

Section 8 program, as a more flexible means of delivering 

rental housing assistance to the lowest-income households 

by focusing on rental subsidies to or on behalf of tenants 

rather than subsidies directly paid to developers. Through 

this program, funds were made available to support new 

construction, rehabilitation, and tenant-based rental 

assistance in existing properties. Although the 1974 Act 

helped to retain existing public housing units, approv<Jls for 

new development were scaled back. The stock of public 

housing that had grown from about 150,000 units in the 

1950s to over one million units in the 1970s began to 

decline. The 1974 Act also called for the consolidation and 

restructuring of a number of federal housing programs."' 

During this period, increases in rents due to escalating 

operating and maintenance costs and declining resident 

incomes meant that many residents of public housing 

were spending upwards of 75 percent of their incomes 

on fent and utilities. In response, Congress adopted, in 

1969, the so-called "Brooke Amendment," championed 

by Massachusetts Republican Senator Edward W Brooke, 

which limited a tenant's rent to 25 percent of income 

in public housing. This action, while benefiting tenants, 

had the effect of lowering the amount of operating caplt(ll 

available to cover the costs of an affordable property. HUD 

therefore had to provide additional capital to agencies 

for the maintenance and operation of public housing 

properties, spurring adoption of annual operating subsidies 

as well as separate modernization (or "capital") funding 

to restore aging stock. Through the Omnibus Budget 

Reconciliation Act of 1981, Congress raised the minimum 

tenant payment required from 25 to 30 percent of income, 

in part to help cover operating costs.·~; The Brooke 

Amendment that established the 25 percent of income 

limit is responsible for the income-based rent structure that 

exists to this day in federal housing programs. 

In 1986, the Low Income Housing Tax Credit (LlHTC) 

program was created as part of the Tax Reform Act with 

bipartisan support, replacing a series of other tax subsidies 

that had been in place for decades to encourage investment 

in affordable housing. LlHTC created a new and more 

efficient means of developing rent-restricted, affordable 

housing using tax subsidies and became the primary means 

by which the federal government supports the development 

and preservation of affordable housing. 

During the severe recession of the early 1980s, the problem 

of large-scale homelessness appeared in America's cities for 

the first time since the Great Depression. In 1988, Congress 

passed the Stewart B. McKinney Homeless Assistance 
233 


80871.186

Act (later the McK!nney~Vento Act) to put homeless 

assistance on the national housing agenda. Funding 

for homeless initiatives grew rapidly thereafter through 

the 1990s and 2000s, and numerical goals were put in 

place to end chronic homeless ness through coordinated 

and comprehensive approaches that combine housing 

assistance with specialized services where necessary. 

recession-related problem exacerbated by factors such as 

the deinstitutlonalizatioh of people with mental illness and the 

emerging A1DS epidemiC. As a result, the interventions funded 

It soon became clear, however, that the real driver in 

home.lessness was,the lack of affordable housing and that 

person~ with dJsablllties were Simply th~ first to face the 

problem. By the end qfthe 1980s, despite a robust recovery) 

mass homelessness had increased and had come to affect non~ 

disabled adUlts. famlHes, and 

homeless assistance was altered to Include more permanent 

solutions, particularly housing. The first focus was on single" 

room occupancy houslngJor single adults, and this later shifted 

to permanent s:upportfve housing (subSIdized nousing with 

services) for people with' disabilities, based ?n strong research 

showing Its cost-effectiveness 

landlords; providing deposits, move~ln malley, and short-term 

rental aSSistance; and connecting people ,«ith services in the 

Hous'nl~ lor 

in the 1990s, the devolution of federal authority in rental 

assistance programs that began with the 1974 Act was 

further reinforced through the creation of the HOME 

Investment Partnerships (HOME) program. This program 

introduced a flexible block grant to states and municipalities 

that bullds on the existing infrastructure and partnerships 

between HUD and the public agencies, nonprofits, faithBoth permanent supportIVe housing find rapid re-housing use 

labeled "Housing first"-helping the homeless 

houslng)mmedjately then fuflowmg up with 

employment assistance, mental health treatment, or whateve( 

other kinds of services are necessary tl? ensure that the housing 

is stabilized. 

Whlle'HUb 

now provides 

permanent housing SubSidies linked to services offered by 

theVA to high-need homeless veterans. In ITS hew Supportive 

Services to Veteran Families program, it also funds rapid rehousing. 

Through these programs, and m conjunction with other 

financing sources (mcfuding LlHTC), a signiffcant amount 

commitments to solve all or parts of the homeless problem, 

t~e most recent being the Obama administration's pledge to 

end chronic and veteran homelessness by 2015 and family 

homeless ness by 2020 
234 


80871.187

based organizations, and private entities in the affordable 

housing field. States and local governments are given wide 

discretion over how to use the funds to benefit low- and 

moderate-income households. 

More recently, tv.ro federal housing initiatives-HOPE VI 

and Choice Neighborhoods-have helped transform the 

nation's housing stock by bringing the operating practices 

of the 20th century to public housing in order to establish 

a more effective approach to supporting the lowest-income 

households. HOPE VI emerged from the recommendations 

of the National Commission on Severely Distressed Public 

Housing, and was first funded by Congress in 1993. 

HOPE VI followed a series of earlier initiatives launched by 

former HUD Secretary Jack Kemp, which he hoped would 

increase resident empowerment and quality of life in public 

housing. The program worked to demolish and rebuild the 

existing distressed public housing stock that had become 

synonymous with concentrated poverty and substandard 

conditions with lower-rise, higher-quality homes connected 

to services and amenities. Residential empowerment was 

central to the aim of the HOPE VI program, as was reducing 

density and promoting mixed-income communities. The 

Choice Neighborhoods Initiative, proposed by the Obama 

administration and authorized by Congress in 2011, 

built upon the success of HOPE VI. It aims to transform 

distressed communities into mixed-income places tying the 

importance of increased access to jobs, supportive services, 

and economic and educational opportunity into housing 

developments. 

The commission strongly endorses the 1949 Housing Act 

goal of a "decent home and a suitable living environment 

for every American family." We note that the poorest 

households among us are suffering tremendous burdens. 

Increasing levels of poverty-particularly among children, 

elderly, and working families-give us a strong sense of 

urgency about our recommendations. Working to address 

these critical needs and achieve the goal laid out in 1949 is, 

of course. an ongoing enterprise requiring a sustained policy 

commitment and the dedication of adequate resources. 

At this moment in our nation's history, as our leaders work 

to put the federal government's fiscal affairs in order, we 

believe there must be a rebalancing of federal expenditures 

on housing to ensure a greater focus on helping our most 

vulnerable households-horneless people and those with 

extremely low incomes-and those who are suffering a 

temporary loss of income or a short-term crisis that may 

jeopardize their housing stability. We do not believe our 

nation's most impoverished families should be subject to 

a lottery system or spend years on a waiting list to obtain 

access to federal rental assistance. 

Our recommendations to improve the inadequate affordable 

rental housing system are presented to respond to 

specific and urgent needs that are deeply interconnected. 

Implementation of the entire package of proposals put 

forth by the commission would be the most effective and 

enduring way to respond to the challenges faced by our 

nation's most vulnerable households. We estimate that these 

recommendations, fully implemented, would help meet 

the needs of an additional five million vulnerable renter 

households-through production. preservation, and rental 

assistance. However, the commission recognizes that a 

transition period wHi be necessary to fully realize the specific 

reforms identified. These are fiscally constrained times 

where the resources are not readily available to fully support 

the needs of unassisted households, and calling for any 

additional spending in the current fiscal environment has its 

practical limits. We therefore recommend that our approach 

for meeting the needs of the nation's most vulnerable 

households be phased-in over time, although we make 

these recommendations with a strong sense that action is 

both possible and necessary. 
235 


80871.188

In order to meet the affordable housing needs of the 

nation's most vulnerable households and to ensure the 

overall quality of the housing stock, we recommend that the 

following five objectives guide federal housing pollcy; 

Focus long~term rental assistance on the households with the 

greatest needs to help them afford decent homes. 

Increase the supply of suitable, decent, and affordable homes 

to address both current and projected demand. 

Provide short~term emergency rental assistance to assist 

families who suffer temporary setbacks that threaten to force 

them out of their homes and from which recovery can be 

difficult. 

Reform existing rental assistance programs to improve 

accountabmty and flexibility within the delivery system, as 

well as outcomes for participating households. 

Advance innovative programs that connect housing to other 

sectors like employment and education, health and human 

services, and transportation. 

Each of these objectives is discussed in more detail below. 

We recommend the federal government increase support 

for the nation's most vulnerable households, in order to 

make progress toward the 1949 Housing Act goal of a 

"decent home and a suitable living environment" for all 

American families. More specifically, we recommend that 

federal rental assistance be made available to all eligible 

households with incomes at or below 30 percent of AMI 

who apply for such assistance. At the national leveL 30 

percent of the annual median family income ranges from 

$13,650 for a one-person household to $19,500 for a family 

of four.: , In most areas of the country, renters with incomes 

below this threshold simply cannot afford private-market 

NCltlOlltll 

housing. As a result of their limited financial resources and 

the limited availability of federal rental assistance, nearly 80 

percent of extremely low-income renters spend more than 

30 percent of their income for housing and almost twothirds spend more than half of their income for housing. 

We recommend providing the expanded assistance through 

a reformed housing voucher program. To reduce costs, we 

further recommend that, as families currently enrolled in the 

housing voucher program turn back their subsidies due to 

rising household income or other factors, all newly available 

vouchers be issued to extremely low-income households, 

ensuring that voucher assistance is deeply targeted to 

the households with the greatest needs.·:S Households 

who qualify for the program and subsequently experience 

increased income would not immediately lose assistance; 

however, these households would be expected to make an 

increased payment that is proportionate to their increase in 

income. 

Helping to narrow this gap between incomes and housing 

costs not only directly benefits miIHons of extremely lowincome households, it is also a practical necessity to 

sustain private investment in the supply of rental housing. 

tenants cannot afford the economic costs of their housing, 

landlords may be forced to choose between two equally 

undesirable outcomes: defer maintenance and withhold 

capital investments, or "volunteer" to support the tenants 

by foregoing a reasonable return on their investments. 

The latter choice is unreasonable and unrealistic. The 

former can lead to deteriorated homes and distressed 

communities. While rental assistance is usually categorized 

as a social program designed to help meet the basic needs 

of low-income families, it is also a large-scale investment in 

the physical infrastructure of our communities. By dosing 

the gap between the cost of owning and operating decent 

housing and the rent that extreme!y low-income tenants can 

afford to pay, rental assistance programs sustain a valuable 

component of our physical infrastructure that otherwise 

would be jeopardized. 
236 


80871.189

According to an analysis prepared for the commission by 

Abt Associates, the estimated annual cost of providing this 

increased coverage is approximately $22.5 billion. This is 

the estimated cost of providing a Housing Choice Voucher 

type subsidy to currently unassisted, cost-burdened renter 

households with incomes at or below 30 percent of AMI who 

would be expected to participate in such a program were 

it available. The estimated costtakes into consideration 

resources that are projected to become available, over 

time, as the existing voucher program shifts from serving 

households up to 80 percent of AMI to serving households 

with incomes that do not exceed 30 percent of AMI .. 1 

These estimates do not take into account any potential 

savings resulting trom fewer families becoming homeless 

or reduced health care costs. Further research should be 

conducted to assess the budgetary savings that could be 

generated through reductions in the number of households 

in need of homeless or emergency care services. 

At a time when there is enormous pressure and competition 

for existing federal resources, we know this is an ambitious 

goal; however, it is one we feel is necessary to support 

the needs of our nation's most vulnerable households. By 

plJcing a floor under the most vulnerable households, this 

recommendation would have a number of immediate and 

profound impacts. It could, in effect, end homeless ness 

for the vast majority of those experiencing it. Virtually all 

households experiencing homelessness have incomes 

under 30 percent of AMI, and 80 percent of those who 

become homeless do so almost exclusively for economic 

reasons. 'For the approximately 20 percent of homeless 

persons with disabilities," stable housing would need 

to be combined with treatment and other services, but 

the affordability of the housing would effectively end their 

homelessness. AI! vulnerable persons with disabHlties 

and elderly households would be able to count upon 

stable housing. The most vulnerable and extremely low~ 

income families with children would not face disruptions in 

employment or their children's education because of the 

lack of an affordable home. 

