There exists multiple proposals to ‘reform’ the US housing finance system. Most involve making a Federal government guarantee explicit. Fannie Mae and Freddie Mac did NOT have an explicit guarantee back in 2008, yet were still put into conservatorship by FHFA. So the term “implicit guarantee” simply means an “explicit guarantee” that hasn’t happened out.
We have no idea what will happen when FHFA Director Mel Watt’s term expires in December. Will the next FHFA Director take Fannie and Freddie out of conservatorship and put them back in the market? Or will the new FHFA Director run with the status quo (aka, permanent conservatorship)? Or will there finally get movement towards actual housing finance reform?
A typical housing finance proposal is the one by Jim Parrott, Lewis Ranieri, Gene Sperling, Mark M. Zandi and Barry Zigas entitled “A More Promising Road to GSE Reform: Access and Affordability.” Like other housing reform proposals, it is just the same thing wrapped in different color paper. Essentially they want to shut down Fannie Mae and Freddie Mac and open a government insurance corporation. This will require an explicit guarantee at taxpayer expense. Of course.
While it’s somewhat unclear how they will do what they propose, it reminds me a bit of the Options Clearing Corporation (OCC). The OCC clears all listed US equity and index options. It is owned by the options exchanges but capitalized by the clearing members (banks and broker/dealers), who also post risk-based margin on behalf of their customers. Default risk is mutualized among the members. While a few large firms dominate the risk (e.g., BAML, Goldman, Morgan Stanley), these same large members are posting the largest amount of risk-based margin and default-fund capital.
Mutualizing the risk of the GSEs is the key, just as is mutualizing the risk of the members of a central counterparty. I think the CCP model could work well for the GSEs and the lenders. No Federal guarantee, the lenders must eat the losses on what they produce.
Mutualization of Risk’ refers to dividing up the costs associated with risks and financial losses among several investors, businesses, organizations or people. Mutualizing risk lowers the overall potential for significant financial loss to any one entity.
Just leave the Federal government out of it.