Professional Documents
Culture Documents
Joshua Rosner
646/652-6207
jrosner@graham-fisher.com
Twitter: @JoshRosner
What is Wrong with the Parrott, Ranieri, Sperling, Zandi and Zigas Reform
Proposal? Everything.
The primary goal of any secondary mortgage market system should be to ensure that, in
adverse economic environments, it can provide liquidity to the primary market in support
of borrowers. If a proposed system results in increased government exposure, or an
inability to fund itself in bad economic environments, then the proposal has failed to meet
its most basic purpose and should be dismissed.
Such a proposal is that put forth by Parrott, Ranieri, Sperling, Zandi and Zigas. It would
place the GSEs support for affordable housing at unprecedented risk, disproportionately
benefit Wall Street TBTF banks over smaller independent and community banks and
increase taxpayer exposures, recreating a model of private gains and public losses that
would significantly increase the federal budget. Finally, the proposal would require new
and comprehensive GSE reform legislation that is highly unlikely to pass.
Oddly, the authors compare their flawed concept to the national highway system, in
which a wider range of commerce is able to move freely across the country because of
the governments stewardship of the infrastructure. This is a false analogy. The highway
system is directly funded by governments, its operating costs dont rise in bad times, it
does not provide unequal access, and recessions do not impact its maintenance costs.
Moreover, there is no risk of highways shutting down during recessions.
A more appropriate design for GSE reform would follow that of the vastly
overcapitalized electric, water, sewer and gas utilities which, because of their social
mission and high operating costs are granted quasi-monopoly status in return for highly
regulated oversight and regulated returns on capital. Utility failures are rare and even in
recession homeowners and renters can turn on the lights and expect them to work.
My proposali solves for each of these issues in a rational way that reduces TBTF risk;
avoids disproportionately benefitting Wall Street; is far less costly, reduces transition risk
and avoids the need for controversial legislation.
AFFORDABLE HOUSING
Although the authors claim that the new NMRC would have the same obligations to
support affordable housing that the GSEs haveii they also state, The NMRC will
purchase, pool and securitize only those loans that meet the Consumer Financial
Protection Bureaus definition of a Qualified Mortgage (QM), and have a dollar
amount no greater than a limit to be determined by FHFA. QM loans have several
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since the crisis, regulatory capture by the largest firms is real and, in this case, the largest
firms would inevitably yield more power over the regulator as they are more effective at
lobbying and have deeper pockets.
COST, TRANSITION RISK AND TAXPAYER EXPOSURE
Like the Corker-Warner and Crapo-Johnson plans before it, the PRSZZ proposal fails to
assess the costs of the transition from the GSE model to their own. As we have
previously pointed out they they fail to consider the need for the NMRC to hold any
regulatory capital.viii More disconcerting and costly is the reality that their approach
would lead to private capital proactively withdrawing from the market at the first hint of
problems and place more risk on the public. This demonstrates both a lack of
understanding of capital market behavior and the increased public costs that would result.
It also recreates an unacceptable model of private gains and public losses.
The goal of the PRSZZ plan recognizes that rather than winding the current system
down and starting largely from scratch, we would merely accelerate the steps that FHFA
already has under way to synchronize and de-risk the current GSEs, which would then
form the structure for the government corporation to replace them. This may sound
workable but it is not. It ignores that the GSEs continue to have debt-holders, preferred
and equity holders who would need to be remunerated. Calculating these costs and
apportioning the claims would be a costly, lengthy and complicated process, requiring the
appointment of a trustee or receiver, and also creating significant new risks that many
more lawsuits by those investors will be filed. During this period of uncertainty the GSEs
would continue to lose key personnel and risk an acceleration of those departures as a
result of employees going from a market based compansation structure to a government
pay scale.ix
In considering the impact of moving the new corporations onto the government budget
the authors ignore that the costs will rise dramatically in bad economic times even if the
government is eventually able to recoup its outlays.x While the authors agree that the debt
issued to support the portfolio of the NewCo would count toward the Treasurys debt
limitxi they fail to acknowledge that it would be politically impossible to sell that idea to
Republicans. Placing another $5 trillion of debt on the government debt limits is
politically unworkable, even if only on a temporary basis. Furthermore, in supporting
claims that the impact of moving the federal governments backstop onto the budget
would be modest, PRSZZ is forced to rely on accounting machinations.xii
LEGISLATION WOULD BE REQUIRED
A significant criticism of the GSEs business model and their increasing instability,
between 1995 and the crisis, was their ability to influence legislators and capture
regulators in an effort to expand their business without adequate consideration of credit,
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i
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Companies Outline Concerns on Senate Bill to Replace Them, Nick Timiraos, Wall
Street Journal, April 25, 2014, (See: Related Documents - Fannie Memo 1) available at
http://online.wsj.com/public/resources/documents/042514FannieAddendum.pdf
iv
Promising Road (See: The key function of the secondary mortgage market, namely
the taking of interest rate and credit risk, would be handled by the private sector.)
v
(See: NMRCs g-fee will vary depending on the cost of private capital, which in turn
will fluctuate with the perceived risk in the market. Mortgage rates will thus be lower in
the new system than in the current system in the good times and higher in the bad
times.)
vi
Promising Road (See: If the MIF is depleted during a crisis, the FHFA would have
the authority to make up any shortfalls in the fund by increasing gfees to a level greater
than that needed to cover the prevailing credit risk when economic conditions
normalize.)
vii
Promising Road (See: In normal times, we would expect lending backed by
portfolio lenders and private-label securities investors to serve the majority of the
nations mortgage needs, allowing the government-backed channel to retreat to a more
conservative role. It will only take on a larger role in the market if and as the purely
private lending channels dry up.)
viii
Promising Road (See: In a time of acute stress, these investors will either be
unwilling to provide capital at all or require such a high return that it would cause
guarantee fees and mortgage rates to spike, exacerbating the financial stress. To ensure
that this doesnt happen in the new system, the NMRC would have the flexibility to scale
back its risk transfers when private capitals required return rises above a pre-defined
threshold that defines a crisis)
ix
Promising Road (See: The uncertain impact that the transition to the proposed
system would have on employee retention is also an issue.... While there are no
limitations on employee compensation in a government corporation per se, Congress
would be unlikely to stand by silently if the NMRC paid its executives million dollar
salaries.)
x
Promising Road (See: Lastly, transitioning to this system would move the role of the
federal government in backstopping the market onto the federal budget. But the impact
would be modest, since the NMRC will set its gfee based on returns consistent with those
charged by private capital)
xi
Promising Road (See: The debt issued by NMRC to support its portfolio would
likely count towards the U.S. Treasurys statutory debt limit, although the impact on the
nations debt load would be inconsequential.)
xii
https://www.cbo.gov/sites/default/files/112th-congress-2011-2012/reports/06-02gses_testimony.pdf The practice of using different accounting methods for similar
federal obligations can cause confusion, make it difficult to accurately compare costs
between programs, and create an incentive to rely more on programs or activities that
have relatively low bud- getary costs even if their full costs to taxpayers are higher.
Providing an illustration, CBO recently compared the estimated cost of FHAs single-
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family mortgage insur- ance program on a FCRA versus a fair-value basis.5 The two
approaches yield very different estimates. Under the FCRA methodology, the FHA
program would produce budgetary savings of $4.4 billion in fiscal year 2012. On a fairvalue basis, in contrast, the program would have a cost of $3.5 billion in 2012. The
inconsistent treatment of the GSEs and FHA also implies that a mortgage that generates a
budgetary cost when it is guaranteed by Fannie Mae or Freddie Mac could show
budgetary savings if FHA provided the coverage instead.
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