Our nation has developed a stock of nearly five million 

subsidized rental homes that provide quality affordable 

housing, including units funded through the UHTC, the 

project-based Section 8 program, the Section 202 and 811 

supportive housing programs for the elderly and persons 

with disabilities, public housing, and the rental housing 

programs at the U.S. Department of Agriculture. -' In the 

coming years, these properties will play an even more vital 

role in housing the growing population of low~income adults 

over age 65, many of whom are aging in place in affordable 

rental units that were not initially designed to meet their 

current needs. Many of these properties are aging and 

not only need repair, but are operating inefficiently, 

resulting in crippling energy costs. With adequate funding 

for maintenance and modernization, this stock can 

provide decades of additional service, helping millions of 

households obtain and remain in stable, affordable housing. 

To increase the supply of suitable, decent, and affordable 

homes, the commission recommends: 

Proted and expand the low Income Housing Tax 

Credit as the bedrock of the notion's efforts to preserve 

and increase the supply of affordable rental housing. 

The UHTC: is a capped federal tax incentive that is 

allocated to developers through state housing finance 

agencies. Developers compete for credit awards through 

applications that are scored based on how closely the 

proposed development would meet the affordable housing 
237 


80871.190

priorities of the state as laid out in an annual qualified 

allocation pian, Of QAP. The properties must be rented to 

tenants with incomes at or below 60 percent of AM! at rents 

that are capped for a period of at least 30 years. Federal 

law requires that states give preference to properties that 

target lower incomes; as a result, about 41 percent of 

LlHTC residents have incomes at or below 30 percent of 

AMI, and 80 percent have incomes below 50 percent of 

AMI, according to a recent study conducted by the Furman 

Center at New York University that found thJt many of these 

residents were benefitting from other subsidies like Section 

8, as well.: ,1 

It is not economically feasible to develop affordable housing 

at restricted rents, so a subsidy is needed to make up 

the difference between what a property costs to develop 

and the income that can be generated to support such 

development costs. The LI HTC plays that role. Because 

rental income is limited, affordable housing properties 

are not able to support sufficient levels of debt to finance 

development of the property. This contrasts with other real 

estate-both residential and nonresidentia!~which typically 

is substantially financed by debt. Developers use the tax 

credits to raise equity capital from investors in the property 

that serves as a substitute for higher levels of debt. Equity 

investors receive a stream of tax credits for ten years that 

reduces their tax llability on a dollar for dollar basis. 

The program has a number of features that have made it 

a successful tool in affordable housing development. Most 

importantly, the program is administered at the state level 

by housing finance agencies that go through an annual 

process to develop allocation plans based on the housing 

needs of the state. These QAPs ensure that affordable 

housing investment is aligned with the housing needs within 

the state. This structure also builds flexibility into the system 

that enables states to continuaBy tailor their plans to address 

evolving housing needs. 

Futl,re 

Another key feature of the program is the means by which 

it engages market forces to build affordable housing. This 

engagement occurs at a number of levels. First, developers 

compete against each other to obtain an award of credits. 

In most states, the number of applications far exceeds 

the available credits, causing developers to structure their 

applications to earn the most points possible under the 

state allocation plan. Second, investors compete against 

each other to invest in properties, a process that maximizes 

the prices they are wiBing to pay for the credits, resulting in 

greater taxpayer efficiencies. Third, profit margins for the 

companies that provide syndication services to raise equity 

capita! and purchase UHTC properties are driven down 

as they compete against each otiler, also benefiting the 

taxpayers. 

A final feature that has made the UHTC so successful is the 

minimization of risk to the federal government. The LlHTC 

is a pay-for-performance program in whlch the private 

sector, not the government, bears the full real estate risk 

of the investment. If for any reason the property falls out of 

compliance within the first 15 years, stringent IRS recapture 

rules require the investor to pay back a portion of the tax 

credits claimed in previous years. 

The positive results are evident in the program's track 

record. Over the first 24 years of the LlHTC program's 

existence, it financed more than 16,000 properties, or 

1.2 million units, across the country, During that period 

only 98 properties experienced foreclosure, an aggregate 

foreclosure rate of just 0.62 percent. l 'This record is 

unmatched by any other real estate class, including 

residential and nonresidential real estate. 

In recent years, the LlHTC has been called upon to carry 

a larger load in serving the affordable housing priorities of 

federal and state governments. The use of the program to 

create new affordable housing has decHned as a greater 

share of credits has been used to preserve the stock of 
238 


80871.191

existing affordable housing, including both the federaUy 

assisted inventory of housing and older LlHTC properties 

that are in need of recapitalization. As HUD expands its 

efforts to revitalize an aging public housing stock by tapping 

the private capital markets, Housing Finance Agencies will 

undoubtedly be asked to allocate an increasing share of 

housing credits for the conversion of public housing units. 

The commission strongly believes the LlHTC must be 

preserved. Furthermore, to help address the growing 

demand for rental housing, we recommend that the 

annual LlHTC allocation be increased by 50 percent, 

as the resources are identified, to support a higher level 

of affordable housing development. We estimate a 50 

percent increase in the allocated credit would support 

the preservation and construction of 350,000 to 400,000 

additional affordable rental housing units over a ten-year 

period at an average annual cost of $1.2 billion over the first 

ten years. 

An increase in the credits available would provide an 

opportunity to refine the targeting of credits to ensure the 

program is meeting the most critical rental housing needs. 

One approach might be to allocate additional credits based 

on a formula that measures a state·s share of cost-burdened 

renters: another approach might be to base allocation on 

the relative size of a state's renter population. Either would 

be an improvement over the existing allocation formula, 

which is based on a per capita calculation and does not 

reflect differences from state to state in the share of the 

overall population who rents or has a rent burden. '." 

We strongly endorse the use of UHTC resources to 

preserve existing affordable rental properties at risk of 

loss, particularly in the hjgh~opportunity and gentrifying 

neighborhoods where owners of these units are most likely 

to exitthe program when affordability requirements expire. 

However, we recommend leaving the decision on how to 

best prioritize any new LlHTC resources up to the states. 

Provide gap funding sufficienf fo support an expansion 

of the lIHTC. 

To help ensure effective utilization of the expanded LlHTC, 

the commission recommends the provision of gap funding 

at a level sufficient to support this expansion, In most 

markets, the costs to produce or preserve an affordable 

rental housing development exceed the funds available 

through the equity raised by the LlHTC and the debt that 

can be supported by projected rents. For both current 

allocations and an expansion of the LlHTC to be most 

effective, some level of additional funds is needed to cover 

this gap. 

We estimate that $1.0 billion in gap funding would help 

to support the new development financed though the 

suggested incremental increase to the LlHTC program. 

Beyond this funding, an additional $1.0 billion (for a total 

of $2.0 billion annually) would help support existing UHTC 

allocations that have been impacted by the substantial 

reduction in federal appropriations for the HOME program 

in FY 2012. The new gap funding should be authorized 

through the HOME program and restricted for use in 

conjunction with the LlHTC. 

Address the capifal backlog and ongoing accrual 

needs in public housing to preserve the value of prior 

investments and improve housing qualify for residents. 

The nation's stock of public housing is deteriorating 

and shrinking and is in need of basic maintenance and 

modernization. This slow death-by-attrition wastes valuable 

federal housing assets and risks the loss of both highquality and deteriorating units alike. In addition, it penalizes 

residents, 

Accordingly, we recommend an overhaul of the public 

housing system to (1) introduce market discipline; (2) 

improve access to private capital: (3) incentivize publici 

private partnerships; (4) preserve the public investment in 

properties that have been wel!~maintained and are located 
239 


80871.192

Chari 4·3: Number Public Housing Units, 1969!0 2009 

1,600,000 

1,400,000 

1,200,000 

1,000,000 

800,000 

600,000 

1969 1973 1977 1981 1985 

in areas of opportunity; and (5) facilitate the transfer of 

subsidies from properties that are in very poor condition or 

are located in areas of highly concentrated poverty to newer 

properties with longer lifecycles and better locations. 

While the commission stops short of endorsing HUD's 

Rental Assistance Demonstration program, we endorse its 

overall objectives of incentivizing public/private partnerships 

and facilitating access to private sources of capital by 

public housing authorities to support the revitalization and 

modernization of public housing. 

The preservation of existing public housing is estimated 

to cost an additional $4.0 billion annually.' Though this 

additional investment is not likely to increase the overall 

1989 1993 1997 2001 2005 2009 

number of units in the public housing stock, we estimate 

it would help revitalize and prevent the loss of the existing 

stock of 1.2 million public housing units over the next 

ten years. Moreover, where possible, as part of a capital 

improvements program, steps to improve the energy 

efficiency of existing public housing structures should be 

undertaken. By reducing the utility costs associated with 

the operation of these units, improved energy performance 

would result in cost savings over time that could be used to 

support the ongoing maintenance and preservation of the 

stock. 

Encourage the removal of local and state barriers to 

the development of rental housing. 

The nation's housing affordablhty challenges can be 
240 


80871.193

exacerbated by barriers imposed by local cmd state 

laning, permitting and other policies that raise the costs of 

producing new units or restrict the effective and efficient 

use of existing ones. While it is not the federal government's 

role to require local or state governments to adopt specific 

land-use policies, there are measures that can be taken 

to encourage better policies. Federal efforts should (1) 

ensure that communities employing highly restrictive zoning 

and building code policies that substantially drive up the 

cost of housing are not rewarded with larger allocations 

of federal housing funds; and (2) educate local and state 

leaders about the negative effects of regulatory barriers 

on affordable rental housing and highlight promising 

approaches for removing these barriers. 

While the incomes of extremely low-income renters are 

generally insufficient to afford private-market rents without 

ongoing rental assistance, households with somewhat higher 

incomes can afford private-market housing on their own in 

many communities. However, the loss of a job, the death 

or departure of {] working household member, or a major 

medical crisis can lead to short-term affordability crises that 

can jeopardize the residential stability of these households, 

leaving some homeless and others consigned to making 

multiple unwanted moves. This instability can undermine 

educational achievement and create or exacerbate health 

problems. Short-term, targeted funding for security deposits, 

back rent, temporary rental assistance, and other limited 

forms of assistance, such as utility payments, could improve 

residential stability and help prevent homelessness for these 

renters. 

The commission recommends dedicating supplemental 

funding to the HOME program to deliver one-time, 

emergency assistance to households with incomes between 

30 and 80 percent of AMI. The HOME program currently 

allows tenant-based rental assistance to be provided to 

special needs groups~the homeless or those at risk of 

homelessness. This authority should be broadened to 

include any low-income household with income between 

30 and 80 percent of AMI who demonstrates a need for 

temporary assistance. Many of the eligible uses described 

above-security deposits and utility payments-are already 

allowable expenses through the HOME program and 

should be continued. Data currently collected through the 

HOME program does not suffiCiently capture the level of 

detail necessary to demonstrate the effectiveness of this 

short-term assistance. Grantees receiving this incremental 

funding should therefore be subject to additional data 

collection requirements. 

According to the analysis prepared for the commission 

by Abt Associates, the estimated annual cost of providing 

flexible, one-time emergency {]ssistance to eligible renter 

households expected to participate is around $3.0 billion, 

assuming assistance levels up to $1.200 per household.· r 

These households would be ineligible to receive assistance 

under the expanded housing voucher subsidy program 

for extremely low-income households outlined above, but 

nonetheless have modest incomes, may live in overcrowded 

conditions, and experience housing emergencies for which 

a temporary rental supplement could be beneficial. 

This type of program would help to reduce pressure on 

homeless shelters, lowering the number of temporarily 

displaced households seeking assistance and generating 

offsetting savings in programs serving those populations. 

HUD has experience operating larger-scale programs 

of homelessness prevention, particularly the t.hreeyear Homelessness Prevention cmd Rapid Re-Housing 

Program (HPRP) that was part of the 2009 economic 

recovery legislation. HPRP is widely regarded as having 

been instrumental in preventing the large increase in 

homelessness that was expected to result from the Great 

Recession. 
241 


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Further study of other mechanisms for delivering temporary 

emergency assistance could be helpful. For example. 

a rental insurance program may be a promising way to 

help households with temporary emergency needs. A 

rental insurance program would require tenants to make 

an initial payment upon occupancy of a unit toward an 

insurance policy that would cover payment of rent and 

utilities in the event of an emergency. The insurance 

program would be set up to provide a fixed payment 

amount to the landlord for a fixed number of months. 

Though rental insurance programs are promising, they still 

require rigorous testing to assess their overall effectiveness 

in preventing homelessness for low-income, unassisted 

renters; discouraging discrimination against lower-income 

households; and decreasing the average length of stay in 

longer-term assistance programs. 

The changes we have proposed above wlll enable more 

households to access affordable rental housing. However, 

we recognize that additional benefits could be achieved if 

we also improved how housing assistance is delivered. This 

section describes improvements to the process of delivering 

rental assistance, providing an important complement to our 

recommendations for expanding avaHability. 

While HUD's rental assistance programs generally do a good 

job reducing to affordable levels the rents that households 

pay, there are a number of significant challenges that must 

be overcome in order for the programs to more fully realize 

their potential to improve the life outcomes of assisted 

households. To address these chaUenges, the commission 

proposes a major overhaul of the incentives' structure 

for all HUD rental assistance programs, creating stronger 

incentiVes for housing providers" to improve efficiency 

and housing quality among other desired outcomes. This 

While the commisSion recommends that rental assistance be 

delivered through an improved voucher program, a renters' 

tax credit is another vehicle that illustrates how tax credits 

could be used to deliver rental assistance and may warrant 

additional consideration 

A renters' tax credit, developed 'by the Center all Budget and 

Policy Pnorities, could be administered by states working 

PO!ICY 

in public-private pa'rtnerships with lenders and/or property 

owners. This approach is Similar to that taken by the LlHTC 

program and the Section 8 voucher program, States would 

receive an annual allocation of credits determined by either 

populatlon or a need-base,d formula, Credits allocated to each 

state could be used by low-income renters to reduce rents 

at a property of theIr choosing, by property owners offeri,ng 

affordabie rental unITS for loxv-incbme, households, or by 

lenders underwriting affordable rental properties. Property 

owners could either claim the tax credit based on the rent 

deduction provided, or pass tile benefit along to t~e property's 

lender In return for reduced mortgage payments 

combmatlon WITh the UHTC, consrstent with federal income 

eligibility and targeting reqUirements, The progri:"lrrf Gould also 

be used to advance identlfied state policy goals that benefit 

low-income househoi9S, States would be responsible fbr the 

program's administrative. costs 

Such a program could help increase the ability of low-income 

households to pay prevaiHng rents in hlgh-opp0!1Ut'Hty 

neighborhoods, as well as help stimulate productioll'and 

preservatlon of affordable rental hOllslng for low-income 

households and reduce homelessness. Renters benefitting 

from the tax credit would be' required to pay no more than 30 
242 


80871.195

proposed system would reward high-performing housing 

providers with substantial deregulation, providing greater 

freedom to innovate and depart from standard HUD 

practices. At the same time, providers who fail to achieve 

acceptJble results should lose the right to administer 

the programs, with new administrators chosen through 

competitions held among providers, The end result of 

these proposed changes would be more efflc'iency, better 

outcomes for residents, and more freedom for providers to 

innovate, 

There are important differences among the various HUD 

rental assIstance programs. The outcome-based system 

we articulate will therefore need to be tailored to the 

specific characteristics of each program. Nevertheless, 

the fundamental transformation in the delivery system-a 

shift in emphasis toward outcomes rather than process, 

combined with increased accountability for results and 

greater flexibility for high performers-would benefit aU of 

HUO's rental assistance programs. We propose to apply 

this new system initially to the three main HUD rental 

assistance programs: housing vouchers, publlc housing, 

and project-based Section 8, followed by adaptations for 

other more specialized programs, such as Section 202 

and 811 supportive housing for the elderly and persons 

with disabilities, as well as eventually to rental assistance 

funded through USDA, States could also be encouraged 

to align the housing priorities articulated in their QAPs with 

the outcomes we outline below, alloWing residents of LlHTC 

properties to benefit from this outcome-based approach. 

A transition period w!!! be necessary during which time 

various approaches to applying an outcome-based 

measurement system are considered and evaluated. This 

transition.J! period wi!! provide a va!u.Jble opportunity to 

engage stakeholders in conversation~informed by the close 

analysis of program dDta~on how to improve the outcomes 

of our nation's rental assistance programs. 

Problems with the Current Delivery System 

Overall, the nation's rental assistance programs do a good 

job of ensuring that participat'lng families have access to 

affordable rental units. At the same time, however, it is 

clear that the system can be improved in ways that benefit 

participants whlle improving efficiency and reducing 

administrative burden. High-capacity housing providers and 

other stakeholders administering HUD's rental assistance 

programs regularly express a number of concerns with the 

current deHvery system, including; 

Overly prescriptive and burdensome rules, The laws and 

regulations governing HUD's rental assistance programs 

have, over time, evolved into a set of highly prescriptive 

rules, which some housing providers believe make it difficult 

to effectively adapt the programs to meet local needs 

and generate substantial compliance costs that reduce 

the ability of agencies to focus resources on improving 

outcomes for residents. These rules generally were shaped 

by experience, often a scandal in program administration, 

and were designed to prevent its repetition and provide 

essential protection for taxpayers and program participants, 

Others are the result of congressional mandates or court 

rulings issued in response to lawsuits over management 

problems. Whatever their provenance. tlowever, there 

is widespread agreement among housing providers that 

many of these prescriptive rules are hindering rather than 

fostering efficiency. 

One specific concern raised by some housing providers is 

that the rules governing HUD's rental assistance programs 

do not pay adequate attention to differences among local 

real estate markets. Providers argue that solutions must 

be crafted in the context of local real estate markets and 

the local economy. In this vein, providers argue for more 

flexibility, for example, to adjust voucher payment standards 

to account for local variations in rents and more flexibility 

to adjust inspection standards to account for neighborhood 
243 


80871.196

quallty (such as safety and/or concentration of vacant 

homes), 

Insufficient accountability for results. A historical focus 

on process, rather than outcomes, has allowed housing 

providers in HUO's performance management systems to 

receive high scores even if their outcomes are mediocre. 

For example, in HUO's housing voucher program, the 

performance measurement system examines the extent to 

which agencies re-inspect properties found to have had 

a deficiency in an initial inspection. but does not directly 

assess the quality of the units that residents occupy. L 

Perhaps as a result, HUO data raise serious concerns about 

the quality of housing occupied by assisted households," 

Failing to realize the potential of housing as a platform 

Today, many housing practitioners recognize that rental 

assistance can serve as a platform for attaining broader 

social outcomes related to resident health, educational 

achievement, economic opportunity, independent living 

for older adults and persons with disabilities, and the deconcentration of poverty. HUO has not set up a performance 

management structure that strongly incentivizes these 

outcomes, in part because of concerns by housing providers 

that they have neither full control over their achievement nor 

the ability to collect data measuring results in these areas. 

Nevertheless, some stakeholders argue that HUD should 

place more emphasis on these broader sodal outcomes 

through its performance management system and through 

enhanced partnerships with other relevant federal agencies. 

Insufficient support for measuring outcomes and cross-site 

learning Even as HUD invests resources in regular audits 

of local programs to make sure all the procedures are being 

followed, providers receive little assistance in measuring 

program outcomes or identifying promising approaches 

for achieving them. To its credit. HUD has stepped up 

its research program in recent years to help identify 

successful approaches for achieving a range of objectives, 

Future 

but providers need even more assistance tracking realworld outcomes and impacts on assisted households, as 

well as opportunities to learn from the experiences of other 

providers facing similar challenges. 

Remedying these concerns will require a shift in HUO's 

general approach to managing federal housing programsfrom a rigid focus on compliance with program rules to a 

focus on achieving key outcomes, while providing support 

for innovation, entrepreneurship, and flexible administration, 

In this regard, it is important to acknowledge that additional 

staff, training, or other resources may be needed at HUD 

to ensure they can effectively manage these reformed 

programs. Staffing levels at HUD today are about one~half 

what they were in the 1980s.: '0 It is not reasonable to layer 

more requirements for the programs HUO administers, or 

demand higher outputs and outcomes, without providing 

adequate tools and staff, or enabling flexibility in staffing 

and administration to support the agency's ability to carry 

out such mandates. 

An Improved Approach 

To address these challenges and strengthen HUO's rental 

assistance programs, we propose a fundamental shift in the 

incentives' structure for HUD-funded housing providers to a 

system marked by the follOWing characteristics: 

A focus on outcomes, rather than process. We propose 

establishment of a performance management system that 

measures resident outcomes across all rental assistance 

programs, focused on creating jncentives for greater 

efficiency and improved housing quality, as well as ensuring 

that rental assistance meets its full potential to serve as a 

platform for the achievement of other social outcomes, 

Expanded deregulation for high performers, As an incentive 

for providers to achieve strong outcomes, we propose 

to reward high-performing providers with SUbstantia! 

devolution, giving them broad latitude to depart from HUD 
244 


80871.197

4. A,1ford"ble 

program rules akin to the flexibility currently provided 

to housing authorities enrolled in the Moving to Work 

demonstration.) , 

legislation, we urge HUD to work collaboratively with the 

full range of stakeholders to consider these and other 

solutions for reducing the burden on housing providers, 

while ensuring the continuation of essential protections for 

Increased accountability through competition. At the same residents. 

time, providers that consistently fall to deliver an acceptable 

level of performance should be held accountable for 

inadequate results by having the right to administer their 

housing subsidies taken away and assumed by a higherperforming agency selected through a competitive process. 

Real-time learning environment. To support the outcomebased performance measurement system and stronger 

performance by housing providers, HUD (either directly 

or through contractors) should expand its role providing 

data, evaluating promising approaches, and facilitating the 

exchange of information among providers. 

Greater focus on interagency partnerships. To more fully 

realize the potential of rental assistance to advance 

goals related to healthy housing, economic opportunity, 

independent living for older adults and persons with 

disabilities, and the de-concentration of poverty, we 

recommend the development of more robust interagency 

partnerships between HUD and other agencies that 

can help align performance management systems and 

resources to achieve these goals. 

In addition to instituting and supporting this new 

performance meaS\Jrement system, we recommend that 

HUD consider other opportunities to reduce the burden 

of regulatory compliJnce, particularly among small public 

housing agencies that lack staff capacity. A number of 

models have been advanced to address the concerns 

of small agencies." Additional ideas for simplifying the 

administrative process, including ideas for streamlining 

the property inspection and income-verification processes 

have been developed and have bipartisan support. While 

the commission stops short of addressing any speCific 

Stewards for Affordable Housing In the Future~an association 

of affordable housing developers with members, who have 

properties throughOut the country-has begun an initiative to 

track outcomes 1n areas which thelr members see as cnHeal 

to,heipmg lOW-income housellolds help themselves. This 

system includes measun~s related to: work, income, and 

assets; youth and education; housing stability; community 

engagement; and health !:md well ness. 

likewise, NeighborWorks America has an outcome-based 

measurement system, known as the "Success Measures 

Data System," that measures outcomes related to affordable 

housjng. community building, and economic development: 

In translatln'g our recommendations'into practice, It would 

be useful to conSider the experiences of these and similar 

measurement systems developed by high-performing 

nonprbflt organizat1ons. 

Key Desired Outcomes of HUD-funded Rentol 

Assistance 

To more effectively achieve the full potential of rental 

assistance to improve participants' life opportunities, the 

commission recommends t.hat a new accountability system 

be established to achieve the follOWing key outcomes: 

1. Improve housing quality. All units funded through the 

housing voucher program must pass an inspection to 

ensure they meet basic housing quality standards. Public 
245 


80871.198

housing authorities and owners of assisted rental housing 

are similarly responsible for maintaining acceptable levels 

of housing quality. These rules help to direct scarce 

federal resources to high-quality housing and should be 

strengthened in a reformed system that seeks the best 

outcomes for tenants. Federal resources should not be 

dedicated to supporting substandard housing. 

2. Increase the efficiency with which housing assistance is 

delivered. The rising cost of rental assistance requires 

significant budget increases each year to continue serving 

the same number of households and puts pressure on 

funding levels for other important HUD programs. There 

is a tension between the goal of lowering costs and 

achievement of other policy objectives, such as improving 

access to neighborhoods of opportunity. But all things 

being equal, lower costs would help HUD stretch scarce 

budget resources further. In particular, we recommend 

focusing on reducing administrative costs and on 

ensuring that rents are set at levels that are at or below 

market, and not inflated. 

3. Enable the elderly and persons with disabilities to lead 

independent lives. The population that receives federal 

housing subsidies is aging and grcming increasingly frail. 

While many of these households can live independently 

without additional services, many cannot-particularly 

the frail elderly and persons with severe or multiple 

disabilities. Given the great expense and disruption of 

moving these households to nursing homes, the preferred 

alternative is to ensure that these households have access 

to the services that may be needed to enable them to live 

independent lives within HUD-assisted housing, such as 

coordination of health care, preparation of meals, and 

assistance with transportation. See Chapter 6, Aging In 

Prace: A New Frontier in Housing 

4. Promote economic self~sufficiency for households 

capable of work. Evidence indicates that housing 

assistance by itself is not enough to boost employment 

and earnings. Research on the Jobs Plus and Family 

Self-Sufficiency programs-two promising housing-based 

self-sufficiency initiatives-suggests that a combination 

of work-promoting services and financial incentives can 

help households with rental assistance increase adult 

employment and earnings. Higher earnings, in turn, 

lead to higher rent payments by residents, reducing 

federal expenditures and enabling many households to 

transition off of assistance. 

5. Promote the de~concentration of poverty and access to 

neighborhoods of opportunity. Both research and practice 

confirm the harmful effects of concentrated poverty on 

the well-being of low~income households and the health 

and educational benefits of accessing neighborhoods with 

better schools and lower poverty rates. :: . While preserving 

individual choice, housing policy should strive to increase 

opportunities for households to find affordable housing in 

areas of opportunity and avoid concentrated poverty. 

Among other strategies for achieving this goal are: 

(a) mobility counseling to help voucher-holders with 

children access available housing in high-opportunity 

neighborhoods with good schools, (b) the use of projectbased vouchers to secure affordable housing opportunities 

for older adults in walkable neighborhoods near planned 

or existing transit stations, and (c) the redevelopment of 

public housing or project-based Section 8 housing in a 

manner that facilitates a greater mix of incomes. 

Explanations of each system component follow: 

Outcome-based performance standards, 

By establishing an outcome-based measurement system, 

HUD could determine which providers are excelling in 

achieving key housing outcomes and which are not. 

Of course, providers also need to be competent in 

administering basic program functions and fulfilling basic 

requirements efficiently and effectively. But given the 

potential of affordable housing to lead to meaningful and 
246 


80871.199

figure How the Proposed System Would Work 

Outcome-Based Performance Standards 

1. improve housing quality 

2, Increase the efficiency with which housing 

assistance IS delivered 

4.' Promote economic self-sufficiency fOi 

hoUseholds capa ble of work 

measurable improvements in the lives of individuals, we 

recommend moving beyond a focus on rule compliance to a 

focus on outcome~based results. 

For the most part, HUD's current rating systems fa!! short 

of this charge. HUD has established separate systems 

for rating the performance of local providers of Section 8 

housing voucher programs, public housing programs, and 

multifamily assisted properties. The current rating system 

for Section 8 housing vouchers-the Section 8 Management 

Assessment Program, or SEMAP-focuses largely on 

compliance with basic program mechanics (such as full 

utilization of vouchers and prompt follow-up on quality 

deficiencies identified during housing quality inspections) 

and stops well short of identifying truly excellent programs. 

HUD's assessment systems for public housing (]nd 

multifamily assisted housing include a somewhat greater 

focus on outcomes-particularly housing quality ': --but 

stop short of identifying programs that excel in achieving 

the five programmatic outcomes the commission has 

identified. :1) Providers also note that HUD's rating and 

reporting systems do not work effectively for agencies with 

Moving to Work authority, leading to complications and 

administrative burdens. 

A new mting system wi!! be challenging to implement, with 

providers likely to argue that they lack direct control over 

the outcomes that will be measured. The rating systems will 
247 


80871.200

also need to account for differences in housing markets, 

as weB as differences between rental assistance programs. 

For example, it wi!! be much easier to promote the deconcentration of poverty in a tenant-based program like 

the housing voucher program than in a project-based 

program like public housing or project-based Section 8, 

where the physical location of a property is fixed. Despite 

these challenges, measures of program excellence need to 

be developed as the prerequisite for a system designed to 

promote better outcomes for participating households. 

Some housing providers have expressed a preference for 

having a third party administer the rating system, rather 

than HUD. We do not express a specific opinion about who 

does the evaluation but rather emphasize the importance 

of ensuring that outcomes are measured effectively and 

objectively. 

Increased devolution for high performers. 

HUD should provide greater flexibility to agencies that have 

demonstrated their competence by excelling in achieving 

the outcomes measured by the new accountability system 

we propose. This flexibility should be broad-similar to 

that provided to public housing agencies participating in 

the Moving to Work demonstration. At the same time, this 

shift should be closely monitored to ensure that program 

beneficiaries are not inadvertently hurt. Special care should 

be taken to ensure that increased flexibility does not 

adversely impact the elderly and persons with disabilities. 

Providers receiving this flexibility should continue to be 

monitored to ensure continued excellence, with penalties 

imposed jf their performance declines sharply. The following 

are examples of the kind of flexibility that high-performing 

providers could use to better achieve key programmatic 

outcomes: 

• The ability to modify rent rules to promote economic selfsufficiency - In Portland, Oregon the housing authority 

N"tIOIH! 

has used its Moving to Work authority to offer participants 

in its Opportunity Housing Initiative a financial reward for 

higher earnings. Participants continue to pay incomebased rents, but all amounts above $300 per month go 

into an escrow account that the family can access once 

it has met the program requirements (which include 

employment and graduation from housing assistance). 

Among other benefits, the housing authority believes 

this variation on the traditional Family Self-Sufficiency 

program model is more likely to be cost-neutral or even 

revenue positive, allowing it to offer the incentive more 

broadly. 

• The ability to extend housing quality standards to 

incorporate neighborhood quality In Atlanta the housing 

authority decided that the use of a housing voucher to 

rent a unit in a dangerous neighborhood was not an 

acceptable outcome, even if the unit itself would meet 

traditional HUD housing quality standards. Accordingly, 

Atlanta has modified the standards that it uses to 

determine whether to approve a rental opportunity~ 

offered to a family with a housing voucher-to include 

such issues as the extent of vacant and abandoned 

propeliy nearby, as well as signs of suspicious illegal 

activity.' 

• The ability of owners of multifamily assisted properties to 

achieve economies of scale by operating on a portfolio 

basiS.143 - Current housing policies and programs drive 

affordable housing owners to manage each housing 

development as a separate stand-alone entity with its 

own financing, compliance, and reserves. For missionoriented OVI'ner/operators who have large portfolios of 

properties, this approach needlessly raises operating and 

compliance costs, makes it difficult or impossible to raise 

capital at the enterprise level, and prevents deployment 

of capital and excess cash proceeds to achieve better 

outcomes for the people they serve. The commission 

supports consideration of policy changes that allow and 
248 


80871.201

4. ,il,.lfurdable Rent?i 

encourage the strongest, performance-oriented providers 

to manage their properties at a portfolio level to increase 

the impact of these resources. See Text Box, Entity-level 

Finance and Operations. 

Equrty, excess reserves, and residual receipts assocJated 

with a property that is operating well are now locked In that 

property. If portfolio owners could move resources to a weaker 

property in the portfOlio to tltrprove' Its operating performance 

or pfeserve It as affordable housing over a longer period of 

be maintained 

and costly deferred Entity-level finance 

would dna ble owners or property managers to provide 

ahd state housing officials with a single audit for a 

of properties rather than pay for an audit of each property 

as reqUired 

then {leploy this capita! to those places In their portfolios with 

the greatest needs and the greatest return on me investment 

dollaL Fma11y, the mallag"meht oj 

on other 

Substandard performers replaced through competition. 1M 

The prospect of competition should promote stronger 

performance among providers, while the competition 

process itself would strengthen administration by bringing 

in proven providers to run struggling programs. To protect 

residents, the competition should be limited to providers 

with a track record running the program in other locations. 

To gain experience. prospective providers who are not 

already operating a program could start out acting as sub~ 

contractors to existing program providers. 

In many cases, neighboring housing authorities or other 

local providers will be strong candidates for winning 

these competitions. Given the benefits of consolidating 

administration of smaller voucher programs, HUD may elect 

to make consolidation an explicit goal of the competition 

process. 

In developing new accountability policies, it will be essential 

to recognize the impact of inadequate and uncertain 

funding on providers' ability to meet their responsibilities 

and run excellent programs. Public housing authorities, for 

example, report receiving funding at levels well below those 

necessary to operate their programs effectively, leading to 

reductions in housing quality and numbers of households 

served. Owners of project-based Section 8 developments 

raise similar concerns. The sweeping of provider reserve 

funds could likewise jeopardize provider flexibility to meet 

changed circumstances and adversely affect the ability of 

providers to attract talent and implement innovation. 

Rigorous experimentation and promising practices. 

FlexibHity in program rules can create incentives for 

high performance. But flexibility also may lead to new 

approaches that yield better outcomes for households. 

When new approaches are tried and proven to be 

successful, without causing hardship or undermining other 

programmatic goals, they should be made available as 

options for all providers, including standard performers that 

may not have Moving to Work-type authority. 

Rigorous evaluation of new approaches can help provide 

the data necessary to determine if a particular approach 

is effective, and HUD and Congress should invest in the 

data collection and evaluation tools needed to track and 

confirm the costs and benefits. The new approaches 

taken by high-performing providers through devolution 

provide a natural testing ground for evaluating new ideas. 

By tracking outcomes and constructing and executing 

research frameworks built around these ideas,' 1>' HUD can 
249 


80871.202

ensure that new ideas are thoroughly studied before being 

incorporated into the program rules applicable to standard 

agencies. 

A number of current studies by HUD's Office of Pollcy 

Development and Research (PD&R) i!lustrate the potential 

of rigorous evaluation to generate the evidence base needed 

to determine whether new program options should be 

made broadly aV<Ji!able to all administrating agencies. For 

example, PD&R is studying the effect of applying Small Area 

Fair Market Rents (FMRs) in six metropolitan regions across 

the country. In these trial areas, public housing authorities 

are able to use FMRs calculated at the zip-code level rather 

than the metropolitan or Core Based Statistical Area level. 

as is currently the case. One purpose of this effort is to 

provide assisted households accessib!!ity to a broader range 

of neighborhoods, including high-opportunity areas that 

might otherwise be prohibitively expensive for low-income 

families. Early evidence from a Dallas case study suggests 

that significant shares of voucher-holders are moving to 

safer neighborhoods after a year of the Sma!! Area FMRs 

being in effect. Additional research is needed to determine 

the fiscal impact of these changes and their impact in other 

study sites. 

More robust efforts are needed to facilitate the 

documentation of innovative approaches (md sharing of 

promising practices among program providers. With multiple 

providers trying new approaches for achieving similar 

objectives. strong lines of communication wi!! be needed to 

ensure they have opportunities to learn from each other both 

about approaches that appear to lead to better outcomes 

and approaches that do not generate the expected benefits 

or lead to unexpected costs or other problems. Rather than 

asking each !ocal agency to investigate and evaluate the 

practices of other providers on its own, it would be much 

more efficient and effective to assign this function to a single 

entity or consortium of entities with complementary expertise 

funded centrally by HUD. 

Huusng POliCy 

This would not be a regulatory function-no local housing 

agency will be forced to adopt any of the policies highlighted 

in these reviews-but rather a support function designed 

to provide timely and relevant information to local providers 

to help them develop more effective rental assistance 

programs. The practices covered by this documentation 

and information-sharing process will include both the details 

of program administration (e.g., how to increase utilization 

of housing vouchers or improve the accuracy of income 

verification) as well as practices to better achieve key 

programmatic outcomes. 

Many details wi!! need to be worked out in order to fully 

implement an accountability system that improves the 

delivery of rental assistance. A transition period will help to 

appropriately identify and phase in the relevant metrics for 

measuring the identified outcomes. During the transition 

process, well-accepted measures of outcomes or outputs 

could be adopted and implemented on a phased-in basis, 

even as new measures are developed and existing ones 

are strengthened. In developing the new measures, it will 

be important to identify those that apply both to agencies 

operJting under standard rules and the high-performing 

agencies that have received opportunities to depart from 

these rules. 

The commission hopes to encourage a data-driven 

debate about what the nation ultimately wishes to achieve 

through its rental assistance programs, beyond the core 

value of affordability. As a transition period proceeds, it 

wi!! be important to ensure that the debate itself does not 

undermine progress in developing and implementing the 

new system. The new performance measures should be 

thoroughly vetted and tested, but we cannot let the perfect 

be the enemy of the good. The perfect accountability system 

may be unattainable, but a much improved, reformed 

system is definitely achievable and will lead to stronger 
250 


80871.203

Chlpter 4 

outcomes for the milhons of households participating in 

federal rental assistance programs. 

There is much that local housing providers can do on their 

own initiative to make progress in achieving goals such as 

increased economic self-sufficiency for residents and an 

increused ability of older adults and persons with disabilities 

to lead independent lives. However. the l1kelihood of 

achieving these goals will be increased substantially if 

housing providers can count on the active collaboration of 

partner agencies working at the local level on issues like 

education, workforce development, human services, health, 

aging and disability, and transportation. 

Accordingly, HUD should continue to build strong 

relationships with other federal agencies to develop 

coordinated gUidance at the federalleve! to promote the 

more efficient use of existing resources at the local leveL 

Federal interagency efforts should be designed to generate 

guidance on specific uctions that local agencies can take to 

advance shared goals. 

In the area of economic self-sufficiency, for example. 

interagency partnerships among HUD, the Department 

of Labor (DOl), and the Department of Health and 

Humun Services (HHS) could focus on coordinating the 

services offered by DOL and H HS grantees with famlly 

self-sufficiency programs administered by local housing 

providers to expand the number of families benefitting from 

a comprehensive array of services that can together help 

boost earnings and employment stable affordable housing, 

economic incentives to increase earnings and build assets, 

work-promoting case management or coaching, and access 

to work-promoting services. 

Similarly, an already-established partnership between HUD 

and HHS is focused (among other things) on maximizing 

the access of older adults and persons with disabilities with 

rental assistance to the services needed for them to live 

independently. If implemented robustly, this partnership 

could, for example, facilitate the use of Medicaid for services 

that help older adults remain in HUD-assisted housing, 

rather than transitioning to nursing homes, Research is 

now underway to test the extent to which service-enriched 

housing can help reduce Medicaid and Medicare expenses; 

to the extent this research demonstrates savings, there 

will be additional benefits to this type of interagency 

collaboration. See Chapter 6, Aging in Place: A New Frontier 

in Housing. 

Other promising areas of interagency collaboration include: 

combating homelessness, meeting the housing needs 

of veterans, promoting healthy homes, improving energy 

efficiency, and ensuring that families of all incomes have 

access to emerging areas of opportunity near pubHc-transit 

stations, job centers, and other areas with low transportation 

costs, The commission applauds the federal government for 

its efforts to date in building partnerships between federal 

agencies and recommends that these efforts be continued 

und strengthened to more effectively meet the cross-sectoral 

challenges of housing, poverty, health, aging, and economic 

growth. 

Table 4-1 summarizes the commission's recommendations 

for affordable rental assistance and provides estimated 

annual costs for each recommendation. 

The commission is aware of the difficult issues that wi!! need 

to be addressed in the coming years to balance federal 

budget priorities. The federal government currently provides 

substantia! resources in support of housing, the mujority of 

which is in the form of tax subsidies for homeownership, 

as set forth in Figure 4~2 below. The commission supports 

the continuation of tax incentives for homeownership-
251 


80871.204

recognizing the importance of this tax policy to homeowners 

in the United States today. The commission notes that 

various tax benefits provided to homeowners, including 

the mortgage interest deduction, have been modified 

over the years. In the ongoing debate over tax reform and 

budget priorities, all revenue options must be evaluated. In 

that context, the commission recommends consideration 

of further modifications to federal tax incentives for 

homeownership to allow for an increase in the level of 

support provided to affordable rental housing. Any changes 

should be made with careful attention to their effect on 

home prices and should be phased in to minimize any 

potential disruption to the housing market. A portion of 

any revenue generated from changes in tax subsidies for 

homeownership should be devoted to expanding support for 

rental housing programs for low-income populations in need 

of affordable housing. 

In addition, the commission recommends retaining in 

a reformed housing finance system the fee adopted by 

Congress in the Housing and Economic Recovery Act of 

2008 (HERA) 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. 

The commission strongly opposes using fees imposed on 

mortgages to finance governmental expenditures outside 

of the housing sector. In 2011, Congress enacted a 

supplemental 10 basis point fee on single-family mortgages 

guaranteed by Fannie Mae and Freddie Mac to cover a 

portion of the cost of extending Social Security payroll tax 

relief. Proceeds from this fee are included in the cost of new 

mortgages guaranteed by the companies and the proceeds 

deposited in the general Treasury. In November 2012 the 

rable 4·1: Es!Imaled Annual Costs and Polenliallmpacl 

Short-term assistance to households experiencing 

residentlailnstabliity 

Gap finanCing to support an expansion of the LI HTC 

program 

$3.0 

$1.0 - $2.0 

2.4 million 

N/A 
252 


80871.205

House of Representatives approved legislation to extend 

this fee for a year beyond its October 21, 2021, expiration 

to finance immigration reform legislation. There is no policy 

justification for requiring that the single-family mortgage 

finance system bear the burdens of programs that have no 

relationship to housing. 

However, the adoption of fees to support targeted 

expenditures is well-established in Socia! Security, 

Medicare, transportation, and airport funding. HERA 

established a 4.2 basis point mortgage fee on new singlefamily mortgages guaranteed by Fannie Mae and Freddie 

Mac. The funds were allocated specifically to the National 

Housing Trust Fund to finance affordable housing for very 

low-income households, and the Capital Magnet Fund in 

the U.S. Treasury for CDFls carrying out affordable housing 

and community Jnd economic development lending. No 

fees were ever collected because shortly thereafter Fannie 

Mae and Freddie Mac were put into conservatorship 

and collection of the fees was suspended by the Federal 

Housing Finance Agency. 

billion) 

The Home Loan Banks' Affordable Housing Program 

(AHP) is.a working example of a federal housing policy thai 

set aside 10 percent of lts net income each year for' assistance 

to low~ and moderate~income familles and Individuals. AW;;lrds 

made through tile program may be provideg as grants or 

loans and can ?erve a variety of purposes related to affordable 

hoUSing, Includlng acquisition, construction, or rehabHitation 

of rent"!! and owner-occupied housing. Set-asides may'aiso 

be provl'ded Jor homeownershJp assistance,and housing 

counseling. Eligibility for AHP is irmlted to the member 

instltuMns of each Home Loan Bank, which partner with local 

housing developers and community arganfzations to submit 

appjjcatjon~ and benefit from the'opponunity to earn credit 

toward their community Investment goals. 
253 


80871.206

Figure 

70 

60 

50 

40 

~ "0 

" '0 

. 30 

c 

~ iii 

20 

10 

HO\iSlng 

Estimates Federal Tax and Spending Supports for Housing 

24.5 

Owner iii Deduction for mortgage interest on owner-occupied residences 

~ DeductIOn for property taxes on real property 

'" Exclusion of capital gains on sales of principal residences 

Other tax expenditures - owner 

o Other appropriations - owner 

Renter II Low Income Housing Tax Credit 

ill! Preferred rate on capital gains (15%) 

Depreciation of rental housing in excess of alternative depreciation system 

22.3 

2.4 

Other tax expenditures - renter 

t]j Tenant-based rental assistance 

% Project-based rental assistance 

Other appropriations - renter 

Public housing 

189 

4.2 

2012 Federal Housing Expenditures and Appropriations 

93 
254 


80871.207
255 


80871.208

Although housing costs are generally lower in rural 

communities, lower incomes and higher poverty rates make 

housing unaffordable for many rural residents. Overall, 

the median income for rural households ($40,038) is 20 

percent lower than the national median income ($50,046) 

and more than 20 percent lower than the median income 

for urban households ($51,998). ,v In 2010, the U.S. 

poverty rate was at its highest since 1993 at 15.1 percent; '.;-

yet, the rural poverty rate was even higher at 16.5 

percent. i-;" Many rura! households live in counties classified 

as high poverty areas with a poverty rate of 20 percent or 

more."" 

More than seven million families--or nearly 30 percent 

of all rural households~spend more than 30 percent of 

their monthly income on housing costs and are considered 

cost-burdened.' "The lack of affordable housing prevents 

households from meeting other basic needs, such as 

nutrition and health care, or saving for their future. 

Although rural homeowners hip rates are higher than the 

national average 'e: and mortgage-free homeownership is 

more common in rural America than in urban and suburban 

areas,:' -the home values in rural parts of the country are 

generally lower, with more than 40 percent of rural homes 

valued at less than $100,000 .. c; In addition, rural homes 

are more likely to be in a substandard condition. Nearly 6 

percent of rural homes are either mooerately or severely 

substandard, without hot water, or with leaking roofs, rodent 

problems, or inadequate heating systems .. "~ These poor 

housing conditions put additional financial constraints on 

low-income families. 

nee 

Rental housing is an important housing option in rural 

America. While renters from rural areas occupy 17 percent 

of all U.S. rental-housing units, rural renters are more 

likely to live in single-family homes or smaller multifamily 

structures (with fewer than five units) than their urban and 

suburban counterparts. In addition, a far larger percentage 

of rural renters occupy manufactured homes. Rural rental 

housing is also generally older than rural owner-occupied 

homes, with approximately 35 percent of rural rentals built 

more than 50 years agoY'~ 

The same demographic trends that are transforming 

the country are also at work in rural America. While the 

population of rural America is generally older than that of 

the nation at large, rural parts of the country are graying 

with the aging of their Baby Boomer populations and the 

outmigration of younger households, many of whom are 

seeking employment opportunities elsewhere. In addition, 

Hispanics now rank as the largest minority group in rural 

America, with much of the population growth in rural 

communities attributable to the growth in the number of 

Hispanics who live there.; 

The federal role in supporting rural housing can be traced 

back to the Housing Act of 1949, which authorized the 

Farmers Home Administration to issue mortgages for the 

purchase and repair of rural single-family houses, as well 

as to provide financial support for rural renta! housing. 

Subsequent federal legislation shifted these responsibilities 

to the Rural Housing Service (RHS), the agency within the 

U.S. Department of Agriculture that today administers the 

USDA's rural housing programs. 
256 


80871.209

The following are brief summaries of the major rural housing programs provided by USDA.~ These programs are often used in 

combination, and provide loans, grants, [oan guarantees, and other support to help meet housing needs In rural America. 

Homeownershlp programs 

• Section 502 Guaranteed loan - Guarantee of up to 90 

percent of principal on by prrvate 

lenders to low- and in amounts up 

to 102 percent Oncludlng, a 2 percent guarantee fee) of the 

home's market value or acquisltion cost (Funding in FY 2012: 

$24bNlion) 

• Section 502 Direct loan - Direct, fixed-interest fin~ncing in 

amounts up to 100 percent of the' home's market value or 

acquisrtion cost to low-income individuals to purchase, build, 

Rental programs 

• Section 521 Rental Assistance ~ Project-based 

• Section 538 Multf-F'amily Housing Guaranteed Loans ~ 

Guarantee of up to 90 percent of principal (97 percent for 

nonprofit developers) on loan$ issued by pnvate lenders 

to support construction, acquisiti0[l, and rehabilitation 

repair, or renovate homes (Funding in FY 2012: $900 million) • Section,515 Rural Rental Housing Dlre~t Loans· Long-term, 

Section 504 Very low~tncomeRural Housing Repair loan low-interest loans to hmlted-profit and nonprofit develo(5ers 

and Housing Asststance Grants - Direct loans up to $20,000 to support the construction, acquisition, and rehabilitation of 

and, for very low-income elderly hO,meowners only, grants up 

to $7,500, for housing repairs and Improvements (Funding in 

FY 2012: $39.5 million) 

• Section 523 Mutual and Self-Help Grant - Grant fUfldlng for 

locaJ providers to, deliver technical assistance to groups of 

low~ and very-low 

To be eligible for a USDA housing program, the beneficiary 

of the program must live in a rural area, which includes for 

purposes of these programs: 

Any open country, or any place, town, village, or city which 

is not part of or associated with an urban area and which 

(1) Has a population not in excess of 2,500 inhabitants, or 

(2) Has a population in excess of 2,500 but not in excess of 

10,000 if it is rural in character, or 

(3) Has a population in excess of 10,000 but not in excess 

of 20,000, and (A) is not contained within a standard 

metropolitan statistical area, and (8) has a serious lack of 

Othe.r programs 

• Section 514 and 516 Farm Labor Housing Loansantl Grants 

- Loans and grants to farm,owners, nonplOfit'organizations, 

and others to ouy, buHd, improve, or repair housing for farm 

laborers '(Funding in FY 2012: $27.9 m{lJionJ 

mortgage credit for lower and moderate income families, as 

determined by the Secretaries of Agriculture and HUD.·" 

This definition of "rural area" encompasses approXimately 

109 million individuals, or 34 percent of the U.S. 

population.:' ,~. 

USDA programs have proven cost-effective and efficient 

at serving some of the nation's most vulnerable rural 

households, and support for and preservation of these 

programs must be given priority attention. For example, in 

FY 2012 the total cost to the federal government of enabling 

a low-income rural family to become a homeowner through 

the Section 502 Direct Loan program was $7,200 over the 

life of the loan. ," , Likewise, the annual Section 521 Rental 
257 


80871.210

Assistance for households living in Section 515 Rural Rental 

Housing was $4,400 in 2011,;" compared with $7,640 in 

the Housing Choice Voucher program.;~ In 2011, USDA 

housing programs helped nearly 140,000 rural families 

become homeowners and assisted in meeting the rental 

housing needs of un additional 470,000 individuals. The 

following recommendations aim to strengthen successful 

programs in a way that can serve a greuter number of the 

most vulnerable rural households. 

1. Support and strengthen USDA's role in rural housing 

USDA has a presence in rural communities that is critical 

for administering support to vulnerable households. While 

increased collaboration and efficiency across agencies is 

important, Congress should not pursue proposals to shift 

USDA programs to other government agencies where 

they will be absorbed by other federal programs.' USDA 

is well-positioned to leverage the existing resources and 

infrastructure of rural service providers that understand the 

unique conditions of local markets. 

2. Extend the current definition of rural areas through the 

year 2020. Any area currently classified as rural for the 

purposes of USDA housing programs should remain so 

at least until after the receipt of data from the decennial 

census in 2020, provided the area's population does not 

exceed 25,000. 

Without congressional action, hundreds of rural 

communities are at risk of losing eligibility for funding 

deSignated for rural areas. A change in the definition would 

sweep up many small towns and farming communities 

into larger metro areas, reducing the population eligible for 

rural housing assistance by roughly 8 percent. Extending 

the definition would help to ensure low-income rural 

families, elderly, and persons with disabilities living in these 

communities continue to access low-cost loans, grants, 

and other needed assistance, as well as provide certainty 

to housing developers on where they can build utilizing the 

resources of USDA rural housing programs. 

3. Increase budget altocations to selve more households. 

Today, USDA holds or guarantees 944,000 loans totaling 

$84.4 bHlion, or less than 1 percent of the $9.4 trillion in 

U.S. mortgage debt outstanding. Since 2007, however, 

USDA's loan volumes have tripled. In FY 2011, the 

department guaranteed $16.9 billion in loans and issued 

$1.1 billion in direct loans. ',' Many of these loans are 

securitized, and Ginnie Mae guarantees the timely payment 

of principal and interest on these securities. Additional 

funding for the Section 502 Direct Loan program would 

enable more rural households to become homeowners at 

relatively low cost to the federal government. However, any 

additional federal appropriations for the Section 502 Direct 

Loan program should be contingent on an evaluation of 

underwriting risks associated with the program, which for 

the past four years has carried delinquency rates hovering 

around 14 percent. :"<, Specifically, the program's current nodown-payment requirement should be reconsidered with a 

minimum down payment required on aU future loans. 

4. Dedicate resources for capacity-building and technology 

to strengthen USDA providers. A portion of the resources 

available for rural communities should be dedicated to 

providing technical assistance to nonprofit providers 

operating in rural communities, as well as to modernizing 

the technology that USDA providers use for loan processing, 

some of which is stiU done by hand. Specifically, local 

agencies receiving USDA funds should be incentivized 

to operate on compatible software to ease data and 

information sharing. These improvements could help USDA 

monitor and improve the performance of its rural housing 

programs. 
258 


80871.211
259 


80871.212

In 2011, the first members of the Baby Boom generation 

turned age 65. In the coming decades, milHons more Baby 

Boomers will enter their retirement years. As indicated in 

Chart 6-1, the number of Americans aged 65 or older wH! 

rise from 35 million in 2000 to nearly 73 million in 2030 and 

more than 90 mi!!ion in 2060. The very oldest Americans, 

those aged 85 and older, will increase in number from 4.2 

million in 2000 to nearly nine million in 2030 and then to 

182 million in 2060. At the same time, the ratio of workingage people to those who have reached retirement age will 

fall significantly.; . 

Char! UoSo Populo!ion Aged 65 and 

Numbers in thousands 

1000 000 

900000 

800 000 

70,000 

600 000 

500 000 

40 0 000 

300 000 

20 0 000 

100 000 

2000 2010 2020 2030 2040 2050 2060 

m65 years and older ~85 years and older 

These unprecedented demographic changes will have a 

profound impact on American society. Cultural attitudes 

about aging and the role of seniors in our communities 

are llkely to change. The graying of America, with fewer 

workers supporting more retirees, will striJin the budgets 

of already overburdened state and local governments. 

And, as America's senior population grows, we wi!! need to 

reexamine our housing priorities to determine how best to 

meet the needs of the overwhelming majority of seniors who 

wish to age in place. 

"Aging in place" is defined as "the ability to Ilve in one's 

own home and community safely, independently, and 

comfortiJbly, regardless of age, income, or ability leveL 

Studies show that some 70 percent of Americans aged 

65 and older live in single-family detached homes, and 

nearly 90 percent intend to age in place and remain in 

their homes permanently.;' 'For most seniors, the desire 

to age at home is the most cost-effective and financially 

sensible housing option, so long as their physical abilities 

allow. Understandably, seniors wish to remain linked to 

their famlly, friends, and communities, supported by the 

very connections that have given meaning to their lives and 

provide a sense of belonging, independence, and peace 

of mind. For the 30 percent of seniors who are renters and 

typically have lower incomes than homeowners, aging in 

place means the ability to achieve similar goals in their 

apartments. 

Yet, this strong desire to age in place runs into a harsh 

reality: Many of today's homes and neighborhoods were 

designed at an earlier time before the demographic changes 

now transforming the country were even recognized. For 

many seniors, their homes lack the necessary structural 

features and support systems that can make independent 

living into old Jge a viable, safe option. Similarly, many of 

our nation's communities fail to provide for adequate street 

lighting, accessible sidewalks and transportation options, 

and other services and amenities that would make aging in 

place in those communities a realistic choice. :'<.,' 
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80871.213

Chort 6~2: Projected Ratio of Working~Clge Americans (aged 

5.0 

4.0 

3.0 

2.0 

1.0 

64) to People Aged 65 and Older 

0.0 ~-~-·~-·-~--~~-·--~-~-·~·~·~---··~--~··~---~-~--T·-~·· .. ~ 

2015 2020 2025 2030 2035 

This new demographic reality demands that we think 

creatively about how the houses in which we !lve affect 

our health. longevity, and the cost of caring for an 

aging population. At every stage of life, our houses and 

apartments are both the shelter we seek for ourselves and 

our famlHes. and the platform from which we engage with 

nearly every other aspect of our lives. This is true to perhaps 

the greatest extent in promoting healthy independent lives 

for seniors. When we broaden our focus on housing's 

role in our lives--inc!uding as a vehicle for the delivery of 

Jower-cost and more effective health care for seniors-we 

can begin to think more strategically about how we make 

housing-related investments, taking into account the full lifecycle costs of both housing infrastructure and health care 

expenses. 

A key focus of this effort must be strengthening our nation's 

capacity to deliver health care and other critical services in 

residential and community-based settings. If implemented 

properly, these new approaches have the potential to 

empower our nation's seniors to make even greater 

2040 2045 2050 2055 2060 

contributions to society. And, as more seniors forego longterm care in costly institutionalized settings, they also have 

the potential to produce real long-term savings for cashstrapped governments at all levels. Studies of programs in 

Japan and the United Kingdom, for example, suggest that 

retrofitting existing properties to accommodate the needs 

of seniors could produce significant savings as the cost of 

medical care and other services is reduced. "Savings in the 

health care system can be used to support further extensions 

of these services and take advantage of the vi!iuous circle 

created by helping seniors remain in their homes. 

Modifying existing single-family houses, apartments, and 

communities~as well as designing new ones-to support 

aging in place for those millions of Baby Boomers now 

entering their retirement years must become a far greater 

national priority. 

Any discussion of modifying our homes and communities 

to accommodate the desire of seniors to age in place must 

take cost into account For some seniors and their families, 

personal savings and retirement earnings may be sufficient 

to finance home modifications. Reverse mortgages and 
261 


80871.214

Numerous private and public institutions have already begun 

to respond to the challenges posed by the graying ofthe 

population and the desire to age In place. Organizations such 

as the American Association ot Retired Persons (AARP), the 

National Association of Home BUilders, the American Institute 

of Architects, and the American Society of Interior Designers 

have all inltiated programs to educate professionals in their 

Nrltlonal Policy 

multifamily rental complex or a neighborhood populated with 

$ingle-f~mily homes whose residents are gmwing oldeL NORCs 

exist In central cities, in suburbs. and even In rural areas. The 

AARP estimates there are some 5,000 NORCs throughout the 

United States but cautions they are "the mosf dormant and 

overlooked form of senior housing,"'"' 

respective fields about relatively simple steps that can be taken Some states, Including 0eorgia, Maryland, Massachusetts, 

to transform an existing home into one that !s livable and safe 

for an elderly person. Beiter hOme lighting, use of contrasting 

benefiting from'the supportive services delivered th'rough these 

such as throw rugs and electrical cords are just some of communities. The federal government is also playing a role: The 

the suggestions that Can make a big difference In the living U.S. Department of tlea!th and Human Services (HHS), through 

conditions of seniors. These organizatIons al~o'emphasize the Its Administration on Aging, helps fund the development of 

principles to new home NORCs in some tvventy-fjve states,:s 

ho'using with supportive 

that will allow the home's initial owners to age in place if they A major goal ,of thiS 

State 8nd focal governments are also beginning to respond 

to the chalfenge. AI! across the country, neighborhoods are 

naturally being transformed into concentrated pockets of older 

place and more deiiberately Integrate seniors Into community 

life, ~ey elements of this approach indude ensuring senior~ 

friendly transportat10n options and land-!)se planning., States 

and North Carolina are 

residents who are agmg lifetime" programs and in place, There IS eVBn a name for these actively promoting O<t:ommoMreetor 

neighborhoods; Naturally Occurring Retirement Communities, 

or NORCs. A NORC can ta~e a variety of forms, 11 can a large 

home equity lines of credit offer other financing options, 

particularly for seniors with little or no outstanding mortgage 

obllgations. State and local tax benefits and grant programs 

may provide additional help. But for many seniors, 

whose earnings have fallen dramatically since leaving the 

workforce, financing options are more limited. In fact, 9.5 

million households headed by someone over the age of 65 

spend more than 30 percent of their income on mortgage 

or rental costs, leaving little left over to cover the cost of 

even basic maintenance that can greatly impact safety in 

the home. Even worse, some 5.1 million senior households 

spend more than half their income to cover housing costs. 1 " 

These households may be forced to make difficult choices 

between covering housing costs and purchasing needed 

medication or nutritious food. 
262 


80871.215

In Frontwr III H()U:',!f1i,~ 

Affordable rental housing can also be a platform for 

delivering services that enable aging in place, often 

averting high~cost institutional care. For example, Stewards 

of Affordable Housing for the Future, LeadingAge, and 

Enterprise Community Partners, with their nonprofit 

members, have done pioneering work to develop strategies 

that link senior housing with health care and supportive 

services. Innovative providers are not only working with 

traditional fee-for-services approaches and waiver-enabled 

programs, but also sorting out how they could work 

effectively with the accountable care organizations and 

managed care entities that are increasingly serving the 

low-income elderly. Mu!ti~state providers such as National 

Church Residences and Mercy Housing, and smaller scale 

organizations such as the Cathedral Square Corporation in 

Vermont and Sanborn Place in Massachusetts, are using 

residential solutions to achieve the triple aim of improving 

health, improving the experience of those who are served 

and reducing the per capita cost of health care. These ' 

strategies have the potential to enable low-income seniors 

to remain in their apartments and communities and to 

enhance care and coordination for the high~cost population 

eligible for both Medicare and Medicaid. 

Finally, there is a group of older Americans for whom there 

are much more basic problems of affordability. While Social 

Security has made dire poverty among older Americans a 

less common phenomenon than it would otherwise be, it 

has not eliminated it entirely. The commission's proposal 

for long-term rental assistance for the most vulnerable 

Americans with incomes at or below 30 percent of AMI 

would provide a solid floor, ensuring that those older 

households with the lowest incomes would at least have 

their basic housing needs met, and providing a foundation 

for some of the other improvements discussed above. See 

Chapter 4, Affordable Rental Housing. 

The federa! response to meeting the housing needs of 

low-income seniors historically has focused on construction 

and rehabilitation programs to produce or preserve housing 

either designated for seniors or that increasingly over time 

has come to serVe seniors who have aged in place. The 

Section 202 Supportive Housing for the Elderly Program 

is designed exclusively to meet the needs of low-income 

seniors, and has taken severa! forms since 1959 However 

funding for new Section 202 housing has been v~ry limited 

since the early 1980s. In recent years, there were ten 

applicants on the waiting list for every unit that becomes 

available annually. ,-, Most seniors in HUD-subsidized 

housing live in public or privately owned assisted housing 

that, in general, was not designed to house this increasingly 

frail population. 

other HUD programs that provide assisted housing to lowincome seniors are the Section 221(d)(3) Below Market 

Interest Rate and Section 236 programs that offer mortgage 

subsidies and support properties specifically dedicated to 

the elderly and date back to the 19605 and 19705. The 

project-based Section 8 housing programs, begun in 1974 

and ended as a new construction or rehabilitation progmm 

in 1983, as well as rural housing programs administered by 

USDA, also support projects that serve senior households.' 

Finally, some states allocate a share of their Low Income 

Housing Tax Credit financing for senior housing. According 

to some estimates, 14 percent of UHTC properties limit 

residency to tenants aged 55 or older. ,2' 
263 


80871.216

Table 6~ 1: Federal Rental Housing Programs 

Income Elderly HOlJseholds 

,OW' as the Community Development Block Grant and HOME 

Investment Partnerships programs, support multiple, and 

sometimes competing, housing priorities but could be used to 

help finance local aging-in-place initiatives. 

Housing Choice 

Vouchers 

USDA Section 

521 Rental 

Assistance 

Other HUD 

Programs 

19% 408.047 

59% 160,243 

25% 9.329 

In addition, HUD operates four supportive services programs 

for those seniors living in HUD-assisted properties. The 

Congregate HO!Jsing program, the Service Coordinator 

program, and the Resident Opportunity and Self~Sufficiency 

Service Coordinator program each oHer meals and other 

forms of assistance to help seniors with the activities of daily 

life. The Assisted Living Conversion program makes grants to 

H U D-assisted properties for purfXIses of converting some or 

all units into assisted living facilities.; : Other programs, such 

These efforls are all worthwhile, but except for the LlHTC 

program, none is producing new units. In addition, many of 

the remaining federaBy assisted units, especially in public 

housing, need modernization and rehabilitation. Moreover, 

aging senior properties typically house the oldest and frailest 

residents, yet they often lack the necessary features to meet 

these residents' needs, such as hand rails, barrier-free 

entrances, or roll-in showers. 

Many of the recommendations presented in Chapter 4, 

Affordable Rental Housing, will help to address these 

challenges. The following are some additional policy 

recommendations that can help provide a more dedicated 

focus on responding to the housing chaUenges of a growing 

senior population. 

L Bettercoordfnation of housfng and health care. HUD 

and HHS should jointly identify and remove barriers to the 

creative use of residential platforms for meeting the health 

and long-term care needs of low- and moderate-income 

senior residents and seniors who live in the surrounding 

community. HUD and HHS should encourage accountable 

care organizations, medical homes, federally qualified 

health centers, and other managed care entities to partner 

with housing providers to create more integrated systems 

of services to meet the needs of residents, enable them to 

age in place, and achieve cost savings for the Medicare 

and Medicaid programs. In evaluating the costs of housing 

programs that serve fmil seniors, Congress and the Office 

of Management and Budget should identify and take into 

account savings to the health care system made possible by 

the use of housing platforms with supportive services. 
264 


80871.217

Many public housing and multifamily assisted properties 

already provide services designed to help older adults and 

persons with disabilities live independent lives. Working in 

partnership with states and localities, nonprofit providers 

such as Mercy Housing and National Church Residences, 

have already made great strides in improving coordination of 

housing, health care, and supportive services for low-income 

seniors, including through co-location of housing with health 

care and fitness centers, social programming, and assisted 

living for residents who need a higher level of CLlre. At the 

state level, the Vermont Support and Services at Home 

(SASH) demonstration is another promising approach that 

bears close attention. The initiative uses multifamily assisted 

housing as a platform for providing integrated health services, 

with funding from Medicaid and Medicare. 2: As evaluation 

results come out in the coming years. the SASH program may 

serve as a model for similar programs in other stLltes. 

In states and localities that do not yet have an aging-inplace strategy, the proposed reforms to existing federal 

housing programs described in Chapter 4-particularly 

those related to the goal of enabling the elderly and persons 

with disabilities to live independent lives-will help providers 

measure the effectiveness of these services and encourage 

adoption of best practices to improve quality of life for 

assisted residents. 

2. Support initiatives to retrofit homes and apartments 

for energy conservation and aging in place. The Energy 

Department's Weatherization Assistance Program helps 

low-income families permanently reduce their energy 

bills by taking slmple steps to make their homes more 

energy efficient, such as sealing leaks around windows 

and doors and installing insulation. Under the program, 

the federal government provides funding to states and 

Indian tribal governments, which in turn support local 

community action agencies, nonprofit orgLlnizations, and 

local governments that provide weatherization services. 

The Energy Department estimates that the program has 

provided weatherization services to more than 6.4 million 

low-income households since inception, reducing annual 

energy bills for these households by an average of $437.·"; 

Weatherizing homes to reduce energy costs and improve 

living conditions and heLllth outcomes is an important 

element of any aging-in-place strategy.l~\ Funding for the 

program should continue and its scope expanded to include 

home assessments and modifications for aging in place. 

Energy conservation retrofits are equally important for senior 

Llpartments, Lllthough unique challenges in multifamily 

properties cal! for a different strategy.; -, Modest retrofits 

can prodllCe material energy and cost savings, especially 

in older buildings, and can be funded in large part with 

borrowed money thLlt is repaid from savings on utility costs. 

In subsidized properties, most of the eventual savings will 

flow to the federal government. Working with Llffordable 

housing providers, technology firms, and others, HUD has 

already started to explore approaches to jump-starting these 

approaches ',,' and should continue work to take them to 

scale. 

3. Better integration of aging-In-place priorities into existing 

federal programs. Existing housing programs such as the 

Community Development Block Grant (CDBG) and the HOME 

Investment Partnerships programs should place greater 

emphasis on sup~rting !ocal aging-in~place strategies. 

Many states and communities already use a portion of 

these flexible funds on senior households-for example, by 

allocating CDBG funds to local Area Agencies on Aging and 

other community groups to offer home rehab services for 

low-income homeowners aged 62 and older or to provide in~ 

home services~but there is room for even further support for 

aging-in-place priorities. in addition, the federal Partnership 

for Sustainable Communities-a collaborative project of 

HUD. the U.S. Department of Transportation (OOT), and the 

U.S. Environmenta! Protection Agency-should reinforce the 

importance of affordable senior housing and senior-friendly 

transportation planning in its outreach, education, and 
265 


80871.218

grant~maklng activities. Policy makers should also consider 

integrating aging-in-place priorities into a broader range 

of federal programs, such as programs under the Older 

Americans Act and the federal transportation reauthorization. 

4. Reverse mortgages and other home equity access 

products. For seniors who have spent a lifetime making 

mortgage payments, their home is typically their most 

valuable asset. In 2009, for example, half of homeowners 

aged 62 and older had at least 55 percent of their net worth 

tied up in home equity .. 'S Currently, reverse mortgages 

are the main option for homeowners to tap into this equity 

to fund retirement needs and to support their desire to 

age in place. However, in a recent report to Congress, the 

Consumer Financial Protection Bureau concluded that 

few consumers fully understood the financial mechanics 

of these loans and that the increasingly complex product 

choices in the reverse mortgage market were making it 

much more difficult for housing counselors to provide 

effective guidance to their clients. :,',' 

With limited retirement savings among some aging Baby 

Boomers, and a shrinking social safety net, consumer 

interest in this type of mortgage product is hkely to 

increase significantly, and it will be imperative that older 

homeowners have access to low-cost and effective reverse 

mortgage counseling so they can learn about the risks and 

potential benefits of these mortgage products before they 

face a financial crisis. Congress should also promote the 

development of alternative, low-cost home equity access 

products, particularly for seniors and family caregivers who 

face substantial out-of-pocket long-term care expenses. 

In December 2012, FHA, which currently insures virtually 

all reverse mortgages through its Home Equity Conversion 

Mortgage (HECM) program, announced a moratorium 

on a popular lump-sum reverse mortgage option, due to 

disproportionately large losses to the FHA's insurance fund 

stemming from the program. Looking ahead, other FHAinsured reverse mortgage products will continue to be 

DlreCfll.ms 

available, although they may be more difficult to obtain as 

the FHA makes further changes to its loan programs, Efforts 

to develop safe new home equity products would help to 

ensure the effective use and orderly draw-down of this 

valuable asset to manage financial risk in retirement. 

5. Convene a White House conference on aging in place. 

The White House Conference on Aging is a once-in-adecade conference sponsored by the Executive Office of 

the President. The first such conference was held in 1961 

and the last in 2005. To draw national attention to the issue 

of senior housing and provide a high-level forum for the 

sharing of ideas and best practices, the President should 

convene a White House Conference on Aging with a focus 

on aging in place. Participants in this conference should 

include representatives of all levels of government~mayors, 

county executives, governors, as well as top federal officials 

such as the secretaries of HUD, HHS, DOT, USDA, and the 

VA. Other participants should include housing practitioners, 

community planners, and health care providers from across 

the country with substantial experience serving the needs 

of the elderly, and representatives of the homebuilding, 

architecture, remodeling, and interior design industries. 

In advance of the conference, HUD should convene a series 

of meetings with members of the housing community to 

share best practices and identify innovative private-sector 

solutions that could be brought to scale. These innovations 

include prototype homes, new appliances and accessories, 

and creative market options such as co-housing and live! 

work flex housing that allows seniors to continue to pursue 

careers while working at home. Moreover, these meetings 

should highlight innovative efforts to weave together 

community services in support of the elderly, such as 

the Virtual Village-to-Village Network. To ensure broad 

dissemination of this information, HUD should develop 

a publicly available catalogue of best practices related to 

accessible home modification and new construction and 

home assessment tools. 
266 


80871.219
267 


80871.220

Our nation's housing system is broken. Homeownership 

remains out of reach for far too many families who stand 

prepared to assume its financial and other obligations, while 

limited access to affordable mortgage credit impedes our 

nation's economic recovery and future grmvth. The country's 

lowest+income households continue to suffer under the 

crushing burden of high rental housing costs that are rising 

even more as rental demand increases. And we are not 

equipped to respond to the desires of millions of Americans 

who wish to stay in their own homes and age in place during 

their senior years. 

The commission hopes that this report provides some 

valuable guidance on how best to respond to these 

challenges and will serve as a catalyst for action. This report 

has proposed: 

• A responsible, sustainable approach to homeownership 

that will help ensure that all creditworthy households have 

access to homeownership and its considerable benefits. 

• A reformed system of housing finance in which the 

private sector plays a far more prominent role in bearing 

credit risk while promoting a greater diversity of funding 

sources available for mortgage financing. 

• A more targeted approach to providing rental assistance 

that would direct scarce resources to the lowest-income 

renters while insisting on a high level of performance by 

housing providers. 

• A more comprehensive focus on meeting the housing 

needs of our nation's seniors that responds to their 

desire to age in place and recognizes the importance of 

integrating housing with health care and other services. 

The problems we face in housing are so significant and so 

urgent today that inaction is no longer a viable option. in 

responding to these problems, we have an opportunity to 

improve the lives of millions and make America a stronger 

and more economically vibrant country, today and well into 

the future. It is therefore the commission's hope that 2013 

wi!! be the year that Congress and the administration finally 

elevate housing to the top of the national policy agenda 

and give housing the dedicated attention it deserves. The 

commission's 21 members, Democrats and Republicans, 

stand ready to help in this effort . 
268 


80871.221
269 


80871.222

The Bipartisan Policy Center (BPC) Housing Commission 

in partnership with the Jack Kemp Foundation hosted four 

regional forums to solicit input on key housing issues and 

best practices from stakeholders across the country. Publlc 

input was an integral part of the commission's process to 

craft a package of realistic and actionable recommendations 

for improving the nation's housing policy. All forums were 

open to the public and available by live webcast 

• San Antonio, Texas·- March 6, 2012 

• Orlando, Florida - April!?, 20!2 

• SL Louis, Missouri - June 5, 2012 

• Bar Harbor, Maine -July 25, 2012 

Four research papers were prepared by consultants to the 

BPC as background for the deliberations of the commission. 

These papers were presented and discussed during the 

regional forums, and made available to the public on the 

BPC website, www.bipartisanpoHcy.org/housing. 

• Demographic Challenges and Opportunities for US. 

Housing Markets 

By Rolf Pendall, Lesley Freiman, Dowell Myers, and 

Selma Hepp 

• A Comparative Context for US. Housing Policy: Housing 

Markets and the Financial Crisis in Europe. Asia, and 

Beyond 

By Ashok Bardhan, Robert Edelstein, and Cynthia Kroll 

• Housing Programs in the United States: Responding to 

Current and Future Challenges 

By Diane Levy, Rolf Pendall, Marty Abravanel, and 

Jennifer Biess 

• The State of the Residential Construction Industry 

By Carlos Martin and Stephen Whitlow 

a 

Additional research and analysis was conducted to inform 

the commission's deliberations, including contributions by 

Norman K. Carleton, former Director, Office of Federal Finance 

Polley Analysis, U.S. Department of Treasury; Robert D. Dietz, 

Assistant Vice President, Tax and Policy Issues, Economics 

and Housing Policy, National Association of Home Builders; 

Richard K. Green, Professor, Director and Chair of the USC 

Lusk Center for Rea! Estate; Ann B< Schnare, Principal, AB 

Schnare Associates, LLC; Kristin Siglin. Vice President-Policy, 

Housing Partnership Network; Eric Toder, Institute Fellow. 

Urban Institute and Co-director, Urban-Brookings Tax Policy 

Center; and Paul Weech, Executive Vice PreSident-Policy and 

Member Engagement, Housing Partnership NetvYork. 

Key partners who assisted the commission with roundtable 

discussions include Vicki Been, Boxer Family Professor of Law 

at New York University School of Law, Associate Professor of 

Public Policy at NYU's Robert F, Wagner Graduate School of 

Public Service, and Director of the Furman Center at NYU; 

Mark Willis, Resident Research Fellow, the Furman Center at 

NYU; Janis Bawdier, Director, Wealth-Building Policy Project, 

National Council of La Raza; Marcie Chavez, Vice President, 

Community Development CommissionlHousing Authority of the 

County of Los Angeles; Terry Gonzalez, Director, Community 

Development Block Grant Division and Intergovernmental 

Relations, CDC/HACLA; Sean Rogan, Executive Director, CDC/ 

HAC LA; Elisa Vasquez, Intergovernmental Relations/Public 

Information, CDClHACLA; Eve OToole, Senior Policy Advisor, 

Holland & Knight; Daniel D. Clute, Senior Vice President, 

Federal Home Loan Bank of Des Moines; Curt Heidt. Vice 

President, External Relations. Federal Home Loan Bank of Des 

Moines; Gary Kain, President and Chief Investment Officer, 

American Capital AGNC Management, LLC and American 

Capital Mortgage MTGE Management, LLC; Sarah Mickelson, 

Policy Associate, Rapoza Associates; Robert A. Rapoza, 

President and Principal, Rapoza Associates; Mary White Vasys, 

President, Vasys Consulting Ltd.: and Susan M. Wachter, 

Richard B. Worley Professor of Financial Management, 

Professor of Real Estate and Finance, Co-Director - Institute 

for Urban Research, The Whalton Schoo!, University of 

Pennsylvania. 
270 


80871.223

COil1!llISSIOfl 

On a monthly basis, the commission collected responses to 

questions on pressing housing policy issues from experts 

across the industry. The expert responses were shared 

on the commission's website in an effort to help educate 

the public and policy makers, as well as to add to the 

commission's own research. 

Contributors included: 

• Angela AntoneUi, Former Chief Financial Officer (CFO), 

U.S. Department of Housing and Urban Development 

• Joseph N. Belden, Deputy Executive Director, 

Housing Assistance Council 

• Michael Bodaken, President, National Housing Trust 

• M<Jrk A. Calabria, Director of Financial Regulation 

Studies, Cato Institute 

• Robert J. CristJano, PreSident, LSS Investments LLC 

• Conrad Egan, Senior Advisor, Affordable Housing Institute 

• Eileen Fitzgerald, CEO, NeighborWorks America 

Kevin Igoe, Owner, IGOEIAssociates 

Bill Kelly, President & Co-Founder, 

Stewards of Affordable Housing for the Future 

• James Kemp, President, Jack Kemp Foundation 

• Jeffrey Lubell, Executive Director, 

Center for Housing Policy 

Lora McCray, Manager, Housing Opportunity, 

National Association of Realtors 

Brian Montgomery, Chairman, 

The Collingwood Group 

• Jeremy Nowak, former President and CEO, 

William Penn Foundation 

• Jonathan T.M. Reckford, Chief Executive Officer, 

Habitat for Humanity International 

Barry Rutenberg, Immediate Past Chairman, 

NatJonal Association of Home Builders 

Barbara Sard, Vice President for Housing Policy, 

Center on Budget and Policy Priorities 

• Dennis She<J, Founder and Principal, 

Shea Public Strategies, LLC 

• David A. Smith, Founder and Chairman, 

Recap Rea! Estate Advisors 

• Ali Solis, Senior Vice President, Publlc Policy and 

Corporate Affairs, Enterprise Community Partners 

• Frank J. Vaccarella, President, 

Vaccarella & Associates, Consulting, LLP 

• Joseph M. Ventrone, Vice President, Regulatory and 

industry Relations, National Association of Realtors 

• Kent Watkins, Chairman, N<Jtionai Academy of Housing 

and Sustainable Development 

• Paul S. Willen, Senior Economist and Policy Advisor, 

Federal Reserve Bank of Boston 

The commission's website provided a platform for the 

commission to discuss its work, as weI! as for housing 

leaders to gain insight into the issues the commission 

considered throughout its year of deliberation. Some of the 

features of the website, www.bipartisanpolicy.org/housing, 

include: 

Housing by the Numbers: an interactive dashboard of key 

housing market indicators. 

• !nfographics: visual representations and explanations of 

trends that affect housing policy. 

o Household Formation and Demographic Trends 

o Housing's Impact on the Economy 

o Rental Housing Market Trends 
271 


80871.224

• What We're Reading: a review of top news stories that 

address critical developments in housing policy. 

• Housing Visualized: a compilation of useful graphic and 

multimedia resources that explain economic indicators 

and statistical trends. 

• Commission in the News: an aggregator of news articles 

and multimedia featuring commission members. 

The full commission met regularly throughout the past 

year. In addition to these meetings, smaller groups 

of commissioners met frequently to focus on specific 

topics, such as single-family finance, multifamily finance, 

affordable rental housing, and homeownership. Full 

commission meeting dates were as follows: 

• December 14/15, 2011 

• February 13/14, 2012 

• May 14/15, 2012 

• July 25/26, 2012 

• October 16, 2012 

• November 27/28, 2012 

• January 10, 2013 

The commission he!d a number of roundtable discussions 

with practitioners in various areas of the housing 

field to solicit ideas about the appropriate role of the 

federal government in the housing sector, the need for 

reforming specific hOUSing-related programs and funding 

mechanisms, as well as to get preliminary reactions to the 

commission's proposals. These gatherings throughout the 

past year were as follows: 

Roundtable on Affordable Rental Housing ~ February 3, 

2012 

Roundtable on Affordable Rental Housing - February 

10, 2012 

Roundtable on Affordable Rental Housing - April 2, 

2012 

Capital Markets ~ April 4, 2012 

• Community Lending Roundtable - June 4, 2012 

Multifamily Housing Finance Industry RoundtableJune 11, 2012 

Addressing Challenges in the Small Rental Stock, in 

partnership with the John D. and Catherine 1. MacArthur 

Foundation - August 14, 2012 

Roundtable Discussion on Section 8 - August 17, 2012 

Obstacles, Costs, and Opportunities for Bringing More 

Private, Credit Risk-taking Capita! into the Housing 

Market, in partnership with the Furman Center at NYU 

September 19, 2012 

• Accessibility and Affordability in the Mortgage Market, 

in partnership with the National Council of La Raza 

September 25, 2012 

Positioning the Federal Role in the Future U.S. 

Multifamily Housing Finance System, in partnership 

with the Wharton SchooL University of Pennsylvania 

September 27, 2012 

Housing Commission Discussion with Rural Housing 

Providers ~ October 18, 2012 

Housing Commission Discussion with Community 

Development Commission/Housing Authority of the 

County of Los Angeles - December 3,2012 
272 


80871.225
273 


80871.226

2. National BUrBilu of Economic Research. 'US Business C1cie Expansion and 

ContrJctIOI1S,' September 20. 2010 

4. 

5. 

Markets, 19 

15. Pendall. et ,11 DemographiC Challenges an(1 Opoortunilles for U.S. Housmg 

Milrkels.13 

16 Ibid 

Ibid 

18 JCHS. Ttw Stale Of the N"tlOn's Housing. 2012, Lj 

19 

20 JCHS, TheStilteoftheNat!Ot)·sHousing.201}.4 

21. Ibid 
274 


80871.227

E1Hlnotes 

43 

44 

45 

354·84. 

46. 

47 

48 

DC. United St~tes Government Printing Office, 2011) 

.'52. Becerra. Tile 2011 State of HISPDilIC Homeownershlp Report. 5 

Amencan Community Survey. i-Year (stlmCltes, Tenure (U.S. Census B.ureau, 

2006 and ZOlil 

54. Pendall, el al , DemograolJic ChaJlenges anc1 OPPOItulli/les for U.S. Housrng 

M"rkets,lG 

mg(CJmbfldge, MA. JCHS. 2001), 2 

2011) 
275 


80871.228

72. 

73. 

74 

76. 

Pragress.2010). 

Al1lndepel1de'lIJudltrele~sed III November 2012 found that for tile flfst lime in 

a 30-year period) bJck to tile stJtuiOrl1y required lel'el 

If the prlvatecredltenhal1cer become5lnsolvent~nd IS un,lbieto rlmnburse 

servlcef losses due to def~lIll, the Public GU<lfJntor will make those reimburse· 

Tor Poilcy 

78 

79 

81. These are Ihe praleded groups covered by the Fair HOUSlllg Act, as amended. 

Accollnt~billty Office. 2012). 

85 JCHS, The State of the Nation's Housing. 2012 (Cambndge, MA. 2012), 23·24 

86 Ibid 

87. 

88 

Il9 

CMBSprogrJm. 
276 


80871.229

EJ1(inotps 

99 

guarantee 

100 

JOl 

102 

J03 

J04 

lOG 
277 


80871.230

HousinG AmH"!C,,,'S New Naliofldl 

110. 

(JdJusledforll1flat:on) 

111 

112. LJWfenCe L. ThomDson, A History of HUD (Washington, DC, 2006), 4. 

113. Thompsol1, A History of HUD, 4-5 

114. )::;~:~;~:;~;~~;:;~;~;~~~;:~~~:;):~ 

115. 

116. 

117. 

118 

119. 

120 

121 

26, riO. 2 (1998), 207-232. 

CohnRezl1lckLLC.201l) 

126 
278 


80871.231

137 

138 

143. 

144 

145 

146 

154 HAC, HOUSlllg In RlIr,,: AITler'"Q (Washington, DC: 2010), 

155 HAC, T,)krng Stork, 36-37 

160 J~nll<lry 29, 2013 ern<lil cornmunlult!on with Donn Applem<ln, U.S. Depilrtm«nt 

of Agncultural Development- RurJIDeveiopment. 
279 


80871.232

New for Ndtiond! POliCY 

178. 

179 

180. 

183. 

184 Keith W'mlnp. Str;;lteg!es to Meetmg the HOI.Nng Needs of Older Adults, 3·4. 

lG5 

GAO·1O-604 {W~shlngton, DC. 2010).121 

185. 

176. Farber, NICi1oiJs, et al , Agmg 111 Ploce. A Sidte Surveyor LW.10ility Policies and 187. Consumer FmJllciJ! Protection BLJreau. R:3verse Mortgages. Report to Congress 

(Wasilington. DC. 2012). 5 

177 1GB. Consumer FinzmclJI Pro\E'ct!on Bureau. Rf!'versf!' Mo~,gogf's. ReDortto Congrpss 

(Wilshington, DC. 2012), 111 
280 


80871.233

IIPAU,SA N POLlnCENTll 

12?-'!,._"" __ 100:> 

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o 

founded in 'XrJ7 by Ion"". Senate 

Majeo"iIy leOOefs Howard Bal<er, Tom 

~hIe, Sob Dole and Gootee ~~hel 

!he Bipartisan PoKy Cenlu (SPC) is 

a non-PI'ofit orpnizatiOn ItIat dfilies 

pOoctpIed wIuIions Itlrough fi&OtOUS 

aoal)sis, .-..d neaoIiMKln al'ld 

,espectIuI d~ Wl\II ~ '" 

mulip/e issue ........ apc combine$ 

poIi!k:afy bafaoced ~ wIIh 

Sl1one, ptoaclMl 00v0cacy and 0U1read\. 

